Negotiating Option Agreements
Option agreements are becoming increasingly important in unlocking development land. They serve as a crucial tool for developers and landowners, offering flexibility, helping to manage risk, and increase planning opportunities. These agreements are particularly prevalent in the development land market, where often landowners do not have the time or funds to navigate the Planning system and need the help of a prospective purchaser.
Definition and Purpose
An option agreement is a legally binding contract granting a prospective buyer the exclusive right, but not the obligation, to purchase a property at a predetermined price within a specified period. In summary, it reserves the land for the potential buyer while allowing the seller to maintain ownership until the option is exercised.
The primary purpose of an option agreement is to provide the developer with time to secure finance, conduct due diligence, obtain planning permissions, and assess the feasibility of the proposed development. At the same time, it offers the landlord the assurance of a potential future sale, typically accompanied by an upfront option fee, without immediately transferring ownership
Key Components
Option Fee: A non-refundable payment made by the developer to the landowner in exchange for the right to the option and serves as consideration for the exclusivity of the option.
Option Period: The timeframe during which the developer may exercise the option. This period varies depending on the complexity of the development project and can range from several months to multiple years, depending on the size and complexity of the site.
Purchase Price: The agreed-upon price at which the developer may acquire the land if the option is exercised. This price can be fixed at the outset of the agreement to provide certainty for both parties where the development is simple but in more complicated situation a mechanism is used to calculate the price, subject to a minimum payment.
Conditions: Certain conditions may need to be fulfilled before the option can be exercised. Such conditions include securing planning permission, finance, surveys. It is best practice for a programme to be drawn up to ensure certain obligations can be monitored and are met by the purchaser.
Calling the Option: The method by which the developer notifies the landowner of their intention to exercise the option, typically involving formal written notice and the payment of the purchase price or balance thereof.
Challenges
One of the most pressing challenges lies in timescales. Market conditions can shift dramatically within the Option period, together with the planning process becoming slower and more complex. Hence, developers are finding that some options are running close to expiry before planning certainty is achieved. This creates risk for both sides; the developer may lose their rights, and the landowner may be left with an unconsented site.
Valuation is another key issue. Landowners understandably seek to maximise value through their agreements, but inflated land expectations can result in terms that are unviable once planning obligations, infrastructure costs, and build requirements are factored in.
Planning obligations have also become more demanding. Affordable housing, sustainability requirements, and infrastructure contributions all feed into the residual land value. If these costs are not properly anticipated within the option agreement, disputes can arise later in the process and hold up the deal.
We are also seeing an increasing number of disputes between landowners and developers where expectations set at the point of signing the option no longer align with market realities. Rising costs, fluctuating house prices, and policy changes can mean the land value calculated under the agreement bears little resemblance to the landowner’s perceived market worth. Hence, a minimum price for the site should be agreed at the outset.
Our Development team have been working with both landowners and developers to navigate these challenges and provide reasoned advice. If you would like to discuss option agreements in more detail, please get in contact with a member of our team.
