While shopping for a house, you're bound to come across dozens of foreign terms. Some are self-explanatory while others could use a little explanation.
Contingent is one of those "must know" terms in real estate. Basically, it shows the status of a house in the sales process. Just like ‘for sale’ or ‘sold’ posters, it helps you know whether the house is still available for sale or not.
Here’s the detailed meaning of contingency, including some common examples.
What Does Contingent Mean in Real Estate
Contingencies are conditions that must be fulfilled by the buