Contingency clauses that outline additional conditions that must be met before a sales contract is enforceable are often part of a sales contract. Both buyers and sellers can add contingencies to a contract. A contingency clause must include three pieces of information, including:
- The actions necessary to satisfy the contingency
- The time frame for addressing it
- Who pays the costs associated with addressing it
Contingencies create a voidable contract, in that a contract can be voided if the contingencies are rejected or not satisfied. It’s also important to note that a contingency stays in effect until it is satisfied, until its termination date, or until it is released by either the buyer or seller (depending on which party added it to the contract).
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Some of the more common contingencies include:
- Home inspection
- Wood-destroying pest inspection
- Roof inspection
- Sewer inspection
- Early occupancy
- Preliminary title report
- Homeowner association documents
- Contingent on selling existing home
Let’s take a closer look at some of these:
The seller can either return the earnest money and put the house back on the market or renegotiate the price in order for the sale to move forward.
An appraisal contingency gives the buyer the opportunity to legally pull out of the deal in the event the house doesn’t appraise at the agreed-upon sale price. Without an appraisal contingency, the buyer may still need to get the property appraised to use mortgage financing. If the house is appraised for less than the agreed-upon sale price, the buyer may not be able to get the financing he needs to purchase the property. What’s more, the buyer may not be able to get all his money back if he has to pull out, because the seller may insist on keeping some or all of the earnest money deposit to pay for lost market time.
Most purchase contracts include a finance contingency, or mortgage contingency, that allows the buyer a certain period of time (usually 45 days) to arrange for financing. If the buyer cannot obtain the specified financing within a certain time frame, the buyer can be released from the agreement, the deposit is usually returned, and the property is placed back on the market. Unless the buyer doesn’t need to secure a mortgage (i.e. can pay all cash), this is another contingency that really shouldn’t be waived.
There are several variations of this contingency in use. In the most common type, the contingency states that the buyer has a certain number of days to secure a firm loan commitment. If that deadline passes, and the buyer doesn’t terminate the contract or request an extension (which the seller must grant in writing), then the buyer has committed to purchasing the home.
Without a finance contingency in place, a buyer who, for whatever reason, is unable to secure financing may lose her earnest money deposit.
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If a buyer wants to purchase a home but needs to sell his current home to come up with the needed funds, you can insert a sale of existing home contingency into his offer that makes the entire transaction dependent on a successful sale of the home he now owns. It’s important to keep in mind, though, that sellers and their agents frequently balk at this, because it could delay the purchase for months. If your clients are competing against other offers, this type of clause may be enough to knock them out of serious consideration.
This type of contingency can take various forms, but two common ones include:
- The seller accepts the offer but keeps the property on the market. If a better offer comes in, the seller provides the first buyer with a 72-hour first-right-of-refusal notice to remove the contingency.
- The seller accepts the offer, takes the property off the market, and waits for the buyers to sell their existing home.
Sellers may opt to add a clause of their own stipulating that the sale is contingent on their finding a replacement home. This might be necessary if, for example, the sellers decided to wait on finding a new home until they sold their existing one.
The language for this type of clause is especially important; after all, no buyer is going to want to wait for months and months while the seller shops around for a new home. Make it clear that the contract is contingent and include a time frame. For example, state that the offer is contingent on the seller signing a purchase agreement to buy a replacement home. In addition, include a reasonable amount of time (such as a few weeks) for the seller to find a new home, after which point, it is expected that the seller will withdraw the contingency or cancel the contract.
A title contingency provides the buyer with options in case there are problems with the title. The title to a house is the document that proves that the owner owns it. Without that proof, the house can’t be bought or sold. Title insurance is written by title insurance companies that research the history of the house to see if there are any complications in its ownership. If the title appears to be clean, the insurer writes a policy promising to cover the expenses of correcting any title problems discovered after the sale.
In some cases, though, the research reveals issues that cloud the title. These issues can include an outstanding old mortgage, a previous deed that wasn’t signed or written correctly, unresolved legal debt or levy by a creditor, an old lien placed by a contractor who once did some repair work, and so on. Title companies may refuse to insure such a title to be transferred, so it’s important to know about any potential issues as soon as possible.
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Risks Associated with Removing Contingencies
Some buyers worry that contingency clauses will weaken their offer’s chance of acceptance. Some home buyers are also tempted to dump their contingencies in order to win a bidding war.
As a real estate professional, our job is to look out for our client’s best interests. This means that we help our clients understand the benefits of including contingencies, as well as the risks associated with not including them. On the seller side, we do our best to negotiate the best offer with the best terms for them, which sometimes means eliminating certain contingencies in order to make the deal more attractive by reducing risk.
Contingencies give our buyer clients an out—a way to legally walk away from a deal without losing all of their earnest money deposit. On the seller side, contingencies are pretty standard unless a property is very competitive leading some buyers to get rid of some or all contingencies. Either way, we make sure that our clients understand the risks they’re exposing themselves to if they opt to waive or remove a contingency, and we explain the pros and cons of certain contingencies to our sellers.
Hope you found this information helpful 🙂