You’ve found a piece of land that would be perfect for development, but you don’t want to commit to buy it until you have planning permission and funding in place. Or perhaps you have your eye on an adjoining property which the seller isn’t currently interested in disposing of but is happy to offer to you if he decides to sell in the future. How can you document these arrangements in a way which will be legally binding?

Options and pre-emption rights are both types of agreement that can be used when a landowner and potential buyer don’t want to transfer the land immediately, but they want to put in place a mechanism for doing so in the future. An option is a commitment to sell or buy the land, while a pre-emption agreement gives the buyer a right of first refusal.

For a developer these types of arrangement minimise risk – if it takes a long time to obtain planning consent, there is no risk that the seller will decide to sell to someone else, but their up-front expenditure is much lower. For the landowner, he receives an immediate payment which he can keep regardless of whether the sale subsequently goes through.

Options

There are two main types of option agreement: a call option (where the buyer can require the landowner to sell land to him) and a put option (where a landowner can require a buyer to purchase a piece of land). It is rare to see a stand-alone put option, but these are often combined with call options so that either party can require the other to complete the transaction, but neither are bound to do so if they both decide to walk away.

The following issues should to be considered when entering into an option:

Costs: option fee and price

The price payable is potentially one of the most contentious parts of the option agreement. Even if the parties agree how the price will be calculated, it is worth considering and documenting the following points:

  • How much is the buyer paying for the grant of the call option, or the seller for the grant of the put option? If there is both a put and call option are these given in consideration for each other (ie no fees payable)?
  • Is the final purchase price a fixed amount? If so, is this subject to indexation?
  • Is the final purchase price based on the market value of the property? If so, how will this be established? Will the parties first try to agree it between themselves?
  • Does the price include/exclude the benefit of any actual/assumed planning permission?
  • Who will carry out any valuation and will this be linked to any standards (for example the Red Book)?
  • Will there be any cap (maximum price) or collar (minimum price) set?
  • Should the amount the buyer has paid as an option fee be deducted from the final price?
  • Who will be responsible for the costs of completing the documentation?

Duration: the option period

An option does not need to be granted for a fixed period – it can potentially last forever. However, it will usually be time-limited as it is unlikely that either party will want to be bound indefinitely (though note that options granted prior to 6 April 2010 (when the Perpetuities and Accumulations Act 2009 came into force) are void if they are not exercised within 21 years).

  • During what period can the option be exercised? Is it exercisable immediately or only after a specified future date? What is the latest date it can be exercised?
  • If there is both a call option and a put option, do these operate at the same time or sequentially (eg can the seller only exercise the put option if the call option has lapsed)?
  • Can the option period be extended? If so, in what circumstances (eg during planning appeal)? What will the long-stop date be?

Land: what is included?

It is essential that the parties are clear as to exactly what is and is not included, particularly where it is split into several tranches.

  • Is there a detailed plan showing exactly what land is included?
  • If the land being sold is part of a larger site, what additional rights may the buyer need over the rest of the site and what rights may the seller need to reserve?
  • If the option can be exercised over different tranches of land at different times, are any mutual right and reservations required as between these tranches?

Landowner’s ability to deal with the land

A buyer won’t usually object to the landowner selling the property or granting a mortgage over it during the option period: as long as the option is registered, any mortgagee or buyer will take subject to the option. However, if the buyer is intending to redevelop or occupy the property he may want to restrict the grant of leases, easements and covenants. Note that if the agreement is silent on the point, the landowner can do whatever he wants with the land.

  • Does the buyer require a restriction on dealings with the land?
  • Is the landowner permitted to grant leases over the land? Does he require the buyer’s consent to do so?
  • If leases are permitted, are these subject to any particular requirements (eg leases are permitted if they are contracted out of the Landlord and Tenant Act and for no more than eg 5 years, or contain a landlord’s break right)?
  • Is the landowner permitted to grant easements over the land? Can he enter into covenants that bind the land? Can he enter into s106 agreements that bind the land?

Conditions and triggers

The exercise of the option may be made conditional on something else having happened. For example, it is common to make a call option subject to the buyer having first obtained planning permission.

  • Do any conditions need to have been met before the option may be exercised?
  • Will the buyer need access to the property prior to exercise of the option (eg to inspect or carry out tests)?

The parties should consider whether there are any circumstances in which the agreement should terminate early.

  • Will there be automatic triggers for termination (eg insolvency)?
  • Is it possible for one party to serve notice on the other to terminate early? If so on what grounds?
  • What will happen to any sum already paid in the event of early termination?

Unless the agreement specifies otherwise, the option agreement is freely assignable. If the parties would prefer that the agreement is personal only to the parties entering into it, this needs to be specified.

  • Is either party permitted to assign the benefit of the option agreement?

Where the land is subject to a mortgage, if the mortgagee is not aware of the option agreement there is a risk that the buyer will lose the benefit of the option as a sale by the mortgagee will over-reach the option (essentially meaning that the option falls away).

