Real Estate Glossary O [Part 1]
The right, but not the responsibility, to do something within a particular amount of time, such as purchasing a house.
The right to buy a property at an agreed price on or before a specified date (backed by a payment). It is the right to renew a lease at a mutually agreed-upon rent.
A person who owns property can give another person (the optionee) the right to buy or rent the property at a certain price and for a certain amount of time.
The right to buy or lease property at a certain price and for a predetermined length of time.
An agreement to keep an offer to sell or lease real estate open for a specified period of time. An option, for example, can be used to give the buyer time to resolve financing, title, zoning, and feasibility issues before committing the buyer to purchase. In the land acquisition process, options are frequently used. The option must be supported by its actual consideration, which must be separate and independent of the property’s purchase price. Except in the case of a lease-option, where the provisions of the lease are sufficient consideration to support the option, a mere recital of consideration is insufficient.
An option merely creates a contractual right; it does not confer any estate in the property on the optionee. At the time the option is signed, neither the owner nor the buyer sells the property. Although the owner is required to sell if the buyer gives notice, the buyer is not required to purchase. A buy option is also known as a call, and a sell option is known as a put.
All of the essential terms of the underlying contract of sale must be included in an option. When the optionee decides to exercise the option, a binding contract is formed. Names and addresses of the parties, the date of the option, consideration, the words granting the option, the date the option expires, a statement of purchase price, and the principal terms are all required information. The purchase agreement is frequently attached and incorporated by reference. An option agreement usually includes a statement about how the option will be exercised, provisions for forfeiture of option money if the option is not exercised, and the optionor’s and optionee’s acknowledged signatures (only the optionor must sign). Unless expressly prohibited by its terms, the option is usually assignable; however, if the option fails to cover all of the material terms and leaves room for future agreement, it will be unenforceable. A court would not enforce a contract if the option agreement detailed the parties, the property, the price, and the method of payment but omitted the mortgage interest rate. As a result, before entering into an option agreement, the parties should consult with an experienced real estate attorney.
Because a broker rarely earns a commission on an option until it is exercised, the distinction between an option and a contract to buy and sell is important in practice. If both parties are required to perform (i.e., mutuality of obligation), the agreement is a contract for sale. It is an option if only one party is required to perform. An option is thus a unilateral contract in which the optionor/offeror promises to make the offer irrevocable for a set period of time in exchange for the optionee/offeree making option money payments. When the optionees provide the required notice of intent to exercise the option, they effectively accept the offer, and a bilateral contract for sale is formed with both parties bound to perform. The option money is typically applied to the purchase price, but the parties must address this in the option contract.
If the optionee does not exercise the option, most options require the optionor to keep the option money and neither party to perform. In an option agreement, time is of the essence; thus, if the option is not exercised before the termination date, it automatically expires. The option is usually unaffected by the death of the optionor or optionee. The optionee or heirs retain the right to purchase. The optionee’s heirs and assigns are also bound by the contract.
An option should be recorded because the optionee’s rights will be retroactive to the date of the option and will take precedence over all intervening rights of third parties with notice of the option. In the event that a recorded option is not exercised, good title practice requires that a release of option be recorded. Otherwise, the expired option is a cloud on the title. Because of this risk, many options include a defeasance clause that states that the recorded option will automatically cease to be a lien on the property when the option exercise date expires.
The standard fixed option; the step-up option, in which the purchase price increases at predetermined stages of the option period; and the declining-credit option, in which the percentage of the option price that may be credited toward the purchase price decreases over time (opposite of the full-credit option).
Because an option is not a real estate interest, most lenders will not accept it as mortgage security. Similarly, if the underlying property is taken in a condemnation proceeding, the optionee does not receive just compensation. Furthermore, an optionee typically lacks the legal standing to seek zoning changes.
Except in rare cases and when buying and selling to avoid licensing requirements, anyone who buys and sells options without exercising them must usually obtain a real estate license. Of course, if the option is exercised, no license is required to sell the property because the optionee becomes the owner, and owners are not required to be licensed to sell their own property. The real estate broker should ensure that the listing includes the right to and payment of a commission if the broker negotiates an option instead of an outright sale during the option period. The listing should also specify whether the commission is based on the option consideration (regardless of option exercise) or the full purchase price only if the option is exercised.
If a tenant pays rent with the understanding that a purchase option is available, and that tenant eventually exercises that option, the option may provide that a portion of all rents paid may be applied to the purchase price. However, failure to exercise the option does not entitle the tenant to a refund of the portion of the purchase price that would have been applied to the property had it been purchased.
On the other hand, if the rent or a portion of it is applied to the purchase price and the tenant has the right to purchase the property for a nominal amount at the end of the lease, the Internal Revenue Service may interpret this arrangement as a disguised real estate contract and sale rather than a lease with option to buy. The lease rent payments would not be deductible in this case; they would be treated as installment payments, which the “tenant” would have to capitalize and deduct through depreciation deductions. Unless the transaction qualifies for installment reporting, the “landlord” risks being taxed on the entire gain.
