How do I write a seller-financing addendum?
The actual question and answer are intentionally omitted as well as the actual terms discussed, but seller-financing conversations are frequent and this episode is offered for the general benefit of our readers. Preparing a seller-financing addendum isn’t difficult, but care should be taken to include all necessary terms or it may land the parties in an unpleasant squabble on the eve of closing. If a seller-financing addendum is incomplete or if the seller-financer later wishes he had included a certain requirement, most buyers aren’t going to be willing to see the forgotten term in the loan documents and the transaction train begins to screech along the rails.
I begin with a list of basic elements for standard seller-financing and continue below with elements the seller may wish to consider (which may interest even the more experienced agents):
The Basic Elements:
Loan amount – I like seeing this stated as a dollar amount (ex. $80,000) or at least as a percentage of the sale price (ex. “seller will finance 80% of the sale price”).
Interest rate – easy!
Amortization period/balloon payment – The amortization period is the period of time over which equal principal and interest payments are calculated. In a typical residential bank loan, the amortization period is 30 years. Most sellers won’t want to wait anywhere near that long, but monthly payments can be amortized over 30 years and a balloon can be required in a shorter period – this makes the monthly payments more affordable for the buyer. For example, where a seller is financing $80,000 and requires a balloon payment in 5 years, the monthly payments can be amortized over 30 years ($429.46/mo) or 15 years ($632.63/mo) or the amortization can be over the 5-year term itself ($1,509.70/mo – this 5-year amortization would mean there is no balloon because the monthly payments over 5 years would satisfy the loan completely).
Prepayment penalty – Typically, seller-financers waive a prepayment penalty because they’d be happy to get their money sooner, but where it is waived, state “no prepayment penalty” in the addendum. Obviously, if the seller wishes to impose a prepayment penalty, the amount of the penalty or the method for its calculation should be stated.
Who drafts loan documents and who pays for it – In episode 12, I pointed to the logic of having the seller’s attorney draft the loan documents and requiring that the buyer pay for the drafting. This makes a great deal of sense, but it isn’t required. Either way, the addendum should state who is to draft the documents and who is to pay for the drafting.
Grace Period/Late Fees – Any bank loan has a grace period and a late fee; seller-financing should have it, too. A typical grace period is 5 to 15 days and a typical late fee is either a dollar amount (ex. $50) or a percentage of the missed payment (ex. 5% of the amount of the late payment).
Title Insurance – If the seller will require the buyer to purchase “lender’s title insurance” insuring the seller’s collateral interest, state it in the addendum.
Lesser-Used Elements to Consider:
Default Interest Rate – Where a buyer/borrower is late on a payment, the interest rate can be increased if the increase is stated in the Note. This serves as an incentive for the buyer to keep the payments current and allows for some profit to the seller for having to put up with tardiness. For example, let’s say the loan rate is 5% with a 10-day grace period. The Note can provide that, if no payment is made within 15 days of its due date, the loan rate increases to 10% retroactive to the date of the missed payment. This would mean the interest rate stays at 10% for the life of the loan. I don’t necessarily believe every Note should have a default interest rate, but it is something to think about.
Method of Payment – Some sellers want the buyer to make payments electronically (i.e wire, auto-draft, ACH) as opposed to making payments by personal check. If the seller wishes to make a particular method of payment a requirement, it should be stated in the addendum.
Right to Cure – Some buyers may wish to be sent a “notice of right to cure” if a payment is missed. This “right to cure” gives them a period of time to bring the loan current and, if it is brought current within the cure period, the loan continues thereafter as if no tardiness had occurred. Even where a Note calls for a “right to cure,” it is typical that the buyer be entitled to only one (1) “notice of right to cure” – in other words, if the buyer is tardy a second time, the seller can proceed with loan enforcement without being required to send another “notice of right to cure.”
Personal Guaranty – If the buyer is an entity, the seller may wish to require the entity principal(s) sign a personal guaranty. This makes the principal(s) responsible for all loan obligations (meaning all obligations of both the Note and the Mortgage) if the entity does not meet the obligations. If you include a personal guaranty requirement, it’s best to personally name the guarantors in the addendum rather than referring to them generally as “entity principals.”
Every mortgage contains a homeowner’s insurance requirement, a “due on sale” clause, a requirement that property taxes be paid and, of course, foreclosure provisions. Therefore, these things generally do not need to be stated in the addendum.
