Buying a home is a long process that involves a lot of money. It’s not uncommon for issues to come up that may make you rethink your decision. Contingencies offer protection against these issues, minimizing the stress surrounding a real estate transaction.
Knowing when to include contingencies — and when to waive them — can help ensure that you experience a smooth homebuying journey while still making an attractive offer.
Here’s what you need to know about contingencies in real estate:
- Defining Contingencies
- Different Type of Contingencies
- Pros and Cons of Including Contingencies in an Offer
- How Contingencies Protect Buyers
- How Contingencies Protect Sellers
- Can Contingencies Make Your Offer Less Attractive?
- Should You Waive Contingencies?
- FAQ: What Is a Contingency in Real Estate?
- The Bottom Line on Contingencies in Real Estate
In real estate, a contingency is a condition that must be met before the home purchase becomes legally binding. Typically, you’ll include your desired contingencies in the purchase and sale agreement. Contingencies allow you to back out of buying the home and keep your earnest money if they aren’t fulfilled.
Choosing which contingencies to waive is a balance between making a competitive offer and protecting your investment from unforeseen issues. Including too many contingencies can slow down the homebuying process and make your offer less desirable to sellers.
How contingency clauses work
Contingencies work by providing requirements for the completion of a real estate transaction. If a requirement isn’t met, you can renegotiate the terms of the deal or walk away entirely.
When you sign a purchase and sale agreement, you’re committing to a real estate transaction. If you try to back out without good cause, then there can be legal and financial ramifications. Contingencies help protect you from issues that may arise during the homebuying process.
For example, one of the most common contingencies is the financing contingency, which states that the buyer must secure a mortgage the purchase can be completed. If you can’t qualify for a loan, you may back out of the deal.
Keeping your earnest money deposit
Taking a home off the market, only to relist it when the buyer backs out, is a hassle and can significantly slow down the process of selling a home. That’s why sellers want to make sure that buyers are serious. Buyers show they’re serious about purchasing a home by offering earnest money, also known as a good faith deposit.
If you walk away without good cause, then you could lose your earnest money. However, if a contingency isn’t satisfied, then you can cancel the deal and get your earnest money refunded. The earnest money will be applied to your down payment or closing costs if the transaction proceeds smoothly.
How long do contingencies last?
Contingencies last throughout the closing period, which is between 30 and 45 days.
Different Types of Contingencies
Buyers and sellers can add anything they want as a contingency in a real estate transaction. However, most deals only include several standard contingencies.
Home inspection contingency
A home inspection involves a professional inspector examining the home and putting together a report that describes any problems they have identified.
The home inspection contingency can spell out a maximum amount that the buyer is willing to pay in repair costs. If the inspection finds costly issues, then the buyer can request compensation or cancel the purchase.
During a home appraisal, a professional appraiser determines the fair market value for a home based on factors such as recent sales of similar properties, market trends, and the home’s features. Mortgage lenders commonly require an appraisal to ensure the property’s value will secure your home loan.
The appraisal contingency requires the home to appraise for a minimum amount. If the appraisal comes in low, then the buyer can renegotiate a lower price or back out without penalty.
A mortgage contingency, also known as a financing contingency or a loan contingency, requires the buyer to qualify for a mortgage loan. If the buyer makes a reasonable effort to qualify for a mortgage but is unable to, then this protects them from having to come up with the cash to buy the property.
A home’s title represents its legal ownership. The title contingency requires the seller to provide a clear title, free of any liens or other claims to the property, before the transaction goes through.
Home sale contingency
If you’re in the process of selling your previous home, and you plan to use the proceeds to help pay for a new one, you could include this contingency in your offer. The home sale contingency states that the buyer can back out of the purchase if they aren’t able to sell their home by a deadline.
Homeowners insurance contingency
The homeowners insurance contingency states that the buyer must qualify for homeowners insurance before they purchase the home. This can be an issue in areas prone to natural disasters and for homes that aren’t properly maintained or updated to withstand things like hurricanes.
Pros and Cons of Including Contingencies in an Offer
Contingencies can help protect both the buyer and the seller during a real estate transaction, but they can also add uncertainty to the process.
Advantages of contingencies
- Gives either side the option to back out of a deal without legal consequences.
- Protects the buyer’s earnest money deposit.
- Offers more flexibility to negotiate the details of a transaction.
Disadvantages of contingencies
- An offer with more contingencies can appear less appealing.
- More uncertainty because the buyer or seller could back out before closing.
- The closing process can take longer.
How Contingencies Protect Buyers
Many things can go wrong for buyers, such as struggles to come up with financing or the discovery of significant problems with the property right before closing. The right contingency will allow the buyer to cancel the transaction without penalty.
“For the most part, contingencies are put in place to protect the buyer,” says Emma Falconer, a Charleston, South Carolina-based Realtor.
How Contingencies Protect Sellers
While most contingencies benefit buyers, contingencies can also help protect sellers.
“If a seller wants the sale contingent on finding a new home, this allows them the time necessary to get their things in order,” says Tomas Satas, a Chicago-based real estate investor and house flipper. “The buyer has to be patient but won’t lose the house altogether.”
Can Contingencies Make Your Offer Less Attractive?
Contingencies can add uncertainty to a real estate transaction and lengthen the timeline. If a buyer puts too many contingencies in place, it can make their offer less attractive to the seller — especially in a seller’s market, where homes are in short supply and high demand.
“Contingencies only make an offer less attractive if the contingency could kill the deal,” Satas says.
Should You Waive Contingencies?
Waiving contingencies can be dangerous for buyers because you’re giving up protection. However, doing so can make your offer more enticing.
“I discuss with my buyers the reasonable amount of contingencies on the property that entices the seller with a strong offer but protects the buyer from ratification to closing,” Falconer says. “For example, if a buyer plans to pay for the property in cash if they can’t obtain a mortgage, then I would recommend waiving the financing contingency to create a stronger offer. If the buyer needs the proceeds from the sale of their own property, then a home sale contingency is necessary to protect them.”
In very hot markets, waiving contingencies might be expected.
FAQ: What Is a Contingency in Real Estate?
Here are the answers to some frequently asked questions about contingencies.
A contingency is a requirement that must be met before a real estate transaction continues. A contingent listing means that the seller has accepted an offer and signed the purchase and sale agreement, but the offer came with contingencies and could fall through.
Less than 5% of contingent offers fall through, which isn’t often.
A contingent offer is when both parties have agreed to a real estate transaction, but there are still contingencies that haven’t been satisfied. A pending offer describes a situation where both parties have agreed to the transaction and satisfied all the contingencies in the purchase and sale agreement.
The Bottom Line on Contingencies in Real Estate
Contingencies are an important tool for both buyers and sellers to protect themselves from common issues in a real estate transaction. However, keep in mind that including too many contingencies can slow down the transaction or make an offer less appealing in a hot market.