Think about Real Estate.
Anyone who is selling a business or investment property should consider the benefits of a 1031 Exchange also known as a like-kind exchange. Internal Revenue Code (IRC) Section 1031 allows an investor who sells a property and reinvests the proceeds in a new property to defer all capital gain taxes. IRC Section 1031(a)(1) states:

“No gain or loss shall be recognized on the exchange of property held for productive use in a trade or business or for investment, if such property is exchanged solely for property of like-kind which is to be held for productive use in a trade or business or for investment.”

To be eligible for a 1031 exchange the buyer basically must:
– Purchase property that will be held for investment or used in a trade or business;
– Purchase property of equal or greater value; and,
– Obtain the same or greater debt on the new property.

The Internal Revenue Service (IRS) does mandate that an investor:

(1) identify the new property within 45 days of the sale of the original property and close within 180 days;
(2) use a qualified intermediary (QI) to hold the proceeds of the original sale (a QI is a company that is in the full-time business of facilitating IRC Section 1031 Exchanges and is further defined under IRC Section 1031(k)-1(g)(4)); and,
(3) reinvest all of the equity from the sold property into the new property.

For example: if an investor buys an income property for $250,000 and later sells the property for $350,000, the investor has made $100,000 that would be taxed at the capital gains rate. If the investor reinvests the $350,000 in another income property this could qualify as a 1031 exchange and allow the payment of the taxes to be deferred.

In many instances 1031 exchanges are very useful in deferring an investor’s tax liability. The exchange should be contemplated before the sale of the initial property and structured to best benefit each investors unique concern. It is wise to consult an experienced attorney if you are considering a 1031 exchange.

General Information: Recent data analysis of business history suggests that somewhere around 50-90% of Michigan businesses will be engaged in a legal dispute over the next 10 years. And a large number of those disputes will involve contract litigation. Fortunately, if trends are cause for prediction, approximately 70% of filed business lawsuits are resolved out of court. Michigan allows 6 years to bring a general breach of contract claim (MCL 600.5807(8)), and 4 years to bring a ‘sale of goods’ breach of contract claim (MCL 440.2725(1)).

Better Estimate: It is safe to assume that there is an actual or probable breach of contract in 99% of all contracts formed. And 99% of those are likely (1) unnoticed, (2) minor, (3) not worth the money to litigate, or (4) not worth damaging the business relationship.

For example: Commercial Real Estate transactions are notorious places for all 4 types breach of contract events from the letter of intent (binding provisions) to purchase agreement to closing and beyond. (1) Typical areas of unnoticed breaches are notice provisions. Often times purchase agreements will call for a particular form of notice to be delivered to tenants or the manager of a property before performing inspections; for obvious logistic reasons these are overlooked. (2), (3), and (4) Noticed minor breaches, not worth the money, and not worth damaging relationships: take place most often during the due diligence period and timing provisions when one party fails to deliver a specific requested item of due diligence or fails to deliver it within a particular time period. The minor breaches take place when the party provides most of what is requested, and a lot of what isn’t requested, but the seller fails to deliver a document that the buyer would like to see, but won’t make or break the transaction.

Finally the breach may not be worth the money to enforce or not worth harming the business relationship; buyers often must weigh the benefits and costs of instituting such actions, such as:

a. whether or not the potential defendant is needed in the future for supplying or other business plans such as acquisition;
b. whether clients and customers will view the action as negative (such as subpoenaing a client, or bad publicity of appear litigious);
c. the loss of business hours spent on investigation;
d. the loss of business secrecy and value if it is in the public domain in unsealed court documents;
e. the actual ‘hard’ dollars spent on filing fees and lawyers.

It is not unheard of for the potential aggrieved plaintiff to direct its attorney to contact the potential defendant’s attorney to discuss a potential resolution outside of litigation and even settlement. Concessions and temporary price reductions made by the potential defendant allow business relationships survive and thrive.

Damages: Typically, specific performance, general, and special damages are the most common remedies for breach of contract in business disputes resolved in court.

As one might imagine since lending practices are so highly regulated, defaulting on such a loan is also highly regulated. From the creditor’s perspective, Michigan’s Uniform Fraudulent Transfer Act protects creditors from deceitful debtors (MUFTA). The MUFTA defines fraudulent transfers as any transfer that is made with actual intent to defraud, hinder, or delay either a present or future creditor; including transfers without actual intent if the debtor should have believed that he or she would become insolvent by failing to make the exchange for a reasonably equivalent value (see MCL 566.33 and MCL 566.34).

Fraudulent conveyances more broadly is defined as any transaction by which any property (real or personal) is moved beyond the reach of creditors, including a transaction that prejudices the legal or equitable rights of present or future creditors. Exchanges whereby a debtor accepts a value below a reasonable equivalent for property a creditor has a higher right to, happens every day. Consequences for purchasing or selling property in a transaction that triggers a fraudulent conveyance statute can harm both parties.

