Creative real estate investors have used various forms of seller-financing — with much success — for many years.  Two of the most favored forms of seller-financing, in turn, have been the Residential Lease-Option and the Land Contract (also known as a “Contract for Deed”).

By way of review, a residential lease-option is simply a “regular” residential lease coupled with an option to purchase the leased property at some future time.  Typically, a portion of the rental/lease payments are credited toward the Tenant/Buyer’s down payment at purchase.

A Land Contract (aka: Contract for Deed) operates in somewhat similar fashion, except that the Buyer/Tenant has an actual ownership interest in the subject property.  But, unlike the usual real estate transaction, where title is conveyed to the Buyer at or near the time of purchase and the Buyer then makes loan payments to a Lender, title is not transferred to the Buyer under a Land Contract until after all the payments have been made under the contract.  Hence the name: Contract for Deed.

In many (perhaps most) states, Residential Lease-Options and Land Contracts are alive and well; but not in Texas, the execution capital of the United States.

Please don’t misunderstand.  We fully support capital punishment in appropriate cases.  But here, in the case of State of Texas v. Residential Lease-Option, we believe the defendant was wrongfully convicted.  The following is a brief summary of the case for the defense:

A few years ago, before 2005, a few Texas real estate investors were, shall we say, not displaying the best judgment and good manners, and used the Residential Lease-Options and Land Contracts in a manner that was perhaps technically legal, but shall we say, somewhat less than honorable.

In response, the Texas legislature passed the functional equivalent of a capital punishment statute for Texas Residential Lease-Options by imposing draconian requirements and restrictions on so-called “executory contracts.”

In order to accomplish its desired result, the Texas Legislature had to redefine the term “executory contract” as: “An option to purchase real property that includes or is combined or executed concurrently with a residential lease agreement, together with the lease, [of more than 180 days] is considered an executory contract for the conveyance of real property.”  Texas Property Code § 5.062(a)(2).  For the sake of some semblance of brevity, we’ll forgo a discussion of the poor drafting of the statute and move right along to a discussion of the substance of the statute.

Perhaps hinting that it knew it was playing “fast-and-loose” with the term “executory contract,” the Texas legislature said only that Residential Lease-Options — but not non-residential lease options or commercial lease options — will henceforth be “considered” to be “executory contracts.”

In other words, what the Texas legislature said is that: (1) residential leases ARE executory contracts, but they’re okay; (2) purchase options that do not include a residential lease ARE NOT executory contracts, and thus are okay; and that (3) purchase options which are combined with a residential lease ARE, henceforth, to be “considered” executory contracts, and thus NOT okay.

To better understand what’s going on here, we need to define the term “executory contract.”

According to Black’s Law Dictionary, an “executory contract” is “[a] contract that has not as yet been fully performed or completed. . . .  In the context of the Bankruptcy Code [issues regarding executory contracts historically have arisen more frequently in bankruptcy cases than in general civil litigation] an executory contract is a contract under which obligation of both [the] bankrupt and [the] other party to the contract are so far unperformed that failure of either to complete performance would constitute material breach. . . .”

The important piece of our “executory contract” puzzle is that for a contract to be “executory,” both parties must still have contractual obligations which have not yet been performed.  For example, in the case of a contract for the sale of a widget, if the seller gives the widget to the buyer, but the buyer doesn’t pay, the seller sues for breach of contract.  In the widget case, the contract has been fully performed by one party and breached by the other; it is no longer a contract that requires both to perform, in other words, it is no longer executory.

Now let’s define an “option.”

Black’s Law Dictionary defines an “option” as a: “Right of election to exercise a privilege. . . .  An option is an agreement which gives the optionee the power to accept an offer for a limited time.”

Because an optionee has “only” a contractual right under an option contract — and does not have any obligation or duty to perform — it simply is not possible for an optionee to breach an option contract by failing to exercise the option.

Because each party to a contract must be capable of breaching the contract in order for the contract to be executory, and because it is not possible for an optionee to breach an option contract, it must logically follow that option contracts are not — indeed, by definition cannot be — executory contracts.

