When buying or selling a home a real estate, it is essential to understand what a contingency is.
What is a Real Estate Contingency Clause?
A contingency clause allows all parties to back out of the legal agreement if a certain set of circumstances are met.
Common Contingencies in Home Purchase Contracts
Some of the more common real estate contingencies can include:
- Home Inspection
- Appraisal
- Financing
- Mortgage
- Cost-of-repair
- Pending Sale
- Kick-Out
- Right to Assign
- Title Contingency
- Insurance
- Additional Elements (Furniture etc)
Of these contingencies, the most likely to cause a deal to fall through are the pending sale, inspection, and financing conditions (in that order).
Necessary Components of a Real Estate Contract
Before diving into any additions, we must first understand what components must be present in a real estate contract. Every real estate contract must include the following:
- The home details, such as address and description.
- The amount of the deposit and who will hold it.
- The sale price of the home.
- The terms of the sale which include the timeline and date of the closing.
- Any contingencies.
What Are Contingencies?
The basic meaning of contingent is ‘depending on the chance of something else happening’. It allows home sellers to move forward with a contract in good faith with the understanding that if something doesn’t go to plan, both parties have the ability to back out of the contract.
For a contingency clause to be valid, it must be both specific and quantifiable. For example, consider a situation in which a property has been wired incorrectly by the homeowner. If a contingency is laid out that the property must be ‘improved’ for the deal to go through, there is nothing measurable that can be done in order to satisfy the contract. However, if the contingency lays out that the junction box needs to be replaced and brought up to code, it allows for a definite set of circumstances that can be satisfied in order for the sale to proceed.
A contingency clause provides both parties with the ability to back out of a contract if a set of specific circumstances are met.
In this article, we will go over some of the more common contingencies used in real estate.
Note: While this article goes over some of the most common contingencies used when purchasing a home it is by no means comprehensive. You can create a contingency for any circumstance that has an element of uncertainty to it. However, it should be understood that the more contingencies you have, the less likely your offer is to be considered serious. If the real estate market is hot, sellers may only consider non-contingent offers.
As a buyer or seller, it is important to understand the potential contingency clauses that you may run into, which will help you understand the strength of an offer or the potential for the deal to fall through.
What is a Home Inspection Clause?
This is one of the most used contingencies in real estate and other contracts. As a result, you may hear the word ‘pending inspection’ in many different types of sales.
A home inspection or due diligence clause allows the buyer to have a professional home inspector look at the home within the set time period stated in the contract (typically within a week). This clause allows a home buyer to back out of the contract if there is a serious issue with the house. A home inspection clause also allows the purchaser to negotiate on the price if there is anything that needs to be fixed in the home.
A home inspector will look at all accessible areas of the home and can perform tests to check for hidden deficiencies that can affect the value of a home.
What does a home inspector look at?
Exterior
- Exterior Grounds – Check for faulty grading, standing puddles, or any eavestrough issues. They should also do an overview of any landscaping to ensure it is healthy.
- Structure – Check the foundation to ensure there are no glaring issues. Ensure that the house is not or has not settled. This is especially important in both newer homes that may still shift or older homes that may have more damage due to age.
- Exterior Structures – Sheds, decks, patios, and gazebos are the most common DIY projects. This means that they are often not built to code. Another thing to look out for is if an exterior structure is too close to or even over the property line (although your inspector will not check this for you, it is best to consult your RPR)
- Roof – A good home inspector should look at the roof from both the exterior and interior of the home. Check shingles, flashing, and fascia.
- Windows and Doors – Checking to ensure that newer windows and doors have been installed correctly and that older ones are still functioning properly with no leaks or drafts.
Interior
- Plumbing – An inspector should evaluate all pipes, drains, toilets, sinks, and water heaters. They should check temperature, pressure, and drainage to ensure that all plumbing works adequately. If an inspector detects a surface-level problem, you could have a specialist come in and take a look at anything that might not be obvious.
- Electrical – Inspectors should check that the visible wiring is up to code and in good shape. If your inspector detects some serious surface-level issues, you can request to have another inspector come and take a more in-depth look.
- Kitchen – An inspector will make sure that all venting leads outside, check the cabinetry, and ensure that proper safety measures are followed for electrical outlets.
- Appliances – Inspectors should check to make sure that all major appliances are working correctly. This may include washer, dryer, dishwasher, stove, fridge, and microwave.
Additional Tests:
- Fire Safety
- Lead Paint
- Asbestos
- Flooring Quality
- Noxious Gases
Note: While a home inspector can professionally evaluate a home, they may not be able to detect all issues. If there is something you a particularly concerned about, make sure to have them take a closer look.
How Serious is an Inspection Clause?
Depending on your market, an inspection clause may be part of almost every real estate deal, or if you are in a hot market, it may be difficult to purchase a home if it is pending inspection.