Here’s a nice basic addendum:
The seller will finance the sum of $80,000 at 5% per annum. The loan will be secured by a first mortgage on the subject property. Monthly payments will be amortized over a 30-year term with a balloon payment of all principal and interest due 5 years from loan inception. Payments shall be considered late if not received within 10 days of their due date and a $50 late fee shall then be imposed. In the event any payment is not received within 20 days of the date it is due, the interest rate shall increase to 10% (default interest rate) retroactive to the date of the missed payment. There shall be no penalty for prepayments, whether in whole or in part. The loan documents shall be prepared by the seller’s attorney and the charge for said preparation shall be borne by the buyer at closing.
Or you may prefer this format:
Here is some sample language for each of the lesser-used additional provisions mentioned above:
Default Interest Rate: If any payment is more than 20 days late, the interest rate shall thereupon be increased to 10% (default rate) and said increase shall be retroactive to the date of the missed/late payment. This is included in the sample addendum above, but the provision might not be considered standard, so I feel it belongs on the “lesser-used” list, as well.
Method of Payment: All payments shall be made by wire transfer to the seller. Contemporaneous with closing, the seller shall furnish the buyer all relevant wire information.
Right to Cure: In the event any payment is not received within the grace period, the buyer is entitled to one 15-day notice of right to cure. In the event of a second default, the buyer shall have no right to cure.
Personal Guaranty: The loan shall be personally guaranteed by Joe and Sally Schmidlap, jointly and severally.
If the seller-financing terms are “basic,” they usually fit on the standard state contract addendum form. If, though, the seller financing terms are more involved, consider creating your own addendum in order to ensure clarity and completeness; seller-financing terms are and should be of central importance to the parties because they govern the continuing relationship, so there is no virtue in abbreviating the seller-financing addendum (clarity tends to ensure smoothness and harmony).
In our closing, we provide our seller-financers with a tip sheet containing important things they need to know about seller-financing so they’re comfortable managing the debtor-creditor relationship after closing and know how to ensure their collateral interest (security interest) in the property is protected.
I have been approached by a buyer who wants my seller to finance the purchase – can you help me understand what we should be thinking about?
Happy to -- I’m sure you know what seller-financing is, but it helps to always remember your client (the seller) is “the bank.” I oftentimes get asked by sellers what will happen if the buyer doesn’t pay the loan and the answer, at its core, is simple: you have the same remedies a bank has. At the most elemental level, the seller can foreclose the mortgage – this requires the filing of a foreclosure action and, at its conclusion, the Master-in-Equity will publicly auction off the property. I’ll skip discussing how the bidding works, but if the high bid is insufficient to pay the debt, the seller can enter a “deficiency judgment” against the buyer. A deficiency judgment is a judgment in the amount of the difference between the total debt then due and the auction price.
With the foregoing in mind, my recommendation to sellers (presuming they’re willing to entertain seller-financing) is to make sure the down payment is in an amount that will ensure a foreclosure sale will yield a sum sufficient to cover the debt. In discussions of this kind, we presume the worst will happen – the “worst” might be that the buyer doesn’t make a single payment or maybe the worst is the discontinuation of payments after a year and foreclosing in a down market. I’ll continue the discussion by using a couple examples:
Let’s say the sale price is $100,000 and the sale price represents fair market value (which is usually true). If the buyer puts down $40,000 and asks the for seller-financing of $60,000, the seller is probably in good shape. After all, if the buyer doesn’t make a single payment and the seller forecloses, the total debt will be $60,000, plus interest and plus foreclosure attorney’s fees/costs (while it’s possible the debt can climb a bit depending upon taxes and insurance, these are less common occurrences). So, in this example, the total debt might be $65,000. There’s a very good chance the high bid will exceed this amount and, if it does, the seller gets paid 100% of the debt (the seller doesn’t get to keep the excess).
For the next example, let’s again presume a sale price of 100%, but this time the buyer asks that the seller finance the entire price. From the seller’s standpoint, I don’t like this deal at all. If the buyer doesn’t make a payment, the debt will be at least $105,000 and a foreclosure auction probably isn’t going to bring enough to pay the debt. Foreclosure sales aren’t the “pennies on the dollar” some people still think they are, but a foreclosure sale price is usually some factor below the fair market value – for a standard property, I tend to use a 15% factor as a working figure. In this example, the seller would receive $85,000 – a full $20,000 shy of what is owed.
