Ready to make an offer on a new home or rental property? Congratulations! There’s nothing quite like the excitement of browsing NMLS listings and attending open houses to finally find your dream home.
It can also be a bit scary. Whether you’re a first-time homebuyer or a seasoned investor, you may question your decision.
What if the home inspection finds significant issues? What if the home appraisal comes back lower than my offer? What if I can’t afford the mortgage?
Don’t worry. This is where a contingent offer comes in. They help protect a potential buyer’s financial interests during the home-buying process.
- A contingency is any condition the homebuyer or the seller must meet to complete a real estate transaction.
- There are five types of contingencies: inspection, home appraisal, mortgage, home sale, and title.
- Talk to your realtor or mortgage lender before making a contingent offer. They’ll help you determine the right choice for your situation.
What does contingent mean in real estate transactions?
A contingency refers to any condition a homebuyer or seller must meet for a real estate transaction to be completed. It means a real estate transaction depends on additional criteria being met.
So, if you’re browsing real estate listings and see the word “contingent,” it means the house is under contract, and the sale will go through if the additional criteria are met.
For example, let’s say you’re selling your current home. You’ve accepted an offer from a homebuyer, dependent on the home inspection coming back clear. This is considered a contingent offer because the house sale depends on the inspection results.
What is a contingent offer?
According to Chase, “a contingent offer on a house is an offer with a protective clause on behalf of the buyer.”
A contingent offer protects homebuyers from:
- Losing their earnest money deposit
- Purchasing a home they can’t afford
An earnest money deposit is a sum of money homebuyers put down to show they’re serious about purchasing a property. It’s provided when the homebuyer and seller sign the purchase agreement or sales contract. The earnest money deposit goes into the homebuyer’s escrow account if the sale goes through.
A contingent offer aims to help homebuyers and sellers reach mutually beneficial agreements during the real estate buying process.
Homebuyers can choose how many and which types of contingencies they want to include in their purchase contract.
As with any home offer, sellers can accept, reject, or counter a contingent offer. Sellers also have the option to include a kick-out clause in the sales contract, which allows them to continue showing their home even after accepting a contingent offer. This helps protect their financial interests if the contingent offer falls through because it helps them entertain backup offers. However, sellers cannot back out of a contingent offer simply because they receive a better offer.
5 types of real estate contingencies
Homebuyers must work through four common contingencies when purchasing a new home. They are home inspection, appraisal, financing, home sale, and mortgage. Below is a closer look at the type of contingency.
Home inspection contingency
Home inspection contingencies are very common. In fact, according to the National Association of Realtors (NAR), nearly 80% of homebuyers include a home inspection contingency in their purchase agreement in 2021.
A home inspection contingency says that if anything significant comes up on the inspection report, the homebuyer can back out of the home purchase and get their earnest money deposit back.
When you include a home inspection contingency in your contract, you must specify when a certified home inspector will inspect the property. You’re also required, as the homebuyer, to choose and schedule the home inspection.
Here’s how home inspection contingencies work.
Let’s say the homeowner accepts your offer on a new home. You included a home inspection clause in your contract. The certified home inspector discovers the home needs a new roof which could cost over $30,000. As the homebuyer, you can either pull out of the contract or use this information to negotiate a lower sale price with the homeowner.
An appraisal contingency states that the home sale is conditional based on the home appraisal. Home appraisals confirm the property’s value for the mortgage lender. They’re designed to ensure homebuyers pay a fair price for a property.
Lenders rely on the following when determining a home’s value:
- Comparable and recent home sales in the neighborhood
- The property’s tax records
- A certified home appraiser’s walkthrough and evaluation of the property
The real estate transaction moves forward if a home appraisal aligns with the purchase price. Suppose the home appraisal comes back below the purchase price. In that case, the appraisal contingency allows the homebuyer to rescind their offer and get their earnest money deposit back.
Here’s how a home appraisal contingency works.
Let’s say you’ve offered a home for $300,000, but the home appraisal comes back at $250,000. Your home appraisal contingency allows you to back out of the purchase. This protects you from paying more than the home’s fair market value.
A mortgage contingency, also called a financing contingency, is a contingency clause that allows a homebuyer to back out of the purchase if they can’t secure financing within a set timeframe. It protects homebuyers by ensuring they can secure the financing they need to fund the home purchase.
During the home buying process, most homebuyers seek preapproval from mortgage lenders. Preapproval simply means they know how much mortgage they can afford and secure before they make an offer on a home. Homebuyers typically include their preapproval letter in their purchase offer so sellers know they can afford the property.
In a mortgage contingency clause, homebuyers must provide details about their loan type, amount, interest rate, mortgage points, and the contingency timeframe. Suppose the homebuyer can’t secure the mortgage loan during the timeframe. In that case, the contingency clause allows them to back out of the purchase.
Here’s how a mortgage contingency works.
Let’s say you’re under contract for a new house. You were preapproved for a $250,000 mortgage but found a home listed for $275,000. This is $25,000 above your preapproved amount, and you don’t know if you will qualify for the new loan. You can put a mortgage contingency clause in your offer to protect you if your mortgage lender does not approve you for $275,000.
Home sale contingency
Already own a home and need to sell it before you can finalize the purchase of a new home? It’s a common situation many homebuyers find themselves in. Fortunately, a home sale contingency is there to help.
A home sale contingency gives homebuyers a specified timeframe to sell their current home before purchasing their new home. If a homebuyer can’t sell their current home, the sale doesn’t go through, and they get their earnest money deposit back.
Here’s how a home sale contingency works.
Let’s say you’re looking to move. Your current home is on the market, and you make an offer on a new home. It’s a seller’s market, and you’re confident your current home will sell in no time. You also need your current home to sell to provide the down payment for the new home. You can include a home sale contingency clause in your purchase offer for the new home. This will protect you from having to pay two mortgages in case your home doesn’t sell quickly.
A title contingency protects homebuyers from purchasing a property when a seller fails to clear up all liens.
Investopedia says a lien is “a claim or legal right against assets that are typically used as collateral to satisfy a debt.” Creditors or judges can establish a lien on a property. A lien guarantees an underlying obligation like the repayment of a loan.
A title contingency requires the seller to clear up all liens and title issues before the purchase is final.
Here’s how a title contingency works.
Let’s say you make an offer on a home and include a title contingency. During the home buying process, you discover the seller has existing liens on the property with a creditor due to significant personal debt. The title contingency allows you to back out of the purchase and not assume the liens on the property.
Is a contingent offer right for you?
Well, that depends on many factors. We recommend working with your real estate agent and mortgage lender to discuss your unique situation. They’re experts on the real estate market, the home-buying process, and financing options. They can help you determine if a contingency clause is appropriate to include in your purchase offer.
The bottom line
Contingent offers are an excellent option for homebuyers who want to make an offer on a home while also protecting their financial interests. Talk to your realtor or mortgage lender to see if a contingent offer is the right option.
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