A pre-sale condominium is a townhouse or apartment that is available for purchase prior to it’s construction or before it is move-in ready. Buying a Pre-Sale has many benefits:
- Pre-sale homes come with extensive warranty protection;
- you don’t start paying the mortgage until completion of the building, thereby getting the chance to potentially save for the balance of the down payment; and
- if prices rise over time (which they have done consistently for the past 15 years (except for 2007- 8), your new home will be worth more than what you paid for it – before you take possession!
However it’s equally important to be aware of the risks associated with pre-sales so you can make an informed choice to buy or not.
Pre-sales of Condominiums in British Columbia are governed by the Real Estate Development and Marketing Act [“REDMA”]. This Act permits developers to engage in sales and marketing of pre-sales prior to obtaining either a building permit or financing under certain circumstances.
Unlike the Residential Tenancy Act of BC, REDMA does NOT prescribe any particular form of pre-sale contract, so developers typically have their lawyers draft very one-sided contracts in favor of themselves. It is the nature of such contracts where most of the risk related to pre-sales arises.
The 7 main risks of buying a Pre-Sale condo are:
- Market Value
- Interest Rates
- Completion date
- Size and layout
- Finished product
- Legal consequences
1. Market Value
What will be the market value of the unit by the time it is ready to be occupied? Can anyone reliably say what the price of a property will be 2, 3 or 4 years from now? While the BCREA, CMHC and others try to predict housing trends in advance, no one pretends to know with any certainty what prices will do more than a year in advance, much less several years.
Would you advise your client to buy a “gold futures contract” for a half a million dollars at today’s prices with delivery in two years?
No? Is that because the price of gold could go DOWN and leverage works both ways?
Yet, that is exactly what a pre-sale contract is in BC. A pre-sale agreement is essentially a futures contract in real estate with an uncertain delivery date no less. So the buyer must carry the risk of market fluctuations and absorb the losses if the market goes down.
2. Interest Rates
Do you know what the interest rate will be 2 or 3 years from now? Will the current prime rate begin to climb or will it stay put?
While financing a condo at today’s best rate might seem feasible for a first- time buyer today, what if rates increase by the time the condo closes? On a $350,000 mortgage, each percentage point adds $300+/month onto the buyer’s monthly mortgage payment.
Predicting interest rates is even more of a gamble than real estate prices, as there are a multitude of factors which affect rates such as the economy, balance of trade, currency spreads and the government’s fiscal and monetary policies –which may be completely at odds with a buyer’s plan to finance a home purchase. Make sure your budget can handle a rise in interest rates before you buy.
While a purchaser may qualify for a mortgage today there are at least 3 ways he may not be qualified when the purchase closing date arrives:
- The rates have gone up and he can no longer afford the payments under the bank’s lending guidelines;
- The property value has gone down, in which case the bank will lend ONLY on the current reduced market value and he has to make up the difference;
- The purchaser and/or his partner have been laid off or had his hours reduced in the interim;
What if the buyer has a “rate hold” from the lender doing the construction financing on the pre-sale project? Most lenders no longer hold rates for more than 90-120 days and if they do so on a project, it’s normally for 18 months maximum. If the completion date gets extended beyond that date by the developer the rate hold expires. Also, if the market value goes down, the bank may require the buyer to make up the difference [see 2. above].
4. Completion Date
This is a moving target in pre-sale contracts. Most contracts provide an estimated completion date which is generally a year or two away. However, the contract will stipulate that the date is subject to change by the developer by a significant amount of time.
Thus, the developer may extend the closing date many times up to a specified “outside completion date” which may be several years past the original estimated closing date. The developer may be within its rights to extend the closing even in a declining market by years beyond the date the purchaser may have planned for.
Pre-sale contracts usually contain force majeure clauses which purport to allow developers to extend closing even beyond the outside completion date if the project has been delayed by “earthquake, terrorism, flood or other act of God, fire, explosion, accident howsoever caused, act of any governmental authority, strike, lockout, inability to obtain or delay in obtaining labor, supplies, materials or equipment, delay or failure by carriers or contractors, breakage or other casualty, climactic condition, interference by the Purchaser, or any other event of any nature whatsoever beyond the reasonable control of the Vendor.
In the meantime, the purchaser is on the hook to buy the unit for what amounts to an indefinite period of time.
However, when the developer is finally ready to go, the contract provides for a short closing notice [usually 7-10 days] wherein the purchaser must be ready to close or face being in breach of contract.
5. Size and layout
Most pre-sale contracts grant the developer the discretion to alter the layout of the unit. Although few buyers seem to think that this will ever happen, when it does they are generally very upset –especially when they find out that they have agreed to allow the developer to do so in the contract.
The size of the unit can generally be 5% smaller than set forth in the draft strata plan or marketing materials with no recourse to the buyer. Size discrepancies of 6% or more can usually only be addressed by a price reduction – not the right to rescind by the buyer.