Some sellers like the idea of seller-financing because, in certain situations, it can give them a stream of income at an interest rate higher than what they can earn elsewhere and, so long as they’re “secure” (meaning the debt-to-value ratio is favorable), they don’t mind the possibility of foreclosure. Other sellers just want to get their sale proceeds at closing without involving themselves in a debtor-creditor relationship with a complete stranger – these sellers should not finance the buyer’s purchase.
So far, I’ve been talking about the wisdom and maybe the desire to enter or not enter into seller-financing. If the seller is interested in seller-financing, there are a few financing elements to consider:
The logical follow-up question has already been asked, so the next episode will explain the keys to a good seller-financing addendum and provide examples/guides for use on the street.
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The question actually went like this – the buyer’s offer states it will expire on Wednesday at 5pm. At 4pm, the seller counteroffers. The buyer accepts the counteroffer at 6pm. Do we have a contract?
To begin, it helps to remember a counteroffer operates as a rejection of the offer (this was discussed in Episode 9). At the moment a counteroffer is made, the original offer becomes a nullity along with its stated time of expiration. More plainly, once the seller made his counteroffer, the buyer’s “expires on” deadline of Wednesday at 4pm no longer had meaning. Instead, there was a new offer – it was from the seller and, when the buyer accepted it at 6pm, the contract was bound. Still, there are a few things to be observed that will definitely be handy to know:
When a counteroffer is made, it is prudent to ensure it contains its own “expires on” deadline. And, of course, there might be a series of counteroffers, counter-counteroffers, etc. – try to make sure each contains an “expires on” deadline. This can be done with an initialed notation within the original contract or in an addendum. Even when involved in quick contract negotiations, you will find it pays to ensure perfect clarity in everything you do. The topmost “top producers” know a client will appreciate a patient, detailed approach – it protects your client, makes you look good and serves the transaction.
My new client just discovered there is a drainage easement at his residence right where he wanted to have an in-ground pool – is there anything he can do?
To better explain, this agent is representing a client who is looking for investment property. In the course of a conversation unrelated to the agent’s task, the client complained he has a drainage easement in the backyard of his new residence – as luck would have it, it’s right where he and his wife want to build a pool. He has been informed he cannot build a pool within the drainage easement area and both he and his wife are noticeably unhappy about it. In fact, the client is in the mood to sue “everyone” (the seller, both agents, the closing attorney and anyone else he can get his hands on).
After-the-fact situations such as this are oftentimes the best teachers of what could have and should have been done beforehand …
If the client knew when he was buying the property that he wanted to have a pool, he should have told his agent and the agent could then have easily made the client’s ability to have a pool a contract contingency. With such a contingency in place, the client could then have done some pre-closing due diligence such as:
a. Review the Covenants and Restrictions – here he would find out if pools are allowed in the community. Governing documents usually identify certain easements and other areas of non-interference;
b. Examine any ARB/ARC guidelines – this would tell him of the applicable appearance and application requirements;
c. Order a survey – this would clearly show the existence of the drainage easement; and
d. If warranted, have a geotechnical engineer drill soil borings and provide data on soil properties.
Though outside my purpose today, here’s a short footnote about the couple’s plight. Naturally, I completely sympathize with their disappointment, but the easement wasn’t a secret – it was publicly recorded. Therefore, the notion of suing other contract participants for something the couple could have easily discovered themselves seems thin. They may wish to consult with the holder of the easement to determine whether the easement could possibly be waived or, failing that, whether the easement’s purpose might be fulfilled in some other way (i.e. satisfactorily altering the drainage course).
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My client’s offer was accepted after it expired, but the parties have been performing. Now the seller wants to back out – can anything be done?
For the benefit of the readers, let me explain para 31 of the contract offer stated it (the offer) would automatically expire at 5:00pm on May 1st (a sample date). The seller accepted the offer by signing it on May 2nd. There is more than one principle at work here – it is worth an explanation.