  • Are there any mortgages over the property?
  • If so, has consent been obtained or (less likely) will the mortgagee be party to the agreement?

Exercising the option

It is important that there is a clear mechanism in place so there is no dispute as to whether the option was correctly exercised.

  • What is the process for exercising the option?
  • Is there a prescribed form of notice? How must the notice be given (eg post, email)?
  • Is a deposit payable by the buyer when the notice is given?

A call option must be registered if it is to bind successors in title. If it is not registered, and the landowner then sells to a third party who pays for the land and is unaware of the option agreement, the new owner will not be bound by the option (though the landowner will still be liable under the terms of it). A put option does not create an interest in land and does not need to be registered.

There are two different way in which an option agreement in respect of registered land may be registered: an agreed notice or a unilateral notice. The advantage of an agreed notice from the buyer’s perspective is that it will not be removed unless the registrar is satisfied that the protected rights no longer exist. However, the option agreement must be sent to the Land Registry and will therefore be subject to public examination (unless an application – which may not be successful – is made to edit out sensitive information). If a unilateral notice is used, the agreement doesn’t have to be sent to the Land Registry, but the registered owner can ask for the notice to be removed and, if the option holder doesn’t respond within 14 days, the notice will be taken off the register. For unregistered land the option still needs to be registered but there is only one way in which this can be done (a caution against first registration and c(iv) land charge).

  • Will the buyer be permitted to use an agreed notice or only a unilateral notice (depends on confidentiality)?

Pre-emption agreements

Under a pre-emption agreement, the buyer has the right to be first in line to buy land if the landowner decides to sell during the pre-emption period. The following issues should to be considered:

Costs: pre-emption fee and price

As with options, the mechanism for establishing the price payable needs to be clearly defined.

  • How much is the buyer paying for the grant of the pre-emption right?
  • Will the seller specify the price payable in the offer to the buyer (with a restriction preventing him from then selling to someone else at a lower price)?
  • If not, how is the price calculated (same considerations as described above for options)?
  • Should the amount the buyer has paid as a pre-emption fee be deducted from the final price?
  • Who will be responsible for the costs of completing the documentation?

Duration: the pre-emption period

Like with an option, a pre-emption right does not need to be granted for a fixed period and can potentially last forever. However, it will often be time-limited to offer some certainty, particularly to the seller.

  • During what period does the pre-emption right apply? Does it kick in immediately or only after a specified future date? When does the right expire?

Land: what is included?

The agreement needs to be clear as to what land is subject to the right.

  • Is there a detailed plan showing exactly what land is included?
  • Can the seller offer to sell part only of the land? If so, do the permitted parts need to be defined?
  • If the seller sells part of the land, does the buyer’s right continue in respect of the remainder of the land?

The right of pre-emption will be triggered by the seller intending to make a disposal of the land. From the buyer’s perspective this needs to be widely drawn so as to ensure that the seller cannot use alternative transfer methods to get around the agreement.

  • Will the seller be free to offer to sell to the buyer at any time, or only after discussions with a third party?
  • Will the grant of a long lease at a premium trigger the right of pre-emption?
  • Will the grant of a rack-rent lease trigger the right (may be acceptable unless the buyer does not want to purchase subject to leases)?
  • Will giving the land as a gift, or entering into a land exchange, trigger the right?
  • Will starting to hold the land on trust for someone else trigger the right?

As with options, the parties should consider whether there are any circumstances in which the agreement should terminate early – the same considerations apply.

As with options, unless the agreement specifies otherwise, the agreement is freely assignable – the same considerations apply.

Exercising the pre-emption right

There needs to be a clear mechanism in place so there is no dispute as to whether the pre-emption was correctly exercised.

  • What must the seller include in the offer notice? Is there a prescribed form for this and how must it be given?
  • How does the buyer go about accepting the offer? Is there a set period in which this must be done? Must the acceptance notice be accompanied by the payment of the deposit? What are the consequences if the buyer accepts but fails to pay the deposit?
  • What happens if the buyer does not accept the offer? How quickly must the seller sell to a third party at the same or a higher price for the sale to be permitted?
  • Where the property is being offered for sale to a third party, does the buyer require evidence of the terms of this sale?
  • If the property is sold to someone else, is it intended that the pre-emption right will carry over or will it be extinguished?

A right of pre-emption should be registered so as to give notice to any potential transferees or tenants. If the right is not registered, and the landowner then sells to a third party who pays for the land and is unaware of the pre-emption agreement, the new owner will not be bound by this.

As for options, where the land is registered either an agreed or unilateral notice can be used, with the same advantages and disadvantages. For unregistered land a caution against first registration and c(iv) land charge should be used.

  • Will the buyer be permitted to use an agreed notice or only a unilateral notice?

Conclusion

Options and pre-emptions are very useful when you want to set up a mechanism now for the purchase of land in the future.