Binding and Non-Binding Letters of Intent for Contracts
Letters of intent are often used in complex and high-value business deals to establish preliminary commitments between all parties before a final contract is signed. LOIs may be necessary to prevent misunderstandings, speed up transactions, or enable the commitment of resources in the preliminary stages of a deal. For instance, an LOI for a large real estate deal might give a buyer the right to tour or occupy the property. However, the LOI might only allow visits to the property for due diligence purposes or restrict how the buyer can share information that is discovered.
Why Use a Letter of Intent?
In practice, LOIs are important for making a complex deal possible by enabling the sharing of information or the preliminary movement of resources. LOIs are especially advantageous in business negotiations because they can contain both binding and non-binding provisions. Binding provisions allow for the commitment of resources while non-binding provisions make it possible for parties to go into detail about how they intend to act.
It is crucial to keep in mind that non-binding LOIs can sometimes be binding if parties act in bad faith. Additionally, people who sign an LOI should be aware that non-binding LOIs can contain binding provisions. The way that LOIs are enforced also varies widely between states. There is significant legal complexity regarding how non-binding LOIs are enforced, so all parties in deals involving LOIs need to work closely with competent attorneys.
When Letters of Intent Are Used
LOIs are used for a wide range of business transactions. In some cases, LOIs are simply expected because they have become normal in similar transactions over time. In other cases, parties in a transaction may agree to use an LOI to clarify complex matters that are being negotiated. Overall, LOIs help to explain how a contract should be formed and enable preliminary steps in a deal to be completed.
Are Letters of Intent Legally Enforceable?
Although LOIs come before a final contract, they are fully enforceable legal agreements. Even non-binding provisions in an LOI can become enforceable if the wording of the agreement implies that it should be enforceable.
In many cases, LOIs can prevent buyers from backing out of a deal if they are unhappy about additional terms that are added on later. Additionally, many states have laws in place that make it legal for parties in a contract involving an LOI to act in bad faith. Therefore, it is crucial for all parties to have the competence and experience necessary to fully understand the implications of signing an LOI.
Transactions That Use LOIs
LOIs are the norm in a wide range of business deals. Although LOIs are not legally required, they are usually required in practice by both buyers and sellers in some types of transactions. Some of the transactions that most commonly use LOIs are explained in detail below.
Complex Real Estate Transactions
Real estate transactions are the most common and well-known use case for LOIs in today’s world. LOIs are usually expected in transactions involving real estate intended for commercial purposes, such as office buildings, apartment buildings, or development projects. In fact, bids and offers for substantial commercial real estate assets are usually expected to be submitted in the form of an LOI.
In large real estate transactions that require the use of an LOI, substantial negotiations and discussions usually take place before LOIs are submitted. Sellers usually have specific terms they are looking for in an LOI, and any buyer with a viable chance of winning a bid has to adapt their LOI to the seller’s requirements.
Business Mergers and Acquisitions
LOIs are also normal and expected in nearly all business mergers and acquisitions. In merger and acquisition deals, LOIs are often referred to as “term sheets,” but these documents are treated the same as LOIs by the courts.
Term sheets are usually expected to at least specify crucial elements of a prospective deal, such as price and intentions. LOIs are especially useful in mergers and acquisitions for defining the obligations of each party before a deal goes through. For instance, a term sheet might require existing business owners to share their knowledge of the business with the buyer in good faith.
Significant Business Contracts
Sometimes, business transactions that are large and complex require the use of an LOI to ensure that the initial stages of a business relationship proceed smoothly. For instance, if a multinational corporation was signing a deal for a new phone system at its call centers around the world, the deal could need an LOI to speed up the deal, clarify obligations during a trial period, and provide adequate time for contingent terms to be negotiated.
In general, LOIs are often needed when business deals are very complex, crucial for business operations, and worth a substantial amount of money. Of course, LOIs are not necessarily required or beneficial for all large business deals, but they can be customary or necessary in some types of transactions.
Non-Business Uses for LOIs
The submission of documents referred to as LOIs is often required when researchers seek funding from national governments or bureaucratic institutions. Some colleges also require LOIs when students are accepted under unique conditions, such as for student-athletes or students given special admissions exceptions.
Additionally, LOIs are often used within families when parents provide substantial funding to their children for starting a business or acquiring large assets. These LOIs are usually non-binding while including binding provisions for parents to recover a portion of their assets after a designated period of time or in the event of a serious breach of the agreement.
Creating a Letter of Intent
As mentioned earlier, it is crucial to work with a competent attorney when drafting an LOI. When you create an LOI, you have to carefully consider both the needs of other parties in the transaction and the legal implications of specific terms. Well-written LOIs can make a deal move forward smoothly while poorly worded or ambiguous LOIs can lead to other parties losing interest in doing a deal.
The bottom line is that businesses need to work closely with their attorneys when creating a letter of intent. At The Potts Law Firm, we have the experience and legal expertise necessary to create LOIs that are advantageous for our clients. Get in touch with the Potts Law Firm today to get the assistance you need for negotiating and drafting an LOI.