First, it is definitely true the offer expired at exactly 5:00pm on May 1st. The standard contract contains a provision stating “time is of the essence” with respect to all contract provisions. As everyone knows, “time is of the essence” means each time period is strict -- May 1st means May 1st and 5:00pm means 5:00pm. Therefore, when the seller got around to “accepting the offer” on May 2nd, there actually was no offer to accept. It had vanished at 5:00pm the prior day and the courts hold, in case after case, a tardy acceptance in no way revives an expired offer.
If this question had been presented on May 2nd, the answer would be “no contract” and that would be the end of that. Actually, the question was presented a full month later and, in that space of time, both parties behaved as though a contract existed (it’s very possible no one realized the offer had expired prior to its “acceptance”). In any event, the parties were performing – earnest money was paid and accepted and the parties presented the contract to their respective attorneys with instructions to close (my office was not engaged for the transaction at that point). The seller was contractually obligated to have the property surveyed and flagged – he did that and a few other things. The buyer was given the opportunity to perform a perc test and generally make land inspections – he did that and a few other things. The agents communicated the usual transaction essentials back and forth and the parties themselves spoke about the contract a week after it was signed. It was, therefore, a surprise when the seller announced a week before closing that he refused to sell and, as sellers sometimes do, he accompanied his withdrawal with the brave words “sue me.”
At that point, the buyer retained my office seeking contract enforcement against the seller – the contract closing date was a mere week away. The seller had given no reason for his refusal to close, but we had to suppose he knew the offer had expired before he accepted it (in fact, he probably just discovered it and decided to take advantage).
Despite the unmistakable expiration of the offer prior to acceptance, it seems an oral contract had possibly been formed and the terms of the oral contract were peculiarly memorialized in an expired writing. We know, of course, an oral contract concerning real estate is unenforceable in South Carolina (this precept is found in the “statute of frauds” – remember that?). Again, the question might seem to end there, but it does not end because the statute of frauds has some very meaningful exceptions. One exception is that “partial performance of an oral contract” excludes it from the statute – put another way, an oral contract to buy/sell property is enforceable if it has been partially performed by the parties.
This by no means forms a perfectly straight legal line – an enforcement lawsuit (“specific performance”) would require dealing with a series of contested facts and opposing theories about whether the “partial performance” was sufficient – in sum, the outcome for either party could not be guaranteed. Here, though, we prepared a letter to the seller and his attorney in which the forgoing concepts were fairly discussed and a formal “tender of performance” and “demand to close” were presented. The demand included a description of the mechanics of a specific performance action and included, as well (with believed persuasiveness), a reminder of the court’s power to award attorney’s fees/costs against the seller over and above a court-compelled sale.
Though the ultimate outcome of a lawsuit could not be regarded as certain (it almost never can), the blend of concepts favoring the buyer did seem formidable. Within a couple days, we received word the closing would proceed. It did, in fact, proceed – we closed it on time. Both agents seemed pleased.
As a post script, let me note that, in the event an offer is accepted after its expiration, it would be appropriate to make the date change in the contract itself (have it initialed by both parties) or perhaps deal with it in an addendum.
My client is considering a few homes – one of them has solar panels. How are they handled at closing?
The existence of solar panels will probably not be found in a title search because solar panel agreements are not recorded at the courthouse. Solar panels very definitely should be addressed in the transaction because the after-effects of not doing so may become unpleasant to both parties. Solar panel agreements may take many forms (and more will likely be introduced over time), but the most common are as follows:
Lease of Panels: As with any other lease, the merchandise (panels) belongs to the leasing company and the homeowner makes periodic payments. When the lease ends or the homeowner stops paying, the panels are returned to the leasing company. Obviously, if a new owner of the property did not know about the lease or did not understand its terms, he/she may be faced with the expense and inconvenience of removing the panels. Depending upon how the panels are affixed, their removal might leave the home somewhat damaged. No homeowner will be in the mood for that.
Lease of Solar Power: Here, the solar panels are usually installed at no charge and the homeowner signs an agreement to purchase solar power for an extended period of time. If you see the term “PPA” (power purchase agreement), this is what they’re talking about. As with an ordinary lease of panels, discontinued payment comes with consequences no one wants.
Purchase of Panels: This seems to be a less popular arrangement because panels are expensive. If, though, panels are purchased, they can be purchased outright or financed over time. If they are financed, a “financing statement” (in legal parlance, a UCC-1) can be filed at the courthouse or with the Secretary of State – the creates a security interest in the panels such that, if payments are discontinued, the panels can be seized. Notice this is the only circumstance in which there is a courthouse filing. Even if the panels are purchased outright (rather than financed over time), the solar power is a separate commodity and is the topic of a separate agreement.
