PUBLISHED: Mar 31, 2023
You’ve been looking to buy a new home for months, lost out on several because of bidding wars, but you just had your offer accepted for your dream home. Slow down, though. You can’t get too excited just yet. If your offer includes certain contingencies, there is still a chance the deal could fall through.
Now you might be wondering exactly how often do contingent offers fall through. Before you start to panic, know that the percentage of offers that don’t close due to contingencies is pretty low.
A recent study done by the National Association of REALTORS® (NAR) found that in July 2021, 5% of all purchase agreements over the past 3 months were terminated before they could reach closing. So, while things can happen, the overall percentage of deals that don’t make it all the way through is relatively small.
If you’re selling your first home or you’re a first-time homebuyer, there’s a good chance you might not fully understand what contingent offers are. Simply put, when a buyer and seller have come to an agreement on a selling price, there are typically contingencies that need to be met before the process can actually close.
As an example, let’s assume the house you’re buying was built in the 1940s and you decide to make an offer that’s contingent on the home’s electrical system not being composed of knob and tube wiring. This isn’t currently up to code and can be dangerous. This contingency would allow you to back out of the agreement if the inspection report shows the home does have knob and tube and the seller is unwilling to update the electrical to meet current building code.
Now let’s walk through some of the more common contingencies that get written into real estate contracts. These will give you a better idea of what to expect for your own home buying or selling process.
A financing contingency is one of the most common contingencies. It just means that the buyers offer is dependent on their lender approving their home loan.
The vast majority of new home purchases use some type of financing, 87% to be specific. For home buyers 40 years and younger that number increases to 97%. It’s probably not a huge surprise that finances can cause a purchase to fall through, but it isn’t super common. In August 2021, only 8% of offers were compromised due to financing issues.
Inspections are very common when purchasing a new home. Buyers want to make sure everything in the home is in good working order. If there are any issues, they can ask the sellers to fix them before closing. The process helps protect the buyer and the lender.
While home inspections are incredibly common, only 9% of offers didn’t close in August because of inspection or environmental issues.
The title of a home is essentially a record of its ownership. It shows who has owned it in the past in addition to its current ownership. It will also show if there are any current liens or judgements on the home.
This is less likely to cause issues in the offer process. In August, 4% of contracts were terminated due to title or deed issues.
Appraisals are one of the more common factors to impact closing. In August, 12% of offer contracts fell through because of this.
Since most home purchases are done with a mortgage, lenders have certain requirements when they loan money on a home. One is that they want to make sure it’s going to be a good investment. To do this, they order an appraisal on the home. This will assess the fair market value based on certain factors like its square footage, the number of bedrooms and bathrooms, and how much other homes in the area have sold for recently.
Unless this is the first home someone has purchased, they’re most likely going to be selling a home so they can afford the new one. A home sale contingency provides a certain number of days for the buyer to find someone to purchase their home. If they can’t get it sold, they can walk away from the agreement to purchase the new house and receive their entire earnest depot back.
This contingency isn’t used very often because most sellers are unwilling to agree to it. It gives them little assurance that the deal will close in a timely manner. They could take their home off the market and the buyer's home could sit without selling.
An alternative to the home sale contingency is the first right of refusal. When the buyer is also trying to sell their own home, the seller is looking to protect themselves from waiting too long for a transaction to occur. The first right of refusal allows the seller to keep their home on the market to see if they received any additional offers. If and when another offer is received, the original buyer will then have so many days to sell their current home or the second offer can be accepted.
A kick-out clause is very similar to the first right of refusal contingency. If a buyer needs to sell their current home but is taking too long, the sellers have the right to walk away from the deal and look for a new buyer. The big difference between a kick-out clause and the first right of refusal is that with the kick-out clause, the seller isn’t actively looking for additional buyers anymore.
It’s not common for contingencies to derail a home sale completely, but it does happen from time to time. Let’s look at a few of the most common reasons why that could happen:
When someone starts looking for a new home, they’ve most likely been preapproved for a loan. First-time home buyers have a tendency to think that once they’ve received their preapproval, everything is going to run smoothly from there. That’s actually just the start of the process. Once someone finds a home to purchase and an offer is accepted, the chosen lender will then start the underwriting process.
Underwriting is a deep-dive into the buyer’s finances. They want to make sure they’re fully qualified to make the payments each month. This is usually the time when something happens financially to cause an issue with the loan being able to close. It could be that the person lost their job, or the buyer might have switched jobs while waiting for the loan to close. During the underwriting process the lender might decide the buyer has too high of a debt-to-income ratio to qualify for the loan. Buyers can use a financial contingency to either search for a new lender or back out of the purchase agreement and get the earnest money back.
Good home inspectors are looking for a lot of things. They want to make sure the foundation is strong and doesn’t have any vulnerabilities. They want to see that the plumbing and electrical are all up to current building codes. They’ll even spot things that might be nearing the end of their lifespan, like a water heater, roof or HVAC system.
If the inspector notices anything that could be a potential issue, like a cracking foundation or windows that are starting to show their age, they’ll recommend they be fixed or replaced. The buyers can then ask the seller to make the necessary upgrades before the closing date. Depending on the severity of the issue, the seller can either do so without objection or offer to pay for a portion of the work needed. If the home buyers and sellers can’t come to an agreement or the buyers feel there are too many issues, they can elect to walk away from the deal.
When the title search is completed by the buyer's real estate attorney, it can uncover that the sellers have things like past taxes outstanding or a lien on the home from a contractor. The title contingency will allow the buyers to walk away from the sale if they don’t want to wait for the issues to be resolved.
With the appraisal contingency, the buyer and seller are protected if the home doesn’t appraise for the agreed sales price. For example, let’s assume a home goes under contract for $450,000. However, when the appraisal comes back, it shows that the fair market value for the home is only $440,000. When this happens there are a couple of options. Either the buyer is willing to bring an additional $10,000 in cash to the closing or the seller is willing to lower the sales price by $10,000. If the two parties can’t come to an agreement, both parties can walk away from the deal and the home goes back on the market.
If you’re buying a home in a hot market where there’s a lot of demand but few homes for sale, you’re going to be looking for way to make your offer the most appealing. Waiving all contingencies is one way to get that leg up on the competition. However, while some contingencies can be waived, others shouldn’t be. The same is true if you’re trying to sell your home. There are certain things you should always require from a buyer.
As a home buyer, it’s a huge gamble to put in an offer without a home inspection contingency. That gamble gets ever larger if the home is older. The same is true if you’re selling your home and you give a buyer unlimited time to sell their home before closing. The longer you wait to close, the more money it ends up costing you.
While some contingencies can be waived, others can save you from a lot of financial trouble down the road.
When you’re buying or selling a home, there are a lot of important decisions to be made. Some of the biggest include whether to include certain contingencies with the sale. While some people might decide to skip including them to get an advantage over the competition, that’s not always the best choice. Contingencies like the appraisal, inspection and title can protect a seller from financial issues down the road and make the process much more enjoyable.
NOTE: All percentages of terminated closings are pulled from the National Association of REALTORS® August 2021 REALTORS® Confidence Index Survey.
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