Contingency: What it means and how it works
Taking on the challenge of a home purchase can be stressful thanks to the countless details and built-in unpredictability. Whether you’re selling or buying, real-estate deals involve a long, meticulous process full of time-sensitive transactions and critical payments, leaving plenty of opportunities for delay and miscommunication.
While you might have all your bases covered, you won’t get that certainty from the other interested party. If a seller were to pull their home from the market, or a buyer back out of a sale, you could be left with an expensive waste of time.
To make up for this uncertainty in real estate, a home sale’s progression is always “contingent” on the completion of a related transaction.
Contingency in mortgages
The word “contingent” means that something will only occur if certain circumstances are met. For example, a college acceptance letter might be contingent on the student completing high school with a minimum GPA.
In real estate, each stage of the mortgage process is contingent on some other condition being met. This is known as a contingency clause, and defines certain aspects of the home sale that must be completed in order for the contract to become binding.
These contingency clauses give the buyer or seller the right to walk away from the sale if previously agreed upon circumstances don’t come to fruition. Some of the details included in a contingency clause might include a requirement for the type of mortgage taken out, set time frames and specific financing terms.
For example, a seller might allow you to inspect the home within a 14-day period. If you aren’t able to conduct a home inspection within those two weeks, you will not have met the contingency laid out in your original contract. This would make that contract null and void, opening up the option for your seller to back out of the deal without legal ramifications.
On the flip side, if you do meet all of the contingency checkpoints and your seller still backs out of the real estate deal, they could face legal consequences.
Contingencies in real estate hold both parties equally accountable, and any noncompliance toward the original agreement can qualify as a breach of contract. Once a contract is voided, both parties could lose any funds held in escrow or face additional lawsuits.
Before you sign on to buy your next home, be sure to understand your own obligations and how a contingent real estate deal operates.
What are common contingencies?
By structuring the transaction in conditional stages, everyone involved in the sale can be sure the next phase will go through without cancelation or delay from other parties.
- Home inspection contingency
- Mortgage contingency
- Appraisal contingency
- Title contingency
- Home sale contingency
Home inspection contingency
Most real estate sales are contingent on a property inspection. These inspections, scheduled by the buyer, involve an examination of the property’s interior and exterior in order to detect any issues with the condition of the home.
Repairs for electrical, plumbing, or structural issues are very expensive and can drive down the value of a property. You and your lender will want to know about the possibility of these unexpected costs, making home inspections a key component of contingent real estate deals.
Any issues discovered during the home inspection are included in the inspector’s report, which is eventually handed over to the buyer. The buyer will then decide how to proceed with the deal based on the terms of the home inspection contingency.
Depending on the options laid out in the original contract and the severity of any issues found, the buyer can either move forward with the deal, request an additional inspection, reopen negotiations with the seller, or back out of the deal entirely.
Mortgage contingency
As a buyer, you might provide your seller with an earnest money deposit at the beginning of the home sale agreement. Earnest money is used to show the seller that you are serious about making the home purchase and is used as a show of good faith before financing is secured.
If you aren’t able to secure a loan, your earnest deposit will be protected thanks to the mortgage contingency clause. Also known as a finance contingency, this aspect of your real estate contract gives the buyer a set timeframe to secure a mortgage loan.
The end of this period acts as the buyer’s deadline to either cancel their purchase or request a time extension, which must be agreed to by the seller.
If the timeframe passes and the buyer hasn’t backed out of the sale, contingency will be waived. In this scenario, the buyer could lose their earnest deposit and might be legally obligated to move forward with the purchase, even if financing isn’t secured.
Appraisal contingency
Before a lender approves financing for your new home, they’ll require an estimation of the home’s value, known as a home appraisal. As a way to ensure the purchase price is in line with the fair market value of the property, home appraisals establish a fair value for the home based on the condition of the property and local real estate market.
An appraisal contingency allows you to legally back out of a sale if the appraised value of the home comes back lower than the seller’s asking price.
If the appraiser’s estimate comes back below the seller’s asking price, you might have to cover the difference yourself. Your lender will only be able to finance the appraised value, so a higher price can’t be covered by a loan. If the seller won’t agree to a renegotiated asking price, you’ll be able to cancel the home purchase without legal consequences, thanks to the appraisal contingency clause.
Title contingency
If ownership of the home is contested and the issue can't be resolved before closing, title contingency gives you the option to leave the sale behind. If any liens or easements are in the home’s public record, they’ll be revealed through the property title search. This search ensures that any discrepancies related to the title will be uncovered before the sale moves forward.
If the title of the home is contested, the buyer could be looking at a long and litigious process to clear up the issue.
Rather than investing valuable time and resources into a drawn-out ownership dispute, it might be a better idea to start looking for a different home. Title contingency allows you as the buyer to walk away from the sale without legal consequence when title disputes are an issue.
Home sale contingency
In order to move into your new home, you might need to sell your current one. As a common feature of real estate contracts, home sale contingency makes sure that the new home cannot be purchased until the buyer sells their current home.
If the buyer’s home isn’t sold by a specific date, the sales contract can be terminated.
In conclusion
Contingency in real estate helps keep all parties honest and responsible throughout the multifaceted homebuying process. The extra certainty allows the purchase to move forward with trust and good faith that the sale will be closed on time.
Be sure to understand all of your mortgage’s contingencies and pending status before jumping in to a contract.