Option Agreement

An Option Agreement, or Option, is a formal agreement between a property owner and a potential buyer or lessee, in which the potential buyer or lessee usually pays the owner for the exclusive right to a negotiation in good faith or to allow the potential buyer or lessee to confirm an outside circumstance such as getting an approval from a governing authority, over a certain time period for the purchase or lease of the property.

Putting ‘Option Agreement’ in Context

Potomac Development Partners, a Washington, D.C.-based real estate developer, is evaluating a 20-acre parcel of underutilized land near the Anacostia River. The property is zoned for industrial use, making it ideal for an outdoor storage facility, such as a staging yard for construction materials or vehicle storage, to cater to the region’s robust infrastructure development.

The company enters into an Option Agreement with the property owner, Anacostia Land Holdings, granting Potomac Development Partners the exclusive right to purchase the land for $10 million within a 12-month period. The agreement requires an upfront option fee of $200,000, which is non-refundable but applicable to the purchase price if the transaction is executed.

During the option period, Potomac Development Partners plans to complete the following tasks:

• Conduct environmental assessments, as the site is adjacent to a waterway and could have contamination risks.
• Obtain necessary zoning and permitting approvals to use the site for outdoor storage.
• Finalize construction plans and cost estimates to determine project feasibility.

Why the Option Agreement is Critical

This arrangement allows Potomac Development Partners to mitigate risk. Rather than committing $10 million upfront, they secure exclusive negotiation rights while completing due diligence. If the environmental conditions or permitting hurdles prove insurmountable, they can walk away with no further obligation beyond the initial $200,000 option fee.

Hypothetical Outcome

At month 10, Potomac Development Partners secures all necessary permits and confirms environmental compliance. They decide to exercise the option and proceed with the purchase. Here’s how the transaction could be summarized:

• Option Fee Paid: $200,000
• Purchase Price: $10,000,000
• Net Payment at Closing: $9,800,000 (purchase price less the option fee)

By leveraging the Option Agreement, Potomac Development Partners limited its upfront risk while securing a strategic site for its next development project.