What Is a Letter of Intent?

A letter of intent (LOI) is a letter outlining the understanding between two different parties. However, an LOI is not legally binding, which means that the parties aren't obligated in a legal manner to go through with the terms outlined in the agreement. An LOI is the foundation for what will become a definitive and legal agreement. When the parties agree to the LOI, this action is a step in the negotiations process that shows good faith between them.

You might use an LOI when starting the process of buying shares or assets from another company. This LOI would then transition into a Purchase of Business Agreement, which is the legal way to take this type of action. Letters of intent are not legally binding to either party but rather used as an expression of intent by one or both parties to continue good faith business negotiations.

Terms of a Letter of Intent

Sellers and buyers will often use letters of intent to show proof of the agreement on terms of a specific transaction. Those terms might include:

  • Closing date
  • Price
  • Due diligence period
  • Financing
  • Other important points

When one party signs an LOI, this action can offer some comfort and reassurance to the other party that the deal is in motion and the parameters are being further clarified. The LOI allows the involved parties to proceed in the process, such as by drafting a contract or moving into the due diligence timeframe of the deal.

Some of the aspects that are often excluded from an LOI, such as the boilerplate and specific details of the transaction, will be addressed during the stage of drafting the contract. All involved parties and their attorneys should be involved in this stage. Although an LOI is not legally binding, many of these documents contain provisions that become binding, such as those around marketing, confidentiality, and exclusivity negotiations. When a party signs or sends an LOI, this action shows a sincere intent to carry out and act upon the terms outlined in the document.

Use in Business Transactions

Letters of intent are used in a variety of business transactions, but the most common uses involve the sale or purchase of assets or shares between parties. An LOI is also used to show interest in purchasing or leasing a property. Any of the involved parties in a business deal can prepare and send an LOI to show their intent and set out the initial terms of the transaction.

For example, if a buyer is interested in purchasing a business, that buyer might send an LOI to the owner of the business. Upon receiving the LOI, the business owner can review the terms and make a decision about whether to move forward with selling the business or start the process of negotiating the terms before drafting a contract. If the terms in the LOI are agreeable to the business owner, the next step would be approving the letter and moving forward to the stage of drafting a contract for the business transaction.

When entering into a business transaction with an LOI, the letter should outline important terms:

  • Purchase price
  • Information about the seller and buyer
  • Transaction description (location of a property, size of land, type of purchase, etc.)

The LOI might include several other common clauses, such as:

  • Transaction contingencies
  • Due diligence period and process
  • Exclusivity or confidentiality clauses

In a real estate or other business transaction, an LOI provides details and terms of the purchase to start the process. Since an LOI isn't legally binding, using one is the first step before entering into a contract that is legally binding. The seller in the transaction can review the terms of the LOI and evaluate options before agreeing to the buyer's terms. Using an LOI can help all involved parties save on costs associated with due diligence, negotiations, and other legal steps.

A document that outlines the terms of a preliminary agreement to purchase assets, shares, or other items is called a letter of intent for purchases.

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