Real Friends Don’t Let Friends Make Oral Agreements

by | Jul 28, 2006 | Cash Flow, Weekly Column

Click here to listen to Rick’s column: Download doing_business_with_friends.mp3

Which is likely to be the wiser business deal�one with a friend or one with someone you don’t like? All else being equal, you might be better off doing business with the person you dislike. Making business deals with friends can carry a high risk for both the transaction and the friendship.

A case in point. The son of one of my clients set out to buy a house from a couple who were friends of his. The deal was made informally, without the involvement of attorneys or real estate agents. The house needed some updating and repairs before the buyer could move in.

The buyer was assured by his bank that he would have no trouble obtaining a loan. However, the process was going to take longer than either he or the sellers expected. If he waited until after the closing to make repairs, he would have trouble getting the house into livable condition before he had to be out of his rented apartment. The sellers assured him that he could go ahead and do the repairs before the closing.

The buyer, despite his eagerness to get into the house, realized the inherent risk in spending money to update a house he did not own. He came up with a plan he thought would protect both parties. He drafted an amendment to the purchase agreement specifying that, should the purchase not go through, the sellers would reimburse him for the cost of any repairs he had made.

The sellers refused to sign the agreement. How, they asked, could the buyer not trust them? They were going out of their way to be helpful by letting him have access to the property before the closing�and he wanted them to sign a contract? They weren’t willing to accept the risk of having to pay for the repairs if the deal failed, even though they would get their money back by increasing the price of the updated house if they had to put it back on the market.

The buyer wisely decided his best choice was to wait until after the closing before he so much as washed a window in the house. Yet his attempt to get an agreement in writing left all the parties angry. The transaction survived, but the friendship didn’t.

In this case, the buyer’s attempt to get a written agreement about the repairs was a good idea with bad timing. Had it been included in the original purchase agreement, the parties might have been able to negotiate a satisfactory arrangement.

The moral to this story isn’t necessarily, “Don’t ever do business with a friend.” As someone with clients who become friends and friends who become clients, I know that business relationships among friends are common. I also know they can and do work well.

The moral is to proceed with caution and common sense. The wisest approach is to put the transaction on a businesslike basis from the beginning. This includes involving professional advisors as appropriate, just as you would with any transaction. It’s far easier if both parties start out with the expectation that agreements will be put in writing and standard business procedures will be followed. Trying to switch from friendship to business in the middle of a transaction only creates mistrust and misunderstandings.

If you begin discussing a business deal with a friend, and that person is not willing to proceed in a businesslike manner, you know up front that this arrangement is not likely to work. Then you can change your mind before you jeopardize both your investment and your friendship.

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