Does Your Next Deal Need A Financing Contingency?

Real estate contingencies are included in real estate contracts for one simple reason: to act as additional safety measures for what will likely amount to the largest purchase of one’s life. More importantly, however, contingencies act as a proverbial safety net; one that’ll prevent both buyers and sellers from making mistakes they’ll soon regret. They can vary significantly from deal to deal, and are merely the byproduct of unique circumstances surrounding each individual associated with a respective transaction. It is worth noting, however, that there is one contingency more common than perhaps any other: the financing contingency. Due, in large part, to each and every deal’s dependency on financing, financial contingencies are common place, which begs the question: Does your next deal need a financial contingency?

What Is A Financing Contingency?

As its name suggests, a financing contingency is a clause added to real estate contracts by prospective buyers that prevents a deal from moving forward if predetermined financial criteria aren’t met. Today’s most common financing contingencies, for that matter, state that the offer is contingent on whether or not the buyer can actually come up with the proper financing to secure the property. In other words, the purchase and sale agreement will only move forward in the event the buyer can acquire the funds they need to pay for the home.

According to Zillow, there’s a simple reason most buyers favor the financial contingency clause: “to establish a set period of time to apply for a mortgage and/or close on the loan.” The contingency itself acts as a buffer; one that gives buyers an appropriate amount of time to find the funding they need. Perhaps even more importantly, as I already alluded to, the financial contingency will protect the buyer from having to move forward with a deal if they can’t secure funds. The buyer won’t be penalized for backing out of the deal.

A financing contingency is only as strong as its underwriting; that’s an important distinction to make. Most financing contingencies will vary in how they depict stipulations and specifications. Therefore, it’s of the utmost importance that your own financing contingency is worded clearly. I recommend working with a real estate lawyer that’s well versed in purchase and sale agreements, as to make sure your own financing contingency holds weight.

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Other Loan Contingencies

The financing contingency clause is, far and away, the most common contingency featured in today’s purchase and sale agreements; however, it’s not the only one. There are several contingencies buyers and sellers shouldn’t be surprised to see in their own contracts, not the least of which include the following:

• Appraisal Contingency: Appraisal contingencies are exercised in the event a home appraises for a surprisingly different amount than the offer a buyer made on it. Most buyers will include an appraisal contingency to protect themselves from buying a home that appraises for less than their initial offer.

• Home Inspection Contingency: A home inspection contingency, as many would surmise from its name, is a contingency put in place based on the results of an impending inspection. In other words, a properly executed inspection contingency would allow the buyer to back out of a deal if the inspection reveals anything that makes them feel uncomfortable.

• Home Insurance Contingency: Lenders, and sometimes even the seller, will require buyers to apply for and obtain homeowners insurance. Furthermore, this condition will typically be added in the home sales transaction contract, with fulfillment of the conditions and requirements in the term completed during the escrow process.

• House Sale Contingency: A house sale contingency is a real estate contingency clause that can help protect the buyer. If the buyers are unable to sell their current home, or for at least the asking price, within the specific amount of time are able to back out of the deal without being penalized.

Waiving The Financing Contingency: Yes Or No?

Whether or not you should waive the financing contingency is completely dependent on your own circumstances. In other words, there is a time and a place to waive a contingency clause, and there’s also a scenario in which a contingency clause is absolutely necessary. That said, it is almost always better to err on the side of caution, which would support the idea of a contingency clause more times than not. As I already said, contingencies are safety measures, so you had better have a good reason for removing one of the most important safety measures in today’s marketplace. Likewise, there are times when it may actually benefit buyers to waive any contingencies they may be in favor of, which begs the question: when should buyers waive their financing contingency?

To be perfectly clear, financial contingencies exist to protect buyers, so it’s safe to assume removing one from your own purchase and sale agreement exposes you to more risk. Therefore, it only makes sense to waive a financial contingency when the rewards outweigh the risks. More specifically, it may be worth waiving the contingency if it actually lands you the deal. It is entirely possible that waving the contingency will help you edge out the competition, which could be worthwhile. But again, doing so can expose you to significant financial risk, so know exactly what you are getting into before removing such a contingency from your own contract.

A properly executed financing contingency is one of the most important tools buyers should know how to use. Drafted correctly, a financing contingency clause could easily keep buyers from making a mistake they regret immediately. They are relatively simple to include in a purchase and sale agreement; there’s almost never a reason not to include one, but I digress. There are select times when it may benefit a buyer to waive their financial contingency clause, but they are few and far between. The trick, however, is not only know how to use one, but also when to use one. Hopefully this guide make the decision easier for you on your next deal.

Key Takeaways

• • • A good financing contingency can protect buyers from making a catastrophic mistake in the event they aren’t able to secure a loan.
    • Your next purchase and sales agreement may benefit from its own financing contingency clause.
    • Waiving a financing contingency clause isn’t always recommended, but there are times when doing so may be beneficial.