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What is an Option Contract?

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  • Written By: Daphne Mallory
  • Edited By: Melissa Wiley
  • Last Modified Date: 04 December 2016
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    2003-2016
    Conjecture Corporation
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An option contract gives the person signing the option the right to purchase real estate, personal property, or some other good during a specified time in the future. Consideration is given for the option, and once the option expires, the option purchaser no longer has any rights subject to the contract. Most option contracts make the option compensation non-refundable, giving the seller the right to keep the funds if the option contract terminates and no purchase is made. It’s a unilateral contract, because the seller must sell the property if the option purchaser decides to exercise the option. The person who purchases the option does not have to take any action. What he pays for is time to make a purchase if he chooses.

Case law often requires that contracts be bilateral in order for them to be enforced. In these two-way agreements, the seller makes a promise to sell, and the buyer makes a promise to buy. A unilateral contract is often not enforceable because there isn’t an exchange of promises to act or refrain from acting or an exchange of property. An option contract is often only enforceable if an option consideration is included. The seller receives something, even though it’s within the option purchaser’s discretion whether or not to go through with a purchase.

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Some contracts include option provisions and are not stand-alone option contracts. These contracts obligate the option purchaser to perform other aspects of the contract, but the purchaser can choose whether to exercise the option. For example, a lease with an option to buy is a contract in which the tenant agrees to lease the property along with an option to buy the property within a limited time. The tenant would have to pay a separate consideration for the option, in addition to rent payments in order for the option to be enforceable. That same tenant may execute an option contract during the tenancy and only sign a lease agreement up front.

Non-option contracts have termination dates, but an option contract often includes an expiration date. The expiration date is the deadline that the option purchaser has to exercise the option. If the purchaser fails to do so, then the seller can sell the option to another purchaser and keep the option consideration. The seller is often not allowed to sell the goods or property that is the subject of the option contract until one day after the expiration date.

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Markerrag
Post 2

@Terrificli -- those option clauses are almost always enforceable. Why? Because both the buyer and seller receive something and that makes the clause enforceable. In the case of your oil wells, the investor effectively buys the option to invest more in the project buy making the initial investment.

Terrificli
Post 1

Option clauses are often used to entice people into investing. Take an oil well, for example. An investor who is uncertain about whether or not it will pan out might be convinced to invest in an oil well with an option to invest more in subsequent wells put on the site.

That way, the investment can limit his risk. If the initial investment doesn't pay off, then he is out nothing. If the oil well is productive, however, the investor can not only make money off of that one but on subsequent ones sold on the site if he exercises the option to invest.

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