Looking at a real estate purchase agreement can be overwhelming…Even the name of the contract is an unnecessary mouthful (Residential Purchase Agreement and Joint Escrow Instructions). Each page is full of confusing terms & dense explanations. One area of a contract that a majority of people have trouble comprehending is the “contingency clauses.”
According to Investopedia: “A contingency defines a condition or action that must be met in order for a real estate contract to become binding. These becomes part of a binding sales contract when both parties (i.e., the seller and the buyer) agree to the terms and sign the contract.”
Basically, a contingency is generally put into a contract as a way for the buyer to back out of a sale if something goes wrong without losing their full deposit.
There are two main kinds of contingency clauses within a Residential Purchase Agreement there are :
- Appraisal Contingency: This requires hiring a third party to determine the current fair-market value of the home. If the appraised value is lower than the sale price, the buyer is given the option to cancel the deal. Buyers still have the option to move forward with the sale , but should remember that a lender will only provide money based on the APPRAISED COST, not the agreed upon sale price. You could also chose to waive this contingency entirely when writing an offer, but this could drastically raise the amount you pay out of pocket.
- Home Inspection Contingency: This allows the buyer to have the home professionally inspected and then, based on the inspection results, to request repairs to be made by the seller. If the seller refuses to make the requested fixes, the buyer is given the option to back out of the sale. A good home inspection looks for major issues (such as foundation problems or mold), but also examines the functionality of the home’s major systems (such as water heaters). Again, a buyer could choice to waive this contingency clause but we generally do not suggest it.
It is important not to confuse these contingency clauses with a contingent offer!
A contingent offer is an offer that is reliant on the sale of your buyer’s home. Generally speaking, contracts contingent upon the buyer’s sale of his home do not even enter escrow and or being inspections, appraisals, etc until the buyer actually sells his/her home. We suggest caution when it comes to accepting a contingent offer for a few reasons:
- Once you accept a contingent offer, the MLS will require your to change the status of your listing.. meaning that it will be listed as “pending” or “contingent”rather than “active”. While this does not completely remove your home from search sites, it will limit it’s visibility or marketability. Buyers and agents are less willing to take the time to see or make offers when a home is not 100% available, which makes it more difficult to line up a back-up buyer.
- It is stressful enough worrying about selling your own home.. but accepting a contingent offer means that you are now dependent on the sale of second home. You also have no say in how this home is marketed or how proactive the owner’s/owner’s agents are being. This scenario could increase your stress level, drag out the sale of your home and culminate in a frustrating outcome.
However, there are exceptions to the general rule.. and each situation must be evaluated individually. For example, if the buyer’s home is in the last stages of escrow then accepting their contingent offer is a much lower risk. It might be worth considering if it is your only offer OR if their offer is significantly better than any other offer you have.
In general though we suggest to avoid contingent offers by asking the buyer to remove the sale contingency and replacing it with a longer escrow. This gives the buyer more time to sell their home, but compensates you for your time by allowing you to keep their deposit. If the buyer is unwilling to do so, you could always suggest that the buyer resubmits an offer once his or her home is sold.