Contingency clauses are a reality for any real estate investor, and just one of many pieces of paperwork you’ll have to deal with. But this is not a subject only for lawyers, and the impact of contingencies can be huge on your investment. Here, let’s look at what exactly contingency clauses are, and how to use them to your advantage.
Contingency Clauses — An Introduction
Simply put, a contingency clause is a section of your contract that says your purchase depends on something. The “contingencies,” or things your purchase depends on, can be numerous. Common requests in this area include repairs and extermination. Before you sign any purchase agreement, you’ll want to be sure you’re aware of (and make use of) appropriate contingencies.
Common Types of Contingencies & How They Work
This is somewhat self-explanatory. An appraisal contingency clause simply ensures that your purchase depends on the findings of an appraisal. Typically, you’re simply making sure the property is worth what the seller says it is, or, hopefully, worth more.
With a financing contingency, the purchase won’t occur until the buyer obtains the financing terms he or she can live with. You’re going to really want to include this clause in your contract. And you want to get the wording exactly right: if you just state that you’ll buy as soon as you obtain financing, you may get an offer for financing that doesn’t work for you. You may want to simply put what you can afford as the maximum possible outcome in your contract. If that’s 5 percent of the value of the home, then simply write that down.
This may seem obscure, especially if you recoil at the sight of numbers, but there’s a practical reality that can guide you: If you can’t afford the financing, you should not buy the property. Moreover, you want your contract to say that.
Get your property inspected to ensure you’re satisfied with its condition prior to buying. If you’re buying a fixer-upper, you will want to do some math on this. Vigilant investors who flip will typically get an estimate on the cost of repairs. You should do this. If that estimate exceeds the cost of the property to begin with, back out. You want to make money, not sink it into an unprofitable investment. If you have your heart set on a property but the numbers don’t add up in your favor, you have the option to ask the seller to make repairs or lower his price as contingencies.
These are just a few of the common contingencies that can save you a lot of grief. But smart investors will learn the following best practices before purchasing any type of real estate.
Best Contingency Clause Practices For Buying Real Estate
1. Ensure Your Contract is Clear
Make sure your contract states clearly that you get your contract money back if the owner fails to address any of your contingencies. If you fail to take the step, all the contract maneuvers in the world won’t recover your wasted money.
2. Don’t Miss Deadlines
Clauses requiring some type of action inevitably take time. Inspections, obtaining financing, and looking over the seller’s disclosure documents will all take you some time. You want deadlines that allow you to complete these tasks. Two-week deadlines are the norm, but this may not be realistic if you have multiple contingencies (or a day job!). So give yourself a proper amount of time.
If you’ve failed to do this and are likely to miss your deadline, you can also ask the owner for a deadline extension. If this causes any degree of discord, bust out the contract (but try to refrain from hollering, “IN YOUR FACE!” if at all possible. Nobody likes a gloater.)
3. Get Everything in Writing
And we mean everything. You need a hard copy. This means paper, not screens. Of course, typing and printing a copy is OK, but you want to have the hard copy of the contract with all contingencies on deck.
Telephone calls and emails typically will not invoke contingencies — you need a notice to do that. Of course, you have the option to describe what both parties will regard as a notice before signing the contract. The bottom line is, make sure any talk between you and the seller uses the format specified by the contract and its contingencies. Ideally, you also want to create a paper trail: this can mean steps as simple as using certified mail to track the receipt of any legal documents by the seller.
The same property can turn from a smart buy into a money pit with proper (or improper) use of contingencies. Failure to use contingencies can have a lot of unfortunate consequences. You could even get backed into the position of buying a property that you know will cause you to lose money without them. We tell our clients to always use and take advantage of contingency clauses.
Your purchase contracts are only as good as the contingencies you’ve written into them. Why? Because these contingencies are the real terms of the purchase you’re about to make. Think of them like walls: Would you build a house without walls? Of course not, but the effects of ignoring contingency clauses are pretty much the same as building a home without walls. Eventually, the elements will get the best of you. You’re going to get wet, sooner or later, and you might even drown.
Don’t get soaked in debt. Be smart about your contracts and contingencies, and you’ll be as protected as any real estate buyer can be.
What contingencies have you used?
What’s your experience been? Share below!