What is “Right of First Refusal”?

Wouldn’t it be nice if you could find the perfect home and put in an offer on it without the pressure of knowing that there are other prospective buyers that may be eyeing the same property?

That’s the beauty of a right of refusal, which essentially gives buyers the chance to make an offer on a property before any other buyer has the chance to grab it.

What is a Right of Refusal?

A right of refusal in the world of real estate is a contingency that’s inserted into a housing agreement, such as a lease. It essentially offers the potential buyer – or the ‘option holder’ – the right to purchase the home at agreed-upon terms before the owner puts the property up for sale on the market and negotiates a deal with other interested buyers.

The owner is still permitted to market the home if they want, but they can’t entertain any other offers unless they’ve informed the original prospective buyer who has been granted the right of first refusal. If the owner receives an offer from an outside party, they must inform the option holder first and allow them the opportunity to buy the property before negotiating the originally submitted offer.

The option holder can then decide whether to go ahead with a deal and purchase the home, or walk away from the opportunity. Once the initial buyer turns down the offer, the owner then has the right to take any other offers that might come in and negotiate them.

A right of first refusal can often be part of a lease whereby the renter is given an opportunity to buy the property at a certain price and with specific terms in the contract before the seller lists the home and markets it to the general public. The right of first refusal clause must be written into the lease. The renter can either take the deal and buy the home or decline the offer without purchasing it. There is no obligation for the renter to go through with the deal.

This situation can also present itself in the case of a homeowners association that has put a right of first refusal clause into its documents. It allows the condo board to scope out potential buyers before a seller can accept an offer. In certain scenarios, this clause may give the HOA the opportunity to turn down any offers. In other situations, this clause can be used to prevent unpleasant scenarios such as discount sales that could reduce the value of the properties.

Whatever the specific scenario may be, a right of first refusal puts the seller under obligation to offer the initial contract holder the first chance to buy the property under specified terms before being allowed to offer it to someone else.

The Right of First Refusal Must Be Detailed to Avoid Confusion

As simple as a right of first refusal may sound at first, many issues can arise if this clause isn’t drafted up properly. Here are some elements that should be included to ensure no loopholes exist that could cause problems for either the buyer or seller.

Time frame. The seller should ideally provide notice of an outside offer to the option holder of the right of first refusal within a specific time frame. At this point, the holder should have the chance to exercise their right to buy within a certain amount of time. A specific date should be included that informs both parties when closing should occur as well as when this right terminates.

Exceptions. There might be times when a right of first refusal can be very inconvenient for the seller. For instance, the owner might want to be able to transfer the property to their family or to a trust without having to offer it first to the option holder.

Death of the owner. What happens if the owner of the property passes away? Provisions for these potential situations should also be stipulated, or else the right of first refusal could carry on to the person who inherits the property.

Transfer of the right. An option holder of a right of first refusal could transfer the right to another person, unless this is specifically prohibited. A right of first refusal should ideally stipulate whether or not the right can be transferred to another individual or stay with the original holder.

Cancellation of the right. A right of first refusal should specify what will happen if the option holder either declines the right to purchase the property or if they are unable to go through with the transaction if they accepted the right.

The Bottom Line

A right of first refusal can be beneficial for buyers because it essentially removes any outside competition and gives them first crack at the property in question. That being said, it’s critical that a right of first refusal clause be carefully worded so that all questions regarding this set-up can be answered by the contract drafted up. Speak with a real estate lawyer before agreeing to a right of first refusal agreement to make sure you’re not getting into something that will put you at a disadvantage.