If a home has solar panels, a listing agent should undertake to find out the exact nature of the underlying agreement(s). This means the agent should obtain complete copies of any solar panel and/or solar power agreement. This should be broadly disclosed to prospective buyers and the documents should be furnished to any serious buyer. While it might be possible for a buyer to assume solar panel/power payments, this would require the involvement and approval of the solar panel/power company. No matter what type of solar agreement exists, the seller may be faced with having to remove the panels prior to sale because many buyers simply won’t want to deal with solar panels/power.
In that you say your buyer is considering a home with solar panels, he/she would do well to inquire thoroughly before making an offer or, at the very least, making his/her satisfaction with the solar panels a steep contingency.
In Episode #2, you answered a question about “service dogs.” Can you tell me a little about what the Fair Housing Act (FHA) says about “service dogs?”
Yes, of course. The Fair Housing Act (FHA) uses the term “assistance animal,” which is somewhat more inclusive than the ADA term “service dog.” It is important to know the FHA doesn’t apply to all situations, but where it does apply and a person seeks permission to have their dog allowed in a “no dogs” community, the eligibility test most commonly put forward is as follows:
If the answer to either question is “no,” the FHA does not require the animal be allowed and does not require a modification to a “no dogs” policy.
[I am a very serious dog lover – these answers to questions about service dogs gets slightly in the way of my feeling that I like seeing dogs everywhere!]
My client is buying a rented property (long-term lease) and is asking me about a “tenant estoppel” – can you explain what that means?
Sure, your client is asking a good question and I’m happy to answer it. A “tenant estoppel” is a document signed by an existing tenant in which the tenant acknowledges certain things about the status of the lease and the landlord-tenant relationship. It is significant because your client will step into the seller’s shoes and will inherit the seller’s landlord position. A thorough tenant estoppel would include the following covenants:
a) The lease (which should be attached to the estoppel document) is the complete lease, remains in effect and has not been modified or amended;
b) the landlord is not in breach of the lease; and
c) the tenant’s obligations are not subject to set-offs, defenses, etc.
In a commercial setting, “tenant estoppels” are the norm, but they are seen less frequently in residential settings.
If you’re at the pre-contract stage and your client wants a “tenant estoppel,” be sure to include the requirement as a contract contingency.
The parties in my transaction signed the contract through DocuSign. Are electronic signatures legally binding?
First, let me explain the controlling law. A version the Uniform Electronic Transactions Act was adopted in South Carolina several years ago and appears as SC Code §26-6-10 et seq. This Act governs electronic signatures, which are defined in the Act as “an electronic sound, symbol or process attached to or logically associated with a record and executed or adopted by a person with the intent to sign the record.” Sure, this isn’t the comfortable definition we might hope for, but it very definitely applied to signatures affixed through DocuSign, Adobe, DotLoop and other familiar programs. The Act provides “a signature must not be denied legal effect or enforceability solely because it is in electronic form” and “an electronic signature satisfies the law requiring a signature” – South Carolina case law upholds this statutory precept. With this introduction, you might begin to think any electronic signature is definitely binding, but keep in mind even an electronic signature is subject to challenge – for example, if a person lacks mental capacity, his/her signature (electronic or wet) will not bind them to a contract. And, of course, an electronic signature can create a unique issue of authentication (simply meaning proof the signature is attributable to the right person). While electronic signatures endeavor to create the same level of confidence associated with handwritten signatures and the internal security of DocuSign and the others goes as far as possible to ensure the identity of the signor, electronic signatures can be challenged and proof can be pesky. With all of the foregoing in mind, the direct answer to your question is that the mere fact that the signatures on your contract are electronic in no way diminishes their legitimacy or enforceability – in short, an electronic signature is binding.
The preceding paragraph deals with the enforceability of an electronic signature between the parties, but it is worth mentioning that each government agency is able to make is own determination of the extent to which it will accept electronically signed documents for use and/or recording (Horry County ROD does not accept them, but this may change over time). Further, some lenders will not accept them on final loan documents. Because we recognize not every recipient of an electronic signature will know whether or not it should be accepted, my office includes an entry above certain signature lines on key documents we create stating: “Digital signatures affixed to this document are made pursuant to the Uniform Electronic Transactions Act, SC Code Ann §26-6-10 et seq.” (we find this is often helpful to the recipient).
