Start Now, Contract Later: Using LOIs and MOUs Without Getting Burned

In the fast-paced and complex world of construction, projects often need to move forward before all the terms of a formal contract are finalized. To bridge this gap, stakeholders commonly use Letters of Intent (LOIs) and Memorandums of Understanding (MOUs). While these documents are not full contracts, they play a critical role in laying the groundwork for formal agreements. However, their use comes with risks if not carefully drafted and understood.

LOI vs. MOU: What’s the Difference?

While the terms "Letter of Intent" and "Memorandum of Understanding" are often used interchangeably, they have distinct common uses:

• Letter of Intent (LOI):

  A Letter of Intent is a preliminary agreement that records the parties’ intention to enter into a formal contract while setting out the essential commercial terms to guide the parties during an interim period. In the construction industry, an LOI commonly authorizes a contractor or subcontractor to proceed with limited or preparatory work before a formal contract is signed, such as authorizing some limited work that needs to be performed early in the project or ordering long-lead time materials and equipment.

• Memorandum of Understanding (MOU):

  By contrast, an MOU is usually broader in scope and generally used to record mutual intentions or cooperative frameworks. While LOIs are most often used between an owner and a contractor or a contractor and a subcontractor, MOUs frequently appear in joint venture arrangements, development partnerships, or collaborations involving public authorities and private developers.

An LOI therefore carries greater potential to create enforceable rights and obligations, while an MOU generally serves as a statement of good faith.

When and Why Are LOIs and MOUs Used?

Construction projects often require early commitments to meet timelines and full construction contracts are lengthy and require negotiation. LOIs/MOUs allow limited progress while those negotiations continue, saving time and keeping projects on schedule. LOIs are especially helpful in situations such as:

• Fast-tracked projects where delays are costly

• Securing pricing, availability, or commitment from subcontractors

• Allowing site preparation or procurement to begin before contract finalization

• Clarifying intent during preconstruction or negotiation phases

Are LOIs or MOUs Legally Binding?

It depends. The enforceability of an LOI or MOU depends on the parties’ intent and the language used. To make such documents binding:

• Express Intention: State clearly whether the document is legally binding. For example, “This Letter of Intent is intended to create legally binding obligations regarding terms and payment for work performed prior to execution of the formal contract.

• Essential Terms: The more complete the terms (e.g., price, payment timing, scope, schedule), the more likely a court will enforce it.

• Authorizing Limited Work: If a party is expected to begin work or incur costs, the document should clearly state that and define the parameters.

• Reference the Formal Contract: State that all subsequent work will be governed by the final contract once executed.

Essential Terms to Include (While Keeping It Short)

These provisions help ensure both parties understand their obligations during the interim period. Even a brief LOI or MOU should include:

1. Parties Involved – Full legal names and roles (e.g., general contractor, subcontractor).

2. Project Description – Name, location, and Owner information.

3. Scope of Work – Description of the limited work authorized, such as a limited scope of work and placing orders for long-lead time materials and equipment.

4. Payment Terms – The pricing or payment structure during the LOI/MOU time frame and in the event a formal contract is not executed. This should address payment for the materials and equipment ordered under the LOI/MOU if no formal contract is ever executed.

5. Schedule/Timeframe – Related to the limited scope of work, if applicable.

6. Insurance Requirements – This allows both parties to understand the insurance requirements for the project to ensure they can be complied with prior to work commencing.

7. Binding Clauses – Make it binding pending finalizing the formal contract.

8. Intent to Contract – State that the parties intend to enter a formal agreement with mutually agreeable terms, but that the LOI/MOU is biding until that happens or until it is terminated.

9. Timeframe of LOI/MOU and Termination Rights and Process – Provides a deadline for the formal contract to be finalized and the ability to withdraw from the LOI/MOU if no formal agreement is reached.

10. Dispute Resolution – This should include a short process for resolving disputes during time period of the LOU/MOU and whether attorney’s fees will be available to the prevailing party.

11. Signatures and Authority – Used to ensure the document is executed by parties with appropriate authority to bind their organizations.

Common Pitfalls to Avoid

1. Unclear Binding Intent: Failure to specify whether the document is binding often leads to litigation.

2. Scope Creep: Allowing work to proceed beyond the stated scope can result in significant disputes and claims.

3. Missing Key Terms: Neglecting to define payment or termination rights can expose both sides to financial risk and inequitable outcome.

4. Overreliance on LOIs: Prolonged use without finalizing the main contract undermines commercial certainty.

5. Misuse as a Substitute for a Contract: These documents are not meant to replace formal contracts. Relying on them long-term is risky.

Conclusion

LOIs and MOUs are useful tools in the construction industry when used appropriately and with clear understanding. They help initiate work, secure commitments, and clarify intent before a formal agreement is signed. However, their legal effect depends heavily on their language and structure. To reduce risk, parties should always:

• Use precise, unambiguous language

• Limit the scope and duration of the document

• Ensure all parties understand their obligations

To keep out of trouble and ensure that the LOI/MOU covers your risks, it’s always a good idea to seek legal advice before relying on these documents to begin work.