How to Use Contingencies
Everyone is familiar with the conversation where the other person says, "Yes, but.." This person is agreeing with you but only if certain conditions are met.
A purchase agreement is similar in that you are agreeing to buy a property subject to certain things being met. The conditions you set are called contingencies.
It is uncommon to have a purchase agreement without contingencies. In fact, contingencies are an essential part of many offers. In general, contingencies are added to protect you (the buyer) but may also serve to protect the seller.
All of the contingencies of a purchase agreement must be met before the sale can be competed.
What are some Examples?
Contingencies can be virtually any conditions you wish to set. They can be anything such as having your Uncle John approve the central furnace or your Aunt Mary is satisfied with the kitchen sink. The sale is "contingent" upon all of the conditions being met. Contingencies are also called "subject to's" since the sale is "subject to" something happening.
An important contingency is a financing contingency. It states that the purchase is subject to the buyers being able to obtain a loan for the required amount. If you can not get the loan you need, the sale is canceled and you deposit is refunded. It is very important to have this contingency since you will loose you deposit if you are unable to get a big enough loan. Making an offer without a loan contingency is very risky.
What are Some Common Contingencies?
There are many contingencies that will protect you (the buyer). Here are some you will definitely want in your purchase agreement:
- You will be able to inspect the property and must approve the inspection.
- The sellers must disclose problems with the property and you must approve of such disclosures.
- You will be allowed to make a final inspection of the property just before the deal closes and confirm that the is no new damage since you originally inspected it.
- You will get your deposit back if the sellers back out.
- You can back out if you are unable to get financing.
Depending on your situation, there are many other contingencies you should add. For example, if you are moving to the area because of a new job. You will want a contingency stating that if you don't get the job, you can cancel and get your deposit back.
Make sure that you clearly state your needs to the agent or attorney preparing you agreement. If there are any special conditions that must be meet (such as being able to cash in some stocks for a down payment), make sure it is in writing a contingency. Otherwise you may be unable to complete the purchase on time and lose you deposit. In some cases, you may be sued by the sellers for performance. They may demand you complete the purchase or pay associated damages.
Who Writes In the Contingencies?
A contingency is a legal document and must contain the proper language to be legally binding. For this reason contingencies are ideally crafted by attorneys. However, since this is a normal part of business, many real estate agents are extremely versed in writing contingencies. In fact, agents may be far more experienced in this area than an attorney. In practice, your agent will be more than capable of writing the contingencies you need.
Whom Does the Contingencies Protect?
The contingencies noted so far are intended to protect you (the buyer). They allow you to back out of the deal without consequences if something does not work out -- you can't get financing, you discover problems with the house, you lose you job, etc..
As noted, contingencies may also be added to protect the sellers. Such examples are the sellers may insist that the transaction be completed within 30 days. If you are unable to get you cash together or get your financing, you could lose the house and your deposit!
Some sellers may want you to purchase the house "as is." That is, no matter what's wrong with it, the sellers won't be responsible for it. You may for example find that after making an offer, the septic system badly needs $15,000 worth of repair. If you agreed to by the property "as is" then you will be stuck paying the difference.
Contingencies Can Become Deal Points
Naturally, you will want to have contingencies that benefit you (the buyer) and want to exclude those that potect the seller. This is therefore a process of negotiation where contingencies become deal points which you can influence the actual cost of the transaction.
A deal point is a specific point on which the deal depends. For example, you want the sellers to replace the broken sprinkler system. So you include a contingency stating that the sellers must repair it. If the sellers refuse -- perhaps they have been watering the lawn by hand and are unwilling to fix it for the buyers.
Now you have a deal point. What are you going to do?
Well, this depends on how important the sprinkler system is to you. If you feel that you can't live without it and are unwilling to budge, you can refuse to remove the contingency. The seller can either accept the offer or reject it. If the sellers accept, you've got your sprinklers. However, if they reject, you're not getting your new home.
Often a better way if dealing with this situation is to calculate the cost of repairs and adjust the contingencies to compensate. For example you may retract your contingency for the sprinklers and insist that they leave the ceiling fans you really like. Perhaps the sellers were not looking forward to taking them down anyway and are willing to compromise on this point. In which case, although you will need to get the sprinklers fixed, you have saved several hundred dollars on the purchase of new fans.
You Can Use A Contingency to Get Yourself a Better Deal
The skillful negotiator will use contingencies to improve the deal. And there is really no limit to the type of contingency you can craft. Deal points can be over anything ranging from the date escrow closes to the specific closing costs the buyer and sellers must pay.
A great way to start negotiating is to find the sellers weak point and apply the pressure there. For example, the sellers may absolutely need to close the deal within 25 days so that they can purchase a new home. You agree as long as they fix the septic system, lower the price, repair the sprinklers, and leave the ceiling fans. In this way, they have met their criteria by giving you the superior deal.
Remember, that although contingencies are great points for negotiations, they are there to protect you. They offer you an easy way to back out if something goes wrong.
Avoid Unnecessary Contingencies
Sometimes when buyers discover the great protective value of contingencies, they insist that extra ones be placed in the purchase offer. For example, you insist that the purchase become contingent on you not losing your job before the deal closes. (You pretty much get this protection in any event, since if you lose your job, the lender probably won't give you a mortgage, and you can back out using the financing contingency.)
Or you insist that the deal be contingent on your not getting ill during the escrow period, or your spouse not falling out of love with the home, or your getting approval of the purchase from you parents. Remember, you can make the deal contingent on anything!
The problem is that each time you add a contingency, you weaken the deal. The sellers ask themselves, "Why does the buyer insist on this?" If the quickest answer is that the buyer is wishy-washy and may not go through with the deal, the sellers may simply refuse to sign. You may squash a perfectly marketable deal simply by insisting on unnecessary contingencies.
As many real estate agents have witnessed, lawyers can ruin an otherwise marketable deal by adding contingencies favoring their clients to the point where the other party simply won't go along. While legal advice is great, sometimes common sense and human nature play a stronger role.