Real Estate Holdbacks are mechanisms used when a seller, at the time of closing the transaction, still has outstanding contractual obligations to fulfill before the sale proceeds can be released.
Holdbacks commonly occur in real estate transactions and can be expressly drafted into the transaction agreement or can be negotiated by the parties, through their lawyers, as the transaction moves towards closing. A holdback is a monetary amount, set aside from the sale proceeds of the property, which is not released to the seller until the seller has completed certain outstanding contractual obligations. A holdback can be held by the buyer’s or seller’s lawyer, depending on the wording of the agreement.
Typical scenarios where holdbacks are used include:
- The seller is obligated, under the standard wording of a residential real estate agreement, to provide the buyer a Real Property Report with evidence of municipal compliance and at the closing/possession day they remain outstanding. In this scenario the lawyer for the buyer will review with the buyer the structures present on the property and will advise the buyer on their options: to delay the closing/possession until these documents are received and reviewed, or work towards a reasonable comprise with the seller’s lawyer to hold back some of the sale proceeds until this obligation has been complied with.
- The seller has agreed to contractual obligations to complete, repair, do or remove something on the property and a holdback of a certain value has been agreed to in advance in the agreement, pending completion of the specified action. The amount of the holdback is generally set to be proportionately related to the value of the outstanding obligation.
Although holdbacks are often effective in securing the seller’s cooperation (and motivation) to complete their outstanding obligations, holdback-related complications can arise, causing frustration and increased legal fees for both parties.
Typical scenarios where holdback-related complications arise include:
- The amount of the holdback is disproportionately small in relation to the outstanding contractual obligation(s) and does not provide a meaningful incentive for seller to do what they agreed to do.
- There is no deadline on the holdback for the seller to complete their obligations and/or no contingency terms allowing the buyer to make use of the holdback monies to complete the obligations if there is unreasonable delay by the seller. This potentially allows the seller to create an inordinate delay in satisfying their obligations, while the holdback money remains in the seller’s or buyer’s lawyer’s trust account for an extended period.
- The holdback agreement/term is poorly worded and the nature and scope of the seller’s obligation is open for interpretation and debate. This could lead to increased legal fees for both parties, as the buyer’s and seller’s lawyers debate the scope of the seller’s performance that would satisfy their obligation and make the holdback releasable.
For a holdback to work as smoothly and effectively as possible, we recommend keeping the following advice in mind:
- Holdbacks which are expressly written into the agreement are more likely to be accepted and performed by the seller, without issue;
- Holdbacks in the agreement should be detailed and express, especially with respect to the the nature of the seller’s obligation(s), deadlines and contingency terms;
- Holdbacks should be set to be proportionate to the value of the outstanding seller obligation, to increase the likelihood that the seller will be motivated by the holdback to complete their obligations;
- If a buyer, seller or their agents are uncertain of the correct wording of a holdback clause, contacting a lawyer early to seek assistance on drafting effective wording is recommended, to avoid complications later in the process, when the parties are bound by the wording of the agreement.
We welcome the opportunity to assist with drafting effective wording for holdback clauses and invite our clients and their agents to contact us to discuss these clauses in more detail, before the agreement is binding. Please contact our office at 780-469-0494 or email us directly at email@example.com for assistance.