An agreement that grants one party the right to acquire or sell an asset at a predetermined or determinable price within a specific time period.
An adjustable-rate mortgage loan that provided the borrower with a number of payment options. The options typically included a payment that would fully amortize (pay off) the loan in 15 years, a payment that would fully amortized the loan in 30 years, an interest-only payment, and a payment that was artificially low so that unpaid interest was added to the outstanding balance each month. For a few months, the loan was frequently offered at a lower-than-market interest rate.
Sets a time limit for developers to purchase property at a specified price.
The amount paid by the optionee in order to get an option.
A listing in which the broker keeps the right to buy the property for himself or herself. A lot of lawsuits have been filed against brokers who hide offers from buyers until after the broker has used the option. Because of this, the seller must be given full and fair information.
The agreed-upon price at which the optionee is willing to purchase the option.
Option to renew
A clause in a lease that gives the tenant the right to extend the lease for a set amount of time.
Or more clause
It is a clause in a mortgage agreement that allows a borrower to increase their monthly payment without incurring a prepayment penalty. An “or more” clause may have a limit on how much can be paid.
A contract made verbally. Except for short-term leases, most real estate agreements must be in writing. Because of the potential for disputes between landlord and tenant, even short-term leases should be documented in writing.
The agreement was made verbally.
Rules, regulations, and codes that are adopted by local governing bodies, such as building standards, motor vehicle standards, and subdivision requirements, are generally referred to as ordinances. As an example, in many jurisdictions, the posting of Sold signs on recently sold real estate is prohibited by law.
Ordinary and necessary business expense
Costs incurred in the normal course of business, as opposed to costs associated with a specific project or venture, such as rent or supply expenditures. Ordinary and necessary business expenses, unlike capital expenditures, can be written off in the year they are incurred under federal tax laws.
A fixed sum of money received on a regular basis for a set period of time.
A profit or gain that must be taxed at the normal rate of income tax. Even though other types of income are subject to a higher maximum tax rate, long-term capital gains are taxed at a lower rate.
Any income that is taxed at standard tax rates, such as fees, commissions, and interest, as defined by the Internal Revenue Service.
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Ordinary life estate
A life estate is one in which the property owner retains all rights to exclusive possession, use, and enjoyment for the rest of his or her life, while a subsequent owner holds a remainder interest that follows the life estate.
Loss that can be deducted from ordinary income for tax purposes.
Ordinary tax rate
The tax rate applicable to taxable income that is not considered capital gain income or depreciation recapture income.
Organizational expenses, partnership
Partnerships and their partners can’t take deductions for expenses paid or incurred to promote the sale of (or to sell) partnership interests (these are called “syndication expenditures”) or for expenses paid or incurred to set up a partnership (except as noted below).
Syndication costs are the costs that come with selling and giving away shares in a partnership. Commissions, professional fees, and printing costs are all examples of this.
A partnership, on the other hand, can choose to capitalize its start-up costs and deduct them over a period of at least 60 months, starting with the month the partnership starts doing business.
A fee paid to a general partner for his assistance in forming a syndicate.
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An important consideration is where to put the house on the property so that it is well-protected from external noises, as well as from direct sunlight and prevailing winds.
Oriented strand board (OSB)
An alternative to plywood made from waterproof heat-cured adhesives and right-angle-layered rectangular wood strands. To the same extent as plywood, all U.S. and Canadian model building codes permit the use of OSB panels in construction. Similar to plywood, the engineered wood panel has many of the same properties. OSB is used in both residential and commercial construction, as well as in the upholstery of furniture.
Original cost basis
The total amount paid to buy the property, which includes the land, the building, any personal property, and other costs like lawyer fees, commissions for the broker, and so on.
The procedure for obtaining a loan.
A lender’s fee for approving a mortgage loan. Documents and credit, inspection, and appraisal fees are all included in a loan’s origination fee. Most lenders charge an origination fee based on a percentage of the loan amount. For a $100,000 loan, for example, the lender’s fee might be 2%, or $2,000. The origination fee and interest on borrowed money can both be deducted from your taxable income if they are expressed as points. Such a fee cannot exceed one percent of the total mortgage amount in VA and FHA transactions involving existing structures. A lender can charge an origination fee in excess of 1% for inspections and partial payments during the construction of a structure under both the VA and FHA.
A fee imposed by a mortgage lender for services performed in the processing of a loan application.
A real agency relationship that comes about because of what the parties do, not because they say so. For example, a property owner knows that a broker is showing potential buyers his or her empty lot without permission to do so. The law says that third parties have a good reason to think that the broker is the owner’s agent unless the owner does something to stop the showings. So, the owner could be held responsible for what the “owner’s broker” does. This is an ostensible agency because it looks like there is an agency on the surface. Once this kind of agency is set up, the owner can’t deny that it exists. This is called estoppel.
The revenue from an income property that is not earned through the leasing of a tenant space.
Other people’s money (OPM)
Borrowed money is used for investing reasons.
all costs associated with a property
A type of specialty shopping facility that sells name-brand items at discounted costs.