The state contract says “the seller will pay Buyer’s transaction costs not to exceed $___ , which includes non-allowable costs first then allowable costs (FHA/VA).” What do the terms “allowable” and “non-allowable” mean?
“Allowable” and “non-allowable” are terms unique to FHA and VA loans (also USDA, but we don’t see many of those). An “allowable” cost in a VA loan is a cost the veteran is allowed to pay, whereas a “non-allowable cost” cannot be paid by the veteran, but may be paid by the seller or the lender. It isn’t always easy to know if a specific cost is allowable versus non-allowable, but in general, a cost that is “allowable” under FHA/VA rules is what we might think of as standard core loan costs (ex. 1% loan origination fee, credit report, appraisal fee, loan processing fee, title search, title insurance … you get the idea). “Non-allowable” costs are everything else (ex. prepaid property taxes, prepaid insurance, HOA transfer fees, Fed Ex, courier, buyer credit card payoff … again, you get the idea). A cost that is allowable under FHA might be non-allowable under VA. Also, as you probably know, the lender limit on seller concessions varies with loan type – this means the limits are different between FHA and VA and, even for conventional loans, limits vary depending upon whether the property is a primary residence, second home or investment property. While it is good to have a general understanding of what the terms “allowable” and “non-allowable” mean (because clients may ask), the client should be referred to his/her lender for a determination of which costs are allowable/non-allowable and/or the limits of any seller concessions.
My client bought property at a tax sale and has just received the “tax deed.” Does my client actually own the property and can she sell it?
A “tax deed” is issued by the Delinquent Tax Office – it is not a warranty deed and title is not deemed to be either “marketable” or “insurable.” Your client owns the property subject to any imperfections in the tax sale process. The tax sale process is rigidly specific and, if that process is not strictly followed, the tax sale can be set aside and the title restored to the original owner (meaning the taxpayer). If your client expects to be paid fair market value (FMV) for the property, she will probably have to file a “quiet title” action. Through a “quiet title” action, your client should expect to receive title that is both “marketable” and “insurable.” If your client wishes to sell the property now (meaning without a quiet title action), a bank will not lend against the property and the title cannot be insured – this means she will need a cash buyer and should expect to receive less than FMV. In the event of such a sale, she should only tender a quitclaim deed as opposed to a warranty deed.
My client wants to move into a planned community that doesn’t allow dogs. She has 2 dogs she claims are for “emotional support” and says her doctor will write a note to this effect. Does the community have to accept the dogs?
No, the community can legally disallow the dogs. The client misperceives the meaning of “service dog” within the law. The Americans with Disabilities Act (ADA) defines “service dog” as one that is “individually trained to do work or perform tasks for the benefit of a person with a disability.” This is consistent with SC Code §47-3-920(4). “Emotional support animals” are expressly excluded under both statutory schemes.
My clients (husband/wife) live in New York and are both quarantined at home after being diagnosed with the coronavirus – they can’t leave home to have their closing documents notarized. Can anything be done?
Yes, even though New York doesn’t normally permit “remote notarizations” (meaning notarization by 2-way audio-video conferencing where the signor is in one location and the notary is in another location), the governors of several states have issued emergency orders allowing remote notarization so long as the state’s “declaration of emergency” is in effect. Luckily, New York is allowing remote notarization during the pandemic! Similar “emergency orders” allowing remote notarization have been issued in Colorado, Connecticut, Illinois, New Hampshire, Pennsylvania, Wisconsin and Wyoming. Twenty-three (23) other states allow it regardless of the pandemic. South Carolina does not allow remote notarizations as of this writing, but draft legislation has been proposed.
The dedicated real estate agent keeps his eyes fixed straight ahead. The brisk, purposeful footstep – the hard-charging pursuit – the thoughtful advice – he closes the deal in style.
On this page, we salute and serve the Agent on the Street by answering his occasional call to inquire about a unique point, address an odd wrinkle or simply do some double-checking – here he can ask questions anonymously for the benefit of other agents and whatever betterment it may bring to the real estate profession.