Note: If a homeowner is aware of a deficiency in the home, they must disclose it to the buyer.
How Often Does an Inspection Clause Cause a Deal to Fall Through?
As a home buyer, if an inspection clause causes a deal to fall through, it is likely for the best as it has uncovered something that may have caused you headaches down the road. However, a monetary value is typically assigned to either having or waiving the home inspection contingency. Therefore, if there are two offers with the same value, a home seller is more likely to go with the one that does not have an inspection clause.
The value of a home inspection clause depends on the nature of the home. For example, if a home seller has a newer home in good condition, they may care less if it is inspected. In this case, the value is just the opportunity cost of taking an extra week or so to close the deal. On the other hand, if a home seller has an older home, the value of an inspection contingency may be more significant as it may uncover something they would need to disclose to future buyers.
What happens after a home inspection?
If you have a traditional inspection contingency clause, after an inspection, you can approve the report and any minor deficiencies that may have been found. However, if something serious has been uncovered that needs to be addressed, you have multiple options available to you:
- Disapprove and Back Out – An inspection contingency is implemented so you can back out of a deal if something undesirable happens. In this case, a poor home inspection has uncovered something you have found unpalatable, allowing you to walk away from the deal. Since you have the contingency, you can back out of the deal without legal or monetary repercussions. Your deposit has been held in trust and will be returned to you.
- Request Additional Inspections – A home inspector will give you a surface-level inspection to the best of their professional ability. If they have discovered something that needs a closer look, you may need someone else to assess the issue. Examples of this would be signs of mould, surface-level electrical/plumbing issues that may indicate more significant problems, air quality issues, or anything that would require the destruction of property to assess (ex: wall removal).
- Ask For Repairs or Concessions – If your home inspection has detected an issue, you can still move forward with your deal if the seller makes concessions or repairs. Depending on the nature of the deal it may be easier to make a monetary concession, or you may have a seller that is more willing to do repairs. Ensure that all repairs are done to code. If repairs are not done or not done correctly, a buyer can back out of the transaction.
What is an Appraisal Contingency?
An appraisal contingency allows an independent appraiser to appraise the property and ensure that the buyer is paying fair market value for the home. Since a contingency must be quantifiable, if the appraised value comes in lower than the buyer’s purchase price, it will allow the buyer to back out of the deal, OR the seller may lower the purchase price to align with the appraised value.
Note: The home buyer does not need to share the appraisal with the home seller.
What should an appraisal contingency contain?
When using an appraisal contingency clause, it should contain language that allows you to receive your deposit back, a certain release date, and the date on which the buyer will need to inform the seller if they have any issues with the appraisal.
How serious is an appraisal contingency clause?
An appraisal is not a home inspection, so it will not detect underlying home issues. Most REALTORS® will be able to give a comparative market evaluation that is in line with what an appraisal would value the home at. In most cases, an appraisal contingency clause will be a regular part of gaining financing for a deal. However, there are some cases where a comparative market evaluation may not give the true value of a home.
These include situations where the home is:
- Unique – There is nothing to compare it to.
- Acreage – Due to the nature of these homes, it is harder to pinpoint a true value.
How often does an appraisal contingency cause a deal to fall through?
A home buyer, with the help of their REALTOR® should have a general idea of what a home is worth before making an offer. However, in most cases, a buyer will need an appraisal to gain financing for the home. If the appraisal comes in a lot lower than the purchase price, the deal may not have gone through due to financing issues.
What is a Mortgage or Financing Contingency?
In real estate, a mortgage contingency allows for the buyer to back out of the deal if they are unable to gain financing.
What does a finance contingency contain?
A finance contingency will contain the desired type of financing that the buyer wishes to obtain as well as any specifics related to the funding. It should contain the type, terms, and amount of time that they will require to obtain the financing. A financing contingency should also contain language about the return of the deposit and usually includes an appraisal contingency as well.
For some buyers, a financing contingency is absolutely necessary as without it, they could face stiff penalties if they need to back out of a contract because their mortgage does not come through.
How serious is a financing contingency?
For many home buyers who are close to the limit of what they might get approved for, a financing contingency is a necessity. Without a financing contingency, if the mortgage falls through, a buyer may be responsible for any income or hardships that the seller has encountered in addition to losing their deposit. A financing contingency is not that serious if you have a qualified buyer; however in a rising interest rate market there is a higher chance of financing falling through.
With two equal offers and only one requiring a financing contingency, the one without the financing contingency will seem more appealing.
Related: How to set a home buying budget
How often does a financing clause cause a deal to fall through?
If you have a qualified buyer with a home selling near market value, the likelihood of the financing contingency causing the deal to fall through is small. However, if your buyer is self-employed or at the edge of what they would qualify for, it can increase the likelihood of the deal failing to close.
What is a Cost-Of-Repair Contingency?
