You may have heard the word contingency, but do you know what it means? Do you understand how they work? Do you know what the most common real estate contingencies are and how they affect your home sale? This post will explain all of that.
First, let's define a contingency. Investopedia gives a great, simple definition:
"A contingency defines a condition or action that must be met in order for a real estate contract to become binding. These become part of a binding sales contract when both parties (i.e., the seller and the buyer) agree to the terms and sign the contract."
There are standard categories of contingencies every seller should expect to see in an offer to purchase real estate: title, inspection, and - unless the offer is all cash - appraisal and loan.
Let's take a closer look at what all the common real estate contingencies do.
Title ContingencyAll offers to purchase real estate will say the buyer’s offer is contingent on the buyer finding the title to be satisfactory.
The language may read:
Buyer finding the state of the Property to be satisfactory to Buyer after reviewing all required disclosures and reports, including the preliminary title report.
In California real estate transactions, the escrow company delivers the title report to the buyer, and the buyer must have his or her review complete by the contingency removal date.
Typically the buyer will have the right to inspect the property and view your disclosures, including your termite report.
The inspection contingency clause may read:
The purchase is contingent upon Buyer finding the state of the Property to be satisfactory to Buyer after having a professional inspection of the Property and reviewing all required disclosures and reports.
The buyer doesn't have to move forward with the purchase unless they find the property to be to their satisfaction. This right gives the buyer a lot of power and disfavors sellers. That said, it is highly unusual for the seller to try to eliminate the inspection contingency clause. Instead, sellers should consider shortening the contingency removal date so that buyer's inspection contingency is short-lived.
If the buyer is obtaining a bank loan to purchase your property, you should expect there to be an appraisal contingency in your real estate offer.The language may read:
Purchase is contingent upon the Buyer receiving an appraisal on the Property at or above the Purchase Price from a certified appraiser.
Banks almost universally require an appraisal as part of approving a loan. To avoid the appraisal contingency as a seller, you generally need to find an all-cash buyer. That said, you can as a seller sometimes counter the appraisal contingency out of the contract and buyers will accept it. They will still have an appraisal done - they just will put up more cash and take a lower loan amount if the appraisal comes in low.
Loan ContingencyIf the buyer is using a bank loan to obtain part of the purchase price, you should expect a loan contingency, also known as a financing contingency or mortgage contingency, to be part of the offer.
The language may read:
Buyer’s offer is contingent on buyer obtaining an $[X] loan.
It is very rare for a seller to counter the loan contingency because most buyers who need a loan will not move forward without it. If you as the seller are uncomfortable with a loan contingency, you generally need to find an all-cash buyer.
What sellers do sometimes counter is the length of the loan contingency. Buyers often ask for the contingency to survive until the loan is funded. Sellers may counter that the contingency must be removed within 17 days of acceptance of the offer.
As a seller, the number one contingency to avoid is an offer contingent on the sale of another property. In other words, you generally do not want to get involved at all with a buyer who must first sell his or her own house before purchasing yours. There are some exceptions to this general rule, which you can read about in the link below.
Have unanswered questions regarding contingencies in an offer to purchase real estate? Ask us.