Except in Texas, where option contracts that are combined with residential leases are now somehow magically transformed into executory contracts, simply because the Texas legislature, by creating a legal fiction, "considers" them to be executory.

The 2005 Texas “executory” contracts law did not, however, make residential lease options illegal, but it did impose so many requirements on those real estate contracts that are considered under the law to be “executory” that no prudent or reasonably cautious investor is likely to use (or continue using) such contracts.

Thus, Texas did not “execute” the Residential Lease Option or other residential real estate contracts that it considers to be “executory.”  But it did wrongfully “convict” these types of contracts based solely on the misdeeds of a very small minority of users.  An analogy many Texans are likely to understand would be for the government to restrict a certain type or class of firearm so severely that the practical effect of the restrictions would be to ban the particular type or class of firearm altogether, based solely on the misuse of it by a small number of miscreants.

We submit that legally-competent adult Texans, whether they be real estate investors or home buyers, should be free to enter into the real estate contracts of their choice and that restrictions to prevent abuse or over-reaching should be narrowly tailored so as not to unreasonably dissuade honest adults from entering into legitimate real estate contracts.

The defense in the case of State of Texas v. The Residential Lease-Option rests.

In most states, attorneys are not required to hold a real estate license in order to represent a client in a real estate transaction.  Real estate brokers and sales agents in general, and Multiple Listing Services (MLS) in particular, are typically not too pleased with this fact, for obvious reasons.

Texas takes the general rule of allowing attorneys to act as real estate brokers for their clients a step further: In Texas, an attorney may lawfully broker a real estate transaction for a non-client.  See, Texas Occupations Code § 1101.005(1) (Texas Real Estate License Act (RELA) does not apply to licensed attorneys); Banowsky v. Schultz, 05-14-01624 (Tex. App., 2016) (licensed attorney, being statutorily exempt from RELA, may collect a commission for brokering real estate transaction, even in the absence of an attorney-client relationship with party for whom the transaction was brokered).

Given that a person who is seeking professional assistance when buying or selling Texas real estate can choose between a Broker and an Attorney, let us take a look at what each of these professionals does best.

The primary function of a Broker (including Sales Agents who work under a Broker) is to bring real estate buyers and sellers together.  One need look no further than a Broker’s listing agreement to see that it is this “matchmaking” function that earns the Broker a commission.

The single most powerful tool that Brokers have to assist them in bringing buyers and sellers together is the local MLS.  Every MLS spends large amounts of money to collect real estate market data and make it available to MLS members.  Generically speaking, “the MLS” is the benchmark for real estate market data; all other sources of such data are measured against the MLS.  

Furthermore, every MLS jealously restricts data access to its member Brokers and Sales Agents, and usually charges its members hefty fees for the privilege of MLS access.

In order to get paid, after a Broker(s) brings a buyer and seller together, the Broker(s) has to close the deal.  To do this, Brokers handling residential transactions typically fill out standard real estate contract forms, get the needed signatures, and coordinate matters with the closing agent, usually a title company.

For residential transactions in Texas, Brokers are required to use a standard form of contract that is furnished by the Texas Real Estate Commission (TREC).

According to the TREC website, the educational requirements to become licensed as a Texas real estate sales agent (and work under a Broker), and thus to authorize one to use the TREC form when brokering residential real estate transactions for others, includes instruction in:

1.  Principles of Real Estate I (30 classroom hours);

2.  Principles of Real Estate II (30 classroom hours);

3.  Law of Agency (30 classroom hours);

4.  Law of Contracts (30 classroom hours);

5.  Promulgated Contracts Forms (30 classroom hours); and

6.  Real Estate Finance (30 classroom hours).

That works out to be about four and one-half weeks of full-time instruction.