A cost-of-repair contingency clause is similar to the inspection clause with more quantifiable details. This clause allows the buyer to back out of a real estate deal if a home inspector looks at the home and finds issues in need of repair that are higher than a certain value. The value can be a dollar amount, such as $10,000 or it can be set as a percentage of the purchase price, like 2-3%. Your inspector will have to set a value for the estimated cost of repairs.
How serious is a cost-of-repair clause?
A cost-of-repair clause is very similar to a home inspection clause, except it is more specific in nature. If a home is in good condition, it is less likely to cause a deal to fall through. However, if there are many known issues with the house, it has a higher chance of causing issues.
How often does a cost-of-repair clause cause a deal to fall through?
The value of a cost-of-repair clause depends on the nature of the home. If a home seller has a newer home in good condition, they may not care if it is inspected, and the value is just the opportunity cost of taking an extra week or so to close the deal. However, if the home seller has an older home with many known issues, the cost-of-repair contingency might be a deal breaker. An older home that hasn’t been maintained properly can have one or many issues that will cost more to fix.
What is a House Sale Contingency Clause?
The majority of home buyers are looking to purchase a primary residence, which means that depending on their level of financial security, they may need to sell their first home before purchasing their next home. In this case, a home buyer would use a ‘house sale contingency clause’, which helps them avoid the risk of owning two homes with two potential mortgages.
With a standard house sale contingency clause, there are still costs associated with purchasing the home. The home buyer will still need to pay for home inspections, appraisals, bank fees, and other associated costs. However, they should receive their deposit back if their home doesn’t sell in the time period set.
Note: If you want to avoid the risk of using a house sale contingency clause, you can use Sweetly’s Swift Sale to become a power buyer.
Additionally, a home seller may apply a kick-out clause allowing them to back out of the deal after a certain period has passed.
How Serious is a Home Sale Contingency Clause?
Of all the contingency conditions listed here, a home sale contingency is the most likely to cause a deal to fall through. It can still vary depending on the market and home that the buyer is selling. In a hot market with a well-priced home, it is likely that the home will sell and the deal will go through. If the market is slower or the house is undesirable, it might not sell. Because of the inherent risk in accepting a deal with a home sale contingency clause, when you purchase a home utilizing this clause, you will likely have to pay a slight premium compared to other buyers.
If you’re using a home sale contingency clause, you may need to pay ~2% more than a similar offer with no pending sale conditions.
What is a Kick-Out Contingency Clause?
If a home buyer utilizes a subject-to-sale clause in their offer, a home seller will often use a ‘kick-out’ clause which allows the seller to back out of the deal after a set amount of time. A kick-out clause protects the home seller from being unable to sell their home if the home buyer cannot sell their home. The seller will give a home buyer a set period of time, such as 72 hours, to remove the home sale contingency from their contract. This allows the buyer time to sell their home.
If the buyer cannot sell their home in the provided amount of time, the seller may back out of the deal and continue marketing their home.
How Serious is a Kick-Out Contingency Clause?
A kick-out contingency is necessary if an offer comes with a subject-to-sale contingency clause. Most contracts with a subject-to-sale contingency should come with a kick-out clause.
What is a Right-To-Assign Contingency?
Used less with retail real estate, this contingency is often used with real estate investors looking to sell to another buyer quickly. In this contingency, if a buyer is not found or defaults, the investor or wholesale will be protected.
What is a Title Contingency?
Prior to a real estate transaction completing, a real estate lawyer or REALTOR® should conduct a title search on the property. A title contingency protects the buyer in case there is something such as a lien on the title. These issues must be found and resolved prior to the deal going through.
This type of contingency is quite important to protect the buyer in the event there is an issue with the title. However, most title issues should be resolved before the deal is close to being completed.
Sweetly’s Models
Sweet Sale
With the Sweet Sale, you get a Fair Price Cash Offer. It’s a fair offer that lets you sell without showings and choose your own moving day.
Start your sale with a Free, Fair Price Cash Offer, which remains open to you for 60 days. Activate our offer any time – even without listing/showing your home, or at some later date if your home isn’t selling. Compare our hassle-free, all-Cash offer to a traditional MLS® listing. Make an informed decision. Choose what’s best for you. Offers remain open to our customers for 60 days. Our offer is withdrawn if you list with an outside REALTOR®.
Listing With Confidence
A traditional listing allows you to test the market with your price. A listing with Sweetly comes with it’s own set of perks.
- Test the market with confidence, knowing you’ll have a Sweet Sale available if your home doesn’t sell.
Start with an fair price cash offer to know the current value of your home. Then, decide ‘how’ you want to sell, BUT before you do, you can shop at your pace to find the right house. Beat out any competing buyer because you won’t need a ‘condition of sale’ so your offers are stronger without spending extra money. Once you have a firm purchase you can sell your house to Sweetly on a day that works best for you.
