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A contingency defines a condition that must be fulfilled to close on a real estate deal and becomes part of a sales contract that binds both the buyer and seller when they agree to the terms. There are many contingency options for buyers to consider before drafting up an offer to buy a home.
With so many contingencies that you can choose to include in your offer, how do you choose the right ones? Let’s take a look at the more commonly used contingencies in real estate purchase contracts and how they can benefit and protect buyers.
What Is a Contingency?
A contingency clause in a real estate deal is a condition that must be met or waived before the transaction can go through. It gives the buyer the chance to carry out a specific task to ensure they’re fully protected before committing to the deal.
If no contingencies exist and the buyer chooses to back out of the deal, the buyer would be considered in breach of contract. The same would apply if contingencies are included in a real estate contract, but the buyer backs out of the deal after signing off on the contingency.
Real estate contract contingencies exist to protect the buyer (and the seller in some cases) so they don’t wind up with an extremely expensive purchase that they either cannot financially handle or are no longer interested in.
Many contingencies exist for buyers to include in their offers, but some contingencies are much more commonly used than others.
Top 4 Most Common Contingencies Among Homebuyers
While there are plenty of contingencies that buyers have available to them to include in their offers, the following are the most common.
Home Inspection Contingency
A home inspection contingency gives buyers an opportunity to have a professional home inspector scope out the property in great detail before the sale is finalized, and to either demand repairs or walk away if the home turns out to be in bad shape. Although buyers may have been able to tour the home once or twice before agreeing to put in an offer, they may not have had the chance to check out the home’s condition in great detail.
A home inspector will look for signs of serious or hidden problems with the home, such as faulty electrical wiring, issues with the roof or foundation, or signs of mold or pest damage. These issues can be very expensive to fix and may even compromise the integrity of the home. This is why it’s so important to be able to uncover these potential issues before going through with the transaction.
If an issue is discovered, buyers have a few options available to them:
- Ask the seller to have the issues fixed before the buyer takes possession of the home
- Ask the seller to reduce the price of the home to compensate for the cost of repairs
- Ask the seller for a credit to have the buyer make the repairs
- Walk away from the deal
If the buyer believes that issues with the home are too problematic to make the purchase worth it, as long as they communicate that they no longer want to complete the transaction before the expiry date of the contingency, they can get their earnest money deposit back.
One of the more important contingencies that homebuyers are encouraged to include in their offers is a financing contingency. This contingency helps ensure buyers don’t end up in breach of contract and lose their earnest money if their financing falls through.
It’s always recommended that buyers get pre-approved for a mortgage before they start the house hunting process. But being pre-approved does not guarantee final mortgage approval. Once an offer is accepted by the seller, the buyer will then have to arrange for final mortgage approval.
If things change between the time the buyer is pre-approved and when an offer is accepted by the seller, mortgage approval may be affected. For instance, a change in job, reduction in income, or additional debt could render the buyer no longer able to get approved for a mortgage for the same amount that they may have been pre-approved for.
With a financing contingency in place, a buyer is able to back out of the deal without financial consequences.
It’s important to have the title of a home assessed before a deal goes through. A title search will help uncover any issues with the title before ownership is transferred between the seller and buyer.
For instance, a title search will determine whether or not the party selling the home is legally permitted to do so. In some cases, the seller may not have their name on title at all, and in other cases, a second owner may have been left out of the contract. In the case of the latter, the second owner would also have to approve of selling the home.
A title search will also uncover any liens on the property that may exist, such as a construction lien or judgment lien. Regardless, the lien will have to be dealt with and removed before the ownership is transferred. If title issues show up, the buyer has a right to walk if this contingency was included.
Lenders typically require that a home is appraised to verify the current market value of the property and to ensure that they don’t lend any more against a property than what it’s worth. In the event that a borrower defaults on the loan, the lender can recoup their money if they’re forced to foreclose on the property.
An appraisal contingency is included in an offer to give the buyer the opportunity to have the home professionally appraised, which is typically part of the financing process. If the home does not appraise for the amount that the buyer agreed to buy the home for, the buyer will have the option to walk away from the contract without losing their earnest money deposit.
The appraisal contingency may be waived in some cases, such as when the buyer pays in cash upfront for the home without the need for financing.
Be Careful With Contingencies in a Hot Housing Market
Although adding contingencies should be seriously considered before putting in an offer to buy a home, they’re not always warranted. Some contingencies may not be relevant at all depending on the situation.
In hot real estate markets where bidding wars are the norm rather than the exception, contingencies may not be needed or recommended. That’s because the competition is so fierce that offers would likely not be considered if they have any contingencies in them at all.
Sellers in multiple offer situations have the luxury of being able to pick and choose which offer to work with. Those that are filled with contingencies may be tossed aside and not considered if there are any other attractive offers that don’t come with any contingencies at all. In this case, a deal can go through without the need to spend any time waiting for a specific task to be carried out before the contingency can be signed off.
It’s important to work closely with your real estate agent before completing your offer so that it’s both competitive and appropriate for your situation. Of course, if you are paying cash, you may not need certain contingencies at all.
Ready to Apply For a Mortgage?
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