According to the TREC website, in order to become licensed as a Texas real estate broker, an applicant must complete the classes required for a sales agent license and take a 30 hour Real Estate Brokerage class.  Additionally, an applicant for a broker’s license must have “four years’ of active experience” as a real estate broker or sales agent.  Although no college degree is required, Broker applicants who do not possess a bachelor’s degree must complete an additional 630 hours of acceptable real estate-related course work.

Attorneys, by comparison, almost always have a bachelor’s degree in addition to a law school degree.

A portion of the typical three-year curriculum at an American Bar Association (ABA) law school (all good law schools in the United States, and even most mediocre ones, are ABA accredited) will almost always include:

1.  Property Law (two semesters);

2.  Law of Agency (one semester);

3.  Contract Law (two semesters);

4.  Business Organizations (one semester);

5.  Marital Property Law (one semester); and

6.  Wills and Trusts (one semester).

That’s eight semesters of law school course work, not counting the rest of the three-year law school curriculum.

Returning now to our discussion of whether to hire a Broker or Attorney to handle your next real estate transaction, recall that we mentioned earlier that a Broker’s commission is earned — as we see through a review of the typical listing agreement — by bringing buyer and seller together.

If you have ever asked a Broker a question about a real estate contract, there’s a good chance that the Broker responded by suggesting you consult with your attorney.  At least that’s what the answer probably should have been, as Brokers are not permitted to give legal advice.

Texas Brokers are required to use the TREC form for residential transactions; they don’t have a choice.  Ask a Texas Broker to do anything other than fill-in the blanks or check-the-boxes on a TREC form, and wait for the response.  For example, ask a Broker to cross out certain wording and add another line which states “such-and-such.”  You will likely be told that is not allowed.

It is true that Texas Brokers are not allowed to add, delete, or change language on the TREC residential contract.  However, since attorneys are not even required to use the TREC form, there is certainly no impediment to an attorney adding, deleting, or changing language on a TREC form.

A Broker also may not give you advice on whether you should, for example, take title to property in the name of your limited liability company or other business entity, advise you on marital property issues relating to the transaction, or draft a deed for you that will adequately address your estate planning needs.  An attorney may provide all of these services, and more.

In the discussion that follows, the term “Broker” means a real estate brokerage or “sponsoring” Broker, while the term “Sales Agent” or simply “Agent” refers to licensees who work for a brokerage or sponsoring Broker, even though such Sales Agents may, themselves, be licensed as “brokers.”

Sales Agents are subject to the control and supervision of their Broker; the acts of a Sales Agent are considered to be the acts of their Broker.

Additionally, in the eyes of the law, both Brokers and their Sales Agents are considered to be “agents” of the party whom they represent.  For example, both the Seller’s Broker, and the Sales Agents who work for that Broker, are considered to be “agents” of the Seller.  As such, they each owe the Seller certain legal duties.

The “default” rule in Texas is that a Broker represents the Seller, unless there is an express agreement to the contrary between Broker and Buyer.  This makes sense in that it is the Seller who decides whether to list a property for sale, it is the Seller who will pay the sales commission for brokering the transaction, and it is the Seller’s Broker (and/or that Broker’s Sales Agent) who will pay to advertise the property for sale.

Thus, when a Buyer calls a Seller’s Broker in response to an advertisement for a property, the Seller’s Broker is representing the Seller, not the Buyer.  In this situation, the Buyer is unrepresented.

A Buyer, in order to have independent Broker representation, would need to enter into an agreement with a Buyer’s Broker, that is, with a Broker other than the Seller’s Broker.  When this occurs, the Seller’s Broker and the Buyer’s Broker typically share the 6% sales commission (paid by the Seller), with each Broker receiving 3%.  Each Broker’s 50% share of the 6% sales commission (3%) is then divided between Broker and Sales Agent.

Texas, like many other states, allows a Seller’s Broker, with certain restrictions, to “represent” both Seller and Buyer.  When a Seller’s Broker “represents” both Seller and Buyer, the Seller’s Broker is not required to give 50% of the commission (that is, 3% of the 6% sales commission) to a Buyer’s Broker.

