What a difference a few months can make, particularly in the notoriously mercurial residential property market.

Not only are prices toppling from the high of August and September last year but latest first-quarter figures for 2022 reveal volumes have plummeted when compared with the same period last year.

Nationally, residential sales for the quarter have dropped from 8324 to 5597 (32.8%), New Zealand numbers (excluding Auckland) are down 28% and Auckland sales are a whopping 40.2% lower.

Market-watchers report, however, that while transactions might be fewer, they tend to be stickier. Bryce Town, a partner at Morrison Kent and convenor of the ADLS Property Law committee, says billable hours remain similar to when the market was at its height.

Bridging finance has all but dried up, meaning purchasers who buy before selling their current property are taking big risks, Town says. Finance is becoming “challenging” to negotiate, with banks stress-testing potential loans at 7.5% to ensure borrowers can repay all their mortgages at this rate.

And now that FOMO (fear of missing out) is no longer powering the market, purchasers are taking more notice of conditions in their sale and purchase agreements. Red flags in LIM and building reports, which six months ago might have been glossed over in the race to secure a property, now have purchasers’ attention and are, in some instances, being used to drive down prices.

“Purchasers are now using those due diligence clauses to negotiate further conditions and sometimes to negotiate reductions in price,” Town says. “In the past couple of years, if you bought and didn’t go unconditional someone else would be lining up to buy and probably at a higher price. These days have gone for the time being.”

Another sign of the times is that pre-sold rural sections and blocks are starting to come back onto the market when the titles are issued as the purchasers discover they can’t afford to settle, Town says.

Along with bridging finance, bank loans for developers have dried up. Town says he acts for some “long-standing, experienced developers” who are struggling to raise funds.

“Banks won’t lend anything to them at the moment. They have gone out of the market so we’re having to do special partnerships and get investors in there,” he says.

“I’m told by my clients that the banks are more concerned about the supply chain for completing properties than losing money on the development.” The second-tier lending market, with its higher costs, is becoming important again.

“Developers are dropping out of the market,” Town says. “They’re not looking to buy development sites any longer whereas three months ago they were still looking. They probably have enough on their plate, trying to finish what they’ve got. A lot of people are sitting on sites where they can’t fund the development or can’t price it properly.”

Sunset clauses

In the falling market, developers are also at risk that sunset clauses – used in last year’s rising market to cancel off-the-plan contracts so developers could on-sell the property at a higher price – could come back to bite them.

Joanna Pidgeon, a principal at property specialists Pidgeon Judd, a former president of ADLS and a member of ADLS’ Property Law committee, says the power balance between developers and purchasers has shifted in the past few months. In a market where prices are falling, a purchaser might now want to use the sunset clause to renegotiate the price downwards.

“All sunset clauses work a bit differently but if they bought at the height of the market, and it’s not completed and not valuing up, [purchasers] could well use the sunset clause to get out if they paid more than what it is now worth,” Pidgeon says. She has seen this happen in previous property cycles.

“If you bought off plans two or three years ago, it’s still going to be worth more than you signed up for, but if you signed up in August last year and it was to settle in the next while, you might have paid a bit too much.

“The power has changed a little bit because it’s harder [for a developer] to get sales now.”

Sunset clauses, which give either or both parties the ability to cancel a property contract if certain conditions are not met by a specific date, created havoc last year when developers, arguing that covid had caused delays and hiked prices for materials, invoked them to cancel agreements.

The purchasers, often first-home buyers, were left stranded. While their deposits were usually still intact in a solicitor’s trust account and, in many cases, the developer was happy to continue with the agreement if the purchasers agreed to a higher price, many couldn’t afford to pay more and found themselves locked out of the market as the deposit they’d paid a year or two earlier was no longer enough to secure another property.

Some are fighting back. Barrister Des Wood, a member of ADLS’  Property Law committee, has a handful of cases where purchases are threatening to litigate, specifically by way of injunction, to prevent developers from using sunset clauses in this way. Others are heading towards mediation. The principal argument, says Wood, is that the developers have not acted in good faith.

Pidgeon, who acts for both developers and purchasers, says there’s a difference between developers cancelling a contract because they can’t get resource or building consents or finance for the project and developers who “try to screw the scrum” once the consents are in place and the decision has been made to proceed.

At that point, she says, clause 9.10 in the standard ADLS sale and purchase agreement requires the developer to do everything necessary to enable the conditions to be met by the date of fulfilment.

With covid delays, Pidgeon says some developers are thinking ‘it’s not too long until the sunset clause expires so maybe I should just delay filing everything with council and pull the rug out’. Such delaying tactics are ‘cynical’, she says.

But Pidgeon is also seeing purchasers start to take control by refusing to accept sunset clauses in favour of the vendor or, if such a clause exists, there’s a stipulation that the developer cannot cancel and on-sell at a higher price.

No-caveat clauses

The issue can be complicated by no-caveat clauses in some development contracts.

These can give purchasers more leverage and better protect their interests if developers try to invoke sunset clauses. Banks and developers find them a nightmare, Town says, because they can delay the consenting process.

Nonetheless, he tells clients that once their deposit is paid, they need to get a caveat in place so if the developer then tries to invoke a sunset clause and cancel the contract, it must first get the caveat removed.

“It strengthens the purchaser’s argument that [the developer] acted in bad faith or is not entitled to cancel the contract,” Town says. “[The purchaser] can insist they have an unconditional contract, and they can proceed.”

Without a caveat, the purchaser’s only remedy is injunction which is an expensive route. “A caveat is great protection, and the vendor has got to do a lot of heavy lifting to get rid of it,” Town says. It won’t trump a properly worded and enforceable sunset clause, but purchasers are in a stronger negotiating position if it’s there.

De facto clause

Pidgeon also points out that s 255 of the Resource Management Act 1991 is a de facto sunset clause, implied in every agreement. The parties can’t contract out but because the clause relates only to the issue of title, it has become standard practice for parties to also negotiate a clearer and simpler clause.

“If you are selling off the plan, you’re selling something that doesn’t yet exist, so you need these mechanisms to enable people to get out, so they’re not trapped,” she says.

“The purchase is dependent on the vendor doing certain things – obtaining finance, obtaining resource consent – and it’s not in the public interest that purchasers be left hanging in there forever.”

Covid, she says, created a perfect storm. “Developers were facing increased delays and additional costs and property values were going up incredibly. They were feeling very squeezed and started putting in things like sunset clauses which were for the benefit of developer and purchasers, and usually the developer would have a clause making the agreement conditional on having resource consent and building consent and making sure there was financial viability. Often, they’d have a force majeure clause, so they were not stuck in a situation where it was impossible to complete.”

Usually, Pidgeon says, developers are keen to complete and settle as soon as possible to avoid excess interest on borrowings. But the “weird period” of the past couple of years had seen cynical delays and cancellations.

Pidgeon says she’s aware of one contract where the developer, with the benefit of a sunset clause, passed a council inspection for code compliance certification that was issued three working days after the developer had cancelled the contract so it could on-sell.

There are better ways for developers to protect themselves than sunset clauses, she says. And one way to protect purchasers might be legislation banning the clauses, as is the case in many Australian states. For example, in New South Wales a developer needs written consent from the buyer or the court if it wants to terminate a contract because the project is delayed.

“It’s similar in Victoria,” Pidgeon says. “You can’t use sunset clauses to intentionally delay building projects with the aim of exploiting buyers.” ■