In broad terms, a home sale contingency clause outlines “condition or action that must be met for a real estate contract to become binding” (investopedia.com). A contingency becomes part of a binding contract when both the buyer and seller agree to the terms and execute (sign) the contract.
On the whole, these contingencies protect the buyer in the event of an unforeseen obstacle in the process. There is a wide range of contingencies in the real estate process. Read on for the four most popular home sale contingencies and what they mean for you as a buyer.
The Home Inspection Contingency
With the home inspection contingency, a certified home inspector will examine the home’s structure and home systems (think HVAC, electrical, etc.) that may not be obvious to the buyer. You’ll receive a report on any issues that are discovered and how to remediate them. You’ll then be able to negotiate with the seller on how to handle the repairs. Typically, the seller will agree to fix some or all of the issues or offer a financial credit that will help offset the cost of the repairs. However, if you and the seller cannot reach an agreement on how to handle the repairs, the home inspection contingency allows you to walk away from the deal. Additionally, the report could show a major issue that would “break the bank.” Utilizing this important contingency can save you from a major financial hit and/or making a poor investment.
Keep in mind that you can also order other inspections such as radon, termite, lead paint, well and septic, and mold. Any of these inspections can warrant their own contingency. Read more on the home inspections here.
The Appraisal Contingency
If you’re securing a mortgage to purchase your new home, this contingency will come into play, as it is almost always required by lenders. This contingency protects you — and your lender — in the event the home’s agreed-upon sales price exceeds its appraised, or fair market, value. In hot markets, the appraised value of a home can be lower than the price you negotiated with the seller.
For example, if you’ve successfully negotiated a sales price of $725,000 for a home but the appraisal comes in at $700,000, your lender will only make the loan based on the $700,000 price and you’re responsible for the difference. When this situation occurs, you have a few options. Ideally, you and the seller will renegotiate the sale price. Alternatively, you could secure additional financing for the difference. However, if neither of these approaches works, you can make use of the appraisal contingency which allows you to walk away from the deal without any penalty.
Read more on the appraisal contingency here.
The Financing Contingency
This important contingency allows you the time to apply for and secure a loan for the new home. The contingency states that if you’re unable to receive financing — for whatever reason — you have the right to back out of the sale.
Buyers can run into financing problems in the underwriting stage. When a mortgage is in this stage, an underwriter will closely examine your financials and provide the conditions that you need to meet in order to receive the loan (for example, showing the source of certain funds). If you’re unable to meet the conditions or if there’s an issue with your financials, the mortgage company can deny your loan. If that occurs, you can use the financing contingency to walk away from the deal. This contingency saves you from trying to secure alternative financing in time for settlement.
Learn more on the financing contingency here.
The Home Sale Contingency
Buyers use this contingency when they need the equity from their current home in order to purchase their new home. It allows you a set amount of time to secure a buyer for your current home. If a buyer is not found within that window, you can walk away from the contract without any penalty or loss of your earnest money deposit. In today’s hot sellers’ market, this contingency is not used very often, as it can weaken an offer. That said, it certainly remains a popular option for many buyers.
You can learn more about this contingency here.
The Bottom Line
These four most popular home sale contingencies are meant to protect you as the buyer. While no buyer enjoys walking away from a home they’ve fallen in love with, these contingencies provide a level of protection from major financial loss and countless headaches. Talk to your Realtor about the contingencies that make the most sense for your particular situation.
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