In Texas, this dual “representation” (sometimes also referred to as “dual agency”) can take one of two forms.

The first of these two forms of dual “representation” involves the Seller’s Broker acting as a mere “intermediary” (TREC’s term) between Seller and Buyer, without providing any real representation to either.  When this occurs, the Seller is not getting the Broker representation that is usually thought by sellers to be included in the 6% commission they are paying to sell their property, and the Buyer, as with the “default rule” described above, still gets no representation at all.

In the second of these two forms of Texas dual “representation” the Seller’s Broker appoints one of that Broker’s Sales Agents to “represent” the Seller and another of that Broker’s Sales Agents to “represent” the Buyer.  This arrangement, although on its face may appear to be legitimate, is rife with pitfalls.

As an initial matter, this second form of dual “representation” asks us to naively believe that the two Sales Agents, both of whom work for the same Broker, and who perhaps have offices or desks in close proximity to each other, who may attend Realtor training sessions together, and who might even socialize with each other outside of work, will not put their best interests of closing the deal — and getting paid — above the respective interests of the Seller and Buyer whom they supposedly represent.  This is not an indictment of Sales Agents; rather, it is simply an acknowledgment of human nature.

More importantly, however, each of these Sales Agents is, in the eyes of the law, merely an extension of the Broker.  Thus, although this arrangement may provide the appearance of separate or independent representation, such an appearance is a mere illusion.  One Broker is still representing both sides of the transaction.

Because a real estate purchase-sale transaction, like any other contract negotiation, is, at its core, a transaction with (at least) two mutually-exclusive interests — the Seller trying to sell on terms most favorable to the Seller and the Buyer trying to buy on terms most favorable to the Buyer — it simply is not possible for one Broker to represent the best interests of both Seller and Buyer.

Compare Broker dual “representation” to the representation a Seller or Buyer receives from an attorney or law firm.

Although it is technically possible for an attorney to act as an “intermediary” between Seller and Buyer, and not forming an attorney-client relationship or providing legal advice to either, most competent attorneys would never accept employment on these terms.  The major exception, of course, are attorneys who are employed by title companies.  The difference here, of course, is that these attorneys do provide representation to a client: the title company.

But back to our hypothetical Seller and Buyer.  When was the last time you heard about a law firm representing both sides in a transaction, with one of the firm’s attorneys representing the seller and another of the firm’s attorneys representing the buyer?  Probably never, because such arrangements are prohibited.

One last thought as we conclude this article and bring this subject “in for a landing.”  When litigation results from a real estate transaction, as it sometimes inevitably does, the Brokers and Sales Agents who were involved in the transaction are almost always subpoenaed to provide testimony about what happened.  Such testimony is likely to focus on statements made during conversations by and between Brokers/Sales Agents, on the one hand, and the party they “represented” in the transaction, on the other hand.

Attorney-Client communications, however, are protected from compelled disclosure by the Attorney-Client Privilege.  It is extremely rare for an attorney’s client to be compelled to testify about what the client said to the attorney, or for an attorney to be compelled to testify about what the attorney told the client.

It is always a good idea to use the right tool for the job.  Likewise, when professional assistance is needed, the best practice is to hire the right professional for the job.  In the case of buying and selling real estate, that means working with a Broker to “bring buyer and seller together.”  But it also means that a Seller and Buyer should each retain their own attorney to provide legal advice and handle the purchase contract and other legal documents.

As the old saying goes, “An ounce of prevention is worth a pound of cure.”

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In this Legal Update, we address the issue of handling small claims matters as they relate to real estate investors and general contractors.  Our question will illustrate both sides of a typical dispute.

A real estate investor hired a general contractor to make needed repairs on a single family residence that the investor had just purchased at a foreclosure sale.  After the agreed-upon repairs had been completed, it was discovered that some additional repair work was needed.

The general contractor offered to perform the additional work — for an additional fee.

The investor, believing that the additional work was needed solely as a result of the contractor’s negligence in performing the initial repairs, contends that the contractor should perform the additional work at no charge.

