Home buyers are consumers. They have safeguards built in to written agreements such as a purchase contract on a home.
These buyers also have the right to either add or omit some of those available rights when their real estate broker drafts an offer. These are known as contingencies, or conditions, that require the buyer or seller to take an action or possibly a non-action as part of the overall agreement.
These conditional clauses can provide a measure of certainty and protection for buyers when so much is at stake. Among the dozen or so potential contingencies, five stand out and should be reviewed between buyer and broker before submitting a bid.
APPRAISAL
A home’s value is determined by a third-party expert known as an appraiser. This person represents the best interests of the mortgage company. If the value determined by the appraiser is less than the agreed offer price, the financial institution will not approve the full amount of the mortgage. Why? A loan that’s greater than the home’s value would lead to banks facing extreme risk should the owner stop paying the mortgage.
If the appraisal amount is lower than the agreed price, the buyer is responsible for coming up with the difference. For example, if the appraisal is $800,000 and the asking price is $1M, the bank will loan no more than $800,000 and the buyer would be responsible for the additional $200,000 to purchase the property. (Lenders also typically require a minimum 3.5% of the offer price for a down payment.)
The appraisal contingency covers the buyer in this scenario and allows the deal to be terminated. Assuming the buyer followed the rules of the contract contingency, he/she would get the earnest money back and the deal is off the table – all thanks to this important condition. (More on appraisals.)
FINANCING
The financing contingency is critical for the buyer. This clause states the offer is conditioned on the buyer’s ability to obtain financing to purchase the home. (This and the appraisal contingency do not impact buyers who pay for a home with cash.)
Buyers have a measure of security that they can exit the agreement without consequences if they, in good faith, try to get a mortgage within the timeframe stated in the contract. If the buyer cannot get approval for a mortgage, the deal is off and the earnest money would be returned.
INSPECTION
While the first two contingencies are extremely important, I like to think this one is the most critical. Nobody wants to buy a “lemon” – whether it’s a car, boat or home – and findings from a licensed inspector can be a savior for buyers.
A home inspection report, typically delivered by a buyer-procured expert after making an on-site visit, will provide the consumer with a detailed report of the property as well as recommendations on whether the issues noted are BIG, medium or small.
Buyers essentially have three options when handed the inspection report: Ask sellers for a discount to help with necessary repairs after move-in, accept the original offer and make the repairs yourself or back out of the deal within the stated time and have the earnest money refunded. (More on home inspections.)
TITLE
The title is the piece of paper that proves ownership of the property. One common issue is when a homeowner owes money to a business, individual or the government, where a lien is attached to the title that prevents the home from being sold until the matter is resolved.
Many such cases – for example, when someone fails to pay alimony or child support – will be noted on the title. The failure to pay taxes or a municipal utility bill will also halt the sale until addressed.
The title company hired by the seller to help complete the transaction is responsible for highlighting unusual items tied to the title. Buyers can also take time – typically 5 days after mutual acceptance – to have a lawyer review property ownership documents for potential issues. (More on Title review.)
OPTIONAL CLAUSES
There are several optional contingencies that the Northwest Multiple Listing Service (which serves Western Washington) offers to buyers. They include a chance for buyers to request the home is cleaned before taking occupancy and that the seller’s personal property be removed.
One of the more notable optional clauses affects consumers seeking to buy into a Homeowners Association. An HOA typically has a wealth of documents related to both the community at large – whether a traditional high-rise condo or gated community – and the property for sale. If included in the offer, buyers can review those materials – finances or covenants, conditions and restrictions (CC&Rs), for example – for a defined period after receiving the documents from the HOA Board. (More on HOA documents.)
Any one of these – and other – items within this one MLS form can be checked and submitted with the offer. This, along with other contingencies, can allow buyers time to review and possibly back out if unsatisfied with the situation.
BONUS: HOME-SALE CONTINGENCY
In some cases, buyers wish to purchase a home contingent on the successful sale of their own home. That will allow buyers to use the proceeds of the sale toward their next purchase. This contingency is typically seen when buyers have more leverage (a buyer’s market) and when they have no other means to afford their purchase.
In these instances, a home-sale contingency is the best solution for consumers wishing to buy and sell at the same time. If buyers are unable to sell their home within the specific time, they can back out of the deal without being penalized. Sellers typically do not want to be held “hostage” until their buyer’s home finds a buyer and closes the transaction – a period that could take several months to complete. (More on home contingencies.)
Buyers should explore some – or, frankly, all – the above relevant contingencies when developing an offer. Speak to a trusted, real estate professional (like me!) to discuss all options.