For example: Imagine if an individual named Mr. Tower purchases the Grand Rapids Plaza Towers for $100, and Morty’s Bureau Mortgage (mortgagee) helps Mr. Tower (mortgagor) complete the purchase through a loan secured by a mortgage. One of the terms of this mortgage–and almost certainly all mortgages–prohibits the transfer of any portion of the property, here the Plaza Towers, without authorization by the mortgagee Morty. If Mr. Tower and his good friend William Weasel sever a portion of the tower through a transaction not involving Morty to make a little extra money; they likely have committed a fraudulently conveyance, and several other legal issues may implicate Mr. Tower and William Weasel (such as, breach of contract, business tort, which we won’t get into in this article).

The simplest remedy a creditor may seek against a debtor and the transferee under civil law is to invalidate the transfer through a legal proceeding to void the transfer (MCL 566.37). Further, the transferee and transferor generally have not cause of action against each other, public policy and the law leave the parties in the position in which they have placed themselves. In plain english, the transferee (William Weasel) loses his interest in the Plaza Tower, and likely has no method of seeking relief from the consequences of participating in the fraudulent transaction against Mr. Tower. From William Weasel’s perspective, this is exactly why due diligence, and properly recording interests where typical, is so important in every transaction.

Michigan, like most other states in the country, view legal restraints on alienation (transfer of property) as void. Thus, (i) disabling restraints; (ii) forfeiture restraints; and (iii) promissory restraints are all void. Please keep in mind when reading this article that this is a very delicate area of law and is subject to several exceptions. Like all legal articles, be sure to read this one for broad-view purposes only.

Disabling restraints are created by a transferor (seller) preventing future transfers by the transferee (buyer / future seller).

Forfeiture restraints, whereby the transferor (seller) attempts to cause a forfeiture of the transferee, if the transferee ever attempts a sale themselves.

Promissory restraints, represents a clever method, whereby the transferor attaches a covenant preventing sale by the transferee in the future.

Nonetheless, all restraints will be rendered void. Public policy dictates that if you (or a group) are the full owner of a property, you should be able to sell it when and how you please. This allows a transferee to ignore restraints on transferability when they decide to sell. Restraints in time are however, when reasonable, enforceable.

Under the Fair Housing Act and the Fourteenth Amendment (XIV) of the constitution all restraints that are discriminatory are void.

Some examples of valid restraints on transfer of real property are those restrictions that are reasonable in (i) commercial transactions, (ii) first refusal, and (iii) on assignment or sublease of renters (landlord consent).

A notable repercussion from the 2010 foreclosure crisis (and beyond), is that institutional credit (i.e. mortgages) availability for residential homebuyers has decreased. This has opened transactions to the increased use of land contracts, in place of traditional financing for the purchase of homes. Land contracts can be used to purchase any type of real estate including: primary homes, second homes, vacant land, and commercial real estate.

What is a Land Contract?
As defined by the State Bar of Michigan “…a land contract is an agreement for the sale of real estate, where the buyer (called the vendee) makes an initial down payment to the seller (called the vendor) and pays the remainder of the purchase price, plus interest in installments over a set period of time. The seller retains the ownership of the real estate…” until the deed is delivered to the buyer.

In Michigan land contracts are similar to a mortgage, because under a typical land contract the purchaser immediately obtains equitable title, and the legal title remains with the seller. Under equitable title, a property interest may be transferred, insured, recorded, encumbered and can be the subject of tax liens and foreclosure.

Land Contract Provisions
From a purely legal standpoint a land contract must satisfy the Statute of Frauds and also meet common law contract principles. However well drafted land contract will go beyond the basic legal requirements to: (1) allow both parties to have a clear understanding of what they are entering into by carefully defining terms and removing ambiguities; and, (2) Protect both each party’s interest in the transaction.

Land contract provisions generally address the following issues:
(1) Payment – this includes the down payment, the amount and number of installment payments, and the interest rate (capped at 11%);
(2) Possession – this states who has possession of the property (usually the purchaser);
(3) Property taxes – who is responsible;
(4) Transfer of deed & transfer taxes;
(5) Liability insurance;
(6) Transfer of ownership;
(7) Condition of the property;
(8) Modification of the agreement; and,
(9) Default – what happens when either party does not fulfill their obligation.

Other issues to consider when considering entering into a land contract include title searches, property inspections, and transfer taxes.

What Happens When a Buyer Defaults on a Land Contract
Depending on the terms of the land contract agreement the buyer and seller may be able to modify the contract to find a reasonable solution for both parties. If the parties are unable to find a solution the seller must use the Michigan Courts to regain possession of the property and evict the land contract buyer. Typical remedies include: suing the seller for breach of contract; forfeiture of the land contract (only available if included in the land contract); and foreclosure on the sale of the land contract property.

What Happens when a Seller Defaults on a Land Contract
In most cases, upon a buyer’s fulfillment of the land contract the seller should provide the buyer the deed conveying the property free of any liens. A seller who fails to do this is most likely in breach of contract. Legal remedies available to the buyer in this situation include: specific performance of the land contract; quiet title; rescind the contract; and/or money damages.

Although useful in many situations, land contracts can be troublesome if not thought-out and carefully drafted.