Small claims matters in Texas are handled in the state Justice Courts.  A “claim” in Justice Court may be for “no more than $10,000, excluding statutory interest and court costs but including attorney fees, if any. . . .”  Texas Rule of Civil Procedure (TxRCP) 500.3(a).

Thus, assuming that an award of attorney fees is an available remedy in our hypothetical case, we see that a plaintiff’s decision to retain counsel may affect the Justice Court’s jurisdiction to decide the case.

As surprising as it is, we have actually seen suggestions by other attorneys that small claims litigants simply “take their chances” in small claims court by representing themselves and, if they lose, to then retain counsel and file an appeal in order to obtain a trial de novo in a County Court.

An “appeal” may be taken from a judgment issued by a Justice Court.  TxRCP 506.1(a).  In the context of our hypothetical case, a trial “de novo” means: “a new trial in which the entire case is presented as if there had been no previous trial.”  TxRCP 506.3.

Before we address the merits of the “take your chances” legal strategy, let us try to bring some precision to some imprecise word usage.  The term “appeal” is generally understood to be a review by a higher court of a lower decision.  However, appellate review is almost always limited to the issue of whether the lower court (e.g., the trial court) committed reversible error.  Examples of reversible error include erroneous decisions to admit or exclude evidence, whether sufficient admissible evidence was admitted at trial to support the verdict, whether the trial court applied the correct law, whether the trial court applied the correct law correctly, and so on.  Furthermore, not all error is considered “reversible.”  An appellate court will not reverse the decision of a lower court unless any actual error that was committed by the trial court materially affected the outcome of the case.

Thus we see that a trial de novo of a small claims case is not an “appeal” in the true sense of the word.  A trial de novo is merely a re-litigation of the case, that is, a “do-over.”

But what’s wrong with a “do-over?”  We “took our chances” and lost; now we get a second “bite at the apple.”

To answer this question, let us look at what the proceedings in Justice Court might have looked like.

1.  The Plaintiff filed and served a Petition.

2.  The Defendant filed an Answer, and perhaps (probably) filed a Counterclaim against the Plaintiff.

3.  In our hypothetical case, perhaps our “primary” Defendant contends that the only reason he is liable to the Plaintiff is because of the conduct of some third party, for example, a subcontractor.  Our Defendant might then bring the third party into the case by filing and serving a Third Party Claim against this person or entity.  TxRCP 502.6(c).  If the Plaintiff had already named this other person or entity as a party defendant, our “primary” Defendant would simply file a Cross-Claim.  TxTCP 502.6(b).

4.  All parties have the right to conduct pre-trial discovery; however, discovery requests must be pre-approved by the Court.  TxRCP 500.9.

5.  After discovery has been completed, one or more of our hypothetical Parties might move for summary judgment, that is, “[a] party may file a sworn motion for summary disposition of all or part of a claim or defense without a trial. . . .”  TxRCP 503.2.

6.  If a motion for summary judgment — or cross motions for summary judgment — do not completely resolve the case, the case can be set for trial.  TxRCP 503.3.

7.  Following the trial setting, the Court might then order a pretrial conference, in order to attempt a settlement.  TxRCP 503.4.

8.  If the pretrial conference does not bring about settlement, the Court “may order any case to mediation or another appropriate and generally accepted alternative dispute resolution process.”  TxRCP 503.5.

9.  If mediation fails, the parties then proceed to trial.

10.  If one or more of the parties had properly and timely requested a jury trial, then we begin the process of selecting a jury, that is, questioning potential jurors, challenging potential jurors, etc.  TxRCP 504.1; 504.2.

11.  Once a jury is empaneled, we try our case: call and examine our witnesses, introduce documentary and other physical evidence, cross-examine the other parties’ witnesses and challenge their physical evidence, etc.

