Contingencies Basics

What are contingencies? These clauses are in the contract that provides you with an escape route in unforeseen circumstances. These clauses protect you from losing earnest money, and they give you leverage to negotiate with the seller. Contingencies can be a great advantage for buyers. Although they are not "get out jail free" cards,, they can be very close to being that and work in the buyer's favor. On the other hand, sellers don't like them so naturally. In a highly competitive market, you will likely need to reduce them.

Timing Is Everything

Every contingency has a deadline. While a "hard contingency" will require you to sign off physically to cancel, a "soft contingency," on the other hand, expires at a specific date. Your offer to buy will specify the method to notify the seller if you have to cancel your contract due to a contingency. You should also mark your calendar with the contingency dates and how they will be met. It is wonderful to be able to trust your escrow company and real estate agent to keep track. However, this is your home and your earnest money, so make sure you have a backup.

Primary Contingencies

• Disclosure Form: 

  Your acceptance of the seller's disclosure form will be the first condition. The exact disclosure requirements vary from one jurisdiction to another, but sellers will give you a brief time frame to provide you with a form in which they can disclose all material facts about the property.

  Many real estate companies require sellers to disclose even though it is not required by law. This is to protect them against potential lawsuits. However, you can revoke your offer if they fail to disclose within the time limit or if you feel the disclosure is too intrusive.

  A clean disclosure form does not mean that you can forgo an inspection. Although a seller might suspect that something is wrong, they may not actually know it. They may not be looking closely enough to find out what they are legally required to disclose. Inattentiveness is not a crime.

• Inspection: 

  You have the right to inspect the house within a time limit. You have the right to decide once you've received your inspection. If you don't find much, you can sign off and move on.

  You can ask the seller for credit or repair work if you have any. You can ask them to either agree to all the items or to counteroffer some, but not all, of the long list. You negotiate the repairs. You can cancel the agreement if you discover something really scary during an inspection. The inspector will not be liable for any money you have paid, but you can get your earnest money back.

• Home Appraisal and Loan Approval: 

  Pre-approval does not mean that the bank will wire the money. The bank will need to have an independent professional appraiser visit the house and take measurements and photos. The appraiser will prepare an appraisal report with an "appraised price" attached. Smooth sailing if the appraisal is at or above the sale price. Low appraisals are a sign of trouble.

  You have several options in the event of a low appraisal. First, if the purchase price is within the CMA (comparative marketplace analysis) range, the mortgage lender may request a second appraisal or override the appraise value to issue the original amount.

If this fails, an appropriately written appraisal contingency clause will allow you to renegotiate your purchase price, so it matches the appraisal. You have two options if the seller refuses to do this. Either you can add the difference in the appraisal and the sale price to your downpayment, or you can walk out, cancel the contract, and get your deposit back.

Many things could go wrong when financing a property. This is why there will be an overall financing contingency and not just an appraisal contingency. To search for any outstanding liens on the title, the lender will perform a title search. If the title search is not clear, your loan will be denied, and you have the right to cancel your contract.

Your loan could also be impacted by job loss or other financial catastrophes. This can be avoided by having a tight financing plan. Remember the timeline. Your earnest money will be at risk if the financing contingency expires before your loan goes through.

Tier-Two Contingencies

It's very unlikely that you will reach these contingencies in a hot market. However, these tier-two contingencies might be useful if there is a buyer's market.

• Selling Your Existing Home: 

  If your home is already for sale and you need the proceeds to purchase a new one, you can make the offer contingent upon the sale. This contingency can be used even if there is a buyer for your home already in escrow. Of course, you can lose your earnest money if sales fall through. This contingency, however, makes your offer less attractive to the seller in a competitive market.

• Homeowners Insurance:

  This insurance is not optional. Insurance can cost you more than you anticipated. This can be avoided by making the purchase conditional on a satisfactory Comprehensive Loss Underwriting Exchange report (CLUE) or upon you being able to get affordable insurance. Your agent might need to attach a rider, or an addendum, to your purchase contract.

• Homeowners Association: 

  You can create a contingency if you have any reason not to buy the house. You can write a contingency if there's a homeowners association that doesn't allow exterior colors or if there's any other reason you don't want the home. It's important to be clear about what it is that you value. Otherwise, only desperate sellers will want to take it on.