A piece of land next to a bigger piece of land that was once a part of the bigger piece. At least one of the out parcel’s edges is not shared with the larger tract. One example is land that used to be part of a shopping centre and is next to it. This land can be used as a separate site by a tenant, a bank, or a fast-food restaurant, or it can be improved so that it can be used as a separate site.
Outside of closing
Some closing costs were paid to a third party without going through the closing process, as evidenced by the settlement statement notation POC.
The remaining balance on a loan. A note that hasn’t been paid in full is known as an outstanding note.
Outstanding loan balance
The amount of money owed on a debt right now.
A credit enhancement capital structure in which the value of assets exceeds the value of liabilities (used most regularly in certain asset-backed transactions). For example, a $100 million issuance of senior securities might be backed by a $150 million pool of assets, resulting in a 33 percent over-collateralization of the senior securities.
“Additional rent” is a term used in retail store leases to describe the percentage of sales volume above a certain threshold that counts as additional rent. The lessee should consider this excess income.
In certain retail leases, an additional rental is levied depending on a percentage of sales above a set sales base.
Overall capitalization rate
Divided by the market value of a property, net operational income. The free and clear rate of return is another name for it.
The capitalization rate derived by dividing comparable properties’ net operational incomes by their selling prices in direct capitalization.
The net operational income divided by the total costs or sales price is a good investing rule of thumb.
Affordability caps on adjustable rate mortgages limit interest rate adjustments over the loan’s term.
Overall rate (OAR)
The direct proportion of net annual operating income to sales price. Divide the net income by the price to get the overall rate.
Overall rate of direct capitalization
An overall capitalization rate calculated from actual comparable property transactions.
Overall rate of return (ORR)
The entire capitalization rate is also known by this term.
The capitalization rate is the proportion of net operating income divided by the property’s acquisition price.
The right to put water on someone else’s land. It could be a short-term or long-term right.
Extending beyond the exterior wall of a house, the roof’s eaves.
A land or building usage that is seen to be excessive.
An improvement that, due to its high cost, is not the highest and best use of the site on which it is located. A $500,000 home in a neighborhood of mostly $100,000 homes is an example of over-improvement. Over-improving an existing property is another meaning of the term.
A clause in a listing agreement that protects a broker’s right to a commission for a reasonable time after the agreement ends if the owner sells the property to a prospect with whom the broker negotiated during the time the listing was in effect.
A payment made to managers, like principal brokers, based on the sales made by their subordinates. Most of the time, this override is figured out as a percentage of the gross sales commissions made by the salespeople who work for the manager.
The amount of rent a tenant pays based on how much money his or her business makes over a certain amount. For example, a gas station tenant pays $0.01 per gallon of gas sold over 50,000 gallons per month.
A fee that a lessee of an oil and gas lease keeps when the property is rented out to someone else.
Payouts to the other tenants of a tenancy that is physically divided into unequal shares. Court-ordered payments are common.
the growing trend of people purchasing flats and units rather than renting them Typically, the owner receives a separate title and agrees to pay a fair share of the building’s operating costs.
Absentee landlords and owners are those who do not live on the property they own. Mortgage rates for owner-occupants tend to be lower than those for investors/owners.
Owner of record
Person who appears on the public record as the owner of a specific property or mortgage.
A policy of title insurance that pays the owner of the property the money from the policy. Most of the time, the coverage isn’t as good as the lender’s policy. If there is a lender’s policy, the owner can get a policy that covers both the owner and the lender for a small fee.
The information used to verify a person’s or organization’s ownership of a property is referred to as ownership data.
Ownership structure risk
The impact that the chosen form of ownership can have on the risk and return that investors ultimately earn.
Ownership, form of
People who want to buy real estate often ask a broker for advice on the best way to own the property. It’s important to know the type of ownership because
- The type of ownership at the time of the sale determines who must sign the different documents, such as the listing, contract of sale, or deed; and
- The way someone owns something affects many of their rights in the future. How a person gets the title to a piece of property can affect things like income taxes, real property taxes, gift taxes, estate and inheritance taxes, the ability to give the property to someone else, the risk of being sued by creditors, and the probate process.
A broker should be able to talk about different ways to own property, such as joint tenancy, tenancy in common, tenancy by the entirety, tenancy in severalty, community property, partnership trust, and corporate forms of ownership. However, a broker should not recommend a specific form of ownership because doing so would be the illegal practice of law. The broker should suggest that the client talk to a tax or legal expert, especially if there will be more than one owner, to figure out the best way for the client to own the property. For example, if a husband and wife want to own property together, they may be able to do so as “tenants by the entirety,” if that is allowed in that state. But in some cases, especially if the husband and wife are in a high income tax bracket, this form could be bad from a tax point of view because the estate tax on jointly held property could be much higher than if it were held in another way. So, a broker who doesn’t suggest a good lawyer or tax expert may be doing a client a disservice.
Real Estate Glossary O [Part 3]