6. Finished Product
What you see [or rather what you saw a few years ago in the display suite, brochures, videos or other marketing materials several years earlier] is not always what you get. Pre-sale contracts normally allow developers to substitute materials and finishing to a large extent.
In addition the quality of finishing and workmanship may also be far less than expected [or recalled from viewing the display suite].
There is also a “no warranties or representations” clause in the contract which prevents the buyer from relying on any marketing materials or verbal promises made at the time of sale UNLESS they are specifically recorded in the contract of purchase.
A pre-closing inspection occurs about 10 days prior to closing so by the time a buyer sees the final product it is too late to do much about it. The contract will provide for NO deficiency holdbacks even if substantial deficiencies are apparent.
7. Legal Consequences
When a buyer is called upon to close and he finds that one or more of the aforesaid risks have materialized he will usually start learning about the contents of the contract for the first time.
If a purchaser fails to close without lawful excuse, he will normally forfeit his deposit without prejudice to the developer’s legal right to pursue further damages if the deposit is not sufficient to offset them.
On the other hand, if the developer fails to close, it has the option to simply return the deposit to the purchaser with NO FURTHER LEGAL CONSEQUENCES.
If the unit has poor workmanship, less-than-acceptable substitute finishes, changed lay out, smaller than expected size or lesser view (or no view), the developer will normally not admit any fault or responsibility and insist on closing with no price adjustment.
If promises made to the purchaser by the developer’s sales staff have not been met, unless they have been reduced to writing and included in the pre-sale contract the developer will deny them or rely on the no warranties or representations (“if it’s not in the contract it doesn’t matter”) clause contained in the pre-sale contract.
If the purchaser decides to fight the matter in court, he will generally run legal expenses of $50,000 or more and his legal fees are NOT tax deductible. The developer on the other hand, has much deeper pockets, a litigation firm on retainer and its legal bills are tax deductible as a part of the cost of doing business.
The moral of the story:
LOOK BEFORE YOU LEAP (or rather, do your due diligence before you sign).
If you feel that you can handle the aforesaid risks then:
- ALWAYS have your own realtor represent you when you buy a pre-sale. The developer will usually pay him or her a pre-arranged commission for bringing in a buyer (so your realtor gets paid and you get independent representation).
- After you sign, bring the purchase agreement (and the Disclosure Statement) to your lawyer for review. REDMA gives you a 7 day rescission period. If you change your mind after reviewing all of the documents in detail with your lawyer, you can cancel the contract within this period.
- ALWAYS retain your OWN lawyer to represent you on the closing. Often the developer will provide a “recommended lawyer” for closing who may have (what appears to be) a discounted legal fee package for buyers.
Remember, you get what you pay for. Discounted fees generally means discounted service.
Also, if a problem arises upon closing, the “recommended lawyer” is in an ethical bind. He is legally bound to represent your interests, but he is also beholden to the developer for permitting him to advertise his services on site. You are only one client out of hundreds of potential clients the developer may send his way on the project in question (and on future projects). Why put yourself in this predicament for a couple hundred dollars savings (on a half a million dollar investment)?
If you need advice on purchasing a Pre-Sale, call or email our office and we’ll be glad to help you.
BASIC Pre-sales contracts general checklist:
- Price Total price
- Extras or add-ons
- Additional parking stall(s)
- Deposit(s)How many deposits made
- Cash or deposit bonds
- Liquidated damages or not
- GST Price is inclusive or exclusive of GST
- New housing rebate available or not
- Developer will process rebate or not
- Transitional rebate available or not [must claim after closing]
- BCTT payable or not
- Closing date Estimated completion date
- Outside completion date
- Force majeure clause
- Closing notice to purchaser
- ParkingKind: [ ] cp [ ] cp with lease [ ] lcp [ ] fixed lease only
- Number of stalls
- Lien holdback – 7% of purchase price for 55 days after completion
- Permitted changesSize
- Lay out
- Materials and finishes
- Assignments Assignability
- Assignment fee
- Continuing liability for assignor
- PTT Payable on purchase price for original purchaser
- Payable on assignment price for assignee
- First Time Homebuyer limits and restrictions
- Disclosure Statement and amendments
- 7 day right of rescission Time limited rescission rights for building permit and financing approvals
- Final occupancy permit
- New Home Warranty certification
- Subject conditions for buyer:financing
- Any ability to negotiate adverse clauses from agreement?
©Pazder Law Corporation (2017)
Questions? Call Kenneth Pazder or Melissa Valana (604-682-1509) at Pazder Law Corporation anytime for a free consultation.
Disclaimer: The foregoing is for information purposes only and not intended as legal advice to the reader. Always consult with an experienced real estate lawyer when modifying the standard real estate contract in use in BC. In addition statutory law as well as case law may change from time to time which could render this analysis inaccurate in the future.