12.  After the jury returns a verdict, an unhappy party may file a motion for a new trial.
TxRCP 505.3(c).

13.  After the motion for a new trial is denied, the unhappy party can now “perfect” an “appeal,” which means, in the case of a plaintiff, posting cash or bond in the amount of $500 and, in the case of a defendant, posting cash or a bond in an amount equal to twice the amount of the judgment.  TxRCP 506.1 (b); 506.1(c).

Now, our hypothetical real estate investor and general contractor litigants can take advantage of the trial de novo — the do-over — that was the focus of their “take your chances” litigation strategy.

The “take your chances” litigation strategy is, it seems to us, a very poor strategy; it is a litigation strategy we would not recommend.

There are many things an attorney can do to assist a client in resolving a small claims case while simultaneously not “breaking the bank.”  One tactic we have employed in small claims cases is to work “behind the scenes” with our client, advising the client on the merits and demerits of the case, drafting court documents for the client to file with the court, and educating the client on how to best present the case in court.

One very valuable tool that is available to our clients is the Lawyer Available Whenever (LAW) Plan.  Subscribers to the LAW Plan enjoy priority access to a Texas attorney who will consult with them, review their legal documents, and provide timely, insightful, and practical legal advice.  If the matter needs more than a short consultation or document review, LAW Plan subscribers receive a 10% discount on all additional legal work that we perform for them.

The LAW Plan — unlike similar legal service plans from some of our competitors — gives you a direct relationship with a law firm, without any third party, non-attorney sales force intermediaries.

Prior to getting divorced, my now former spouse and I purchased a home.  We both signed the promissory note for the loan which is secured by the house.  During our divorce, my spouse was awarded the house.  I subsequently executed a deed which transferred my ownership interest in the property to my former spouse; however, my former spouse has never refinanced the loan which is secured by the property.  I do not want to be responsible for paying a loan which is secured by an asset that I neither own or have the legal right to control.  Nor do I want such a loan to impact my ability to purchase a replacement residence.  What can I do?

The situation you describe is, unfortunately, not uncommon in Texas.  We see it all the time.  The best solution, albeit one which is no longer available in most cases we encounter, is to not allow this problem to occur in the first place.  Where a litigant is represented by counsel during divorce proceedings, counsel should — at a minimum — advise the client to not agree to a settlement of the case on terms which would allow this situation to occur.

In cases where prevention is no longer an option, the best course of action can be determined only after a close and careful reading of the divorce decree.  The remedy (or remedies) which might (or might not) be available will depend in large part on the precise language and provisions in a divorce decree.

Litigants in this situation often (mistakenly) assume that all that is needed is to go back to court and either ask the court to enforce a provision in the divorce decree that purports to require a refinance of the property or to obtain a new, supplemental order which contains such a provision.  The problem with this strategy is that the spouse who was awarded the home will often claim (usually truthfully) that they do not have the financial ability to comply with such an order.

Thus, a more creative solution which takes into consideration all of the facts of a specific case is typically required.

The Texas Real Property Transfer on Death Act, also known as SB 462, created the Texas “transfer on death (“TOD”) deed,” which provides for the automatic transfer of Texas real property upon the death of the transferor, without the need for probate.

SB 462, was enacted during the most recent session of the Texas legislature and has been codified in Chapter 114 of the Texas Estates Code.

The Texas TOD deed is merely an extension of the concept of allowing owners of real property to automatically transfer by deed, upon their death, their interest in a property to co-owners of the same property.  Most states refer to this concept as holding title to property as “Joint Tenants, with the Right of Survivorship,” or simply as “Joint Tenants.”

The Texas TOD deed extends an owner’s ability to automatically transfer upon the owner’s death an interest in real property to any person; no longer is an owner’s ability to automatically transfer property by deed and upon death limited to transfers to co-owners of the property (e.g., transfers to the surviving joint tenant(s)).

Unlike joint tenants, transferees who are designated to receive title to real property by way of a TOD deed do not have any legal or equitable interest in the subject property prior to the death of the transferor.

A TOD deed may be revoked at any time before the grantor’s death; however, the method for revocation must be one which is set forth in the statute.  A TOD deed may not be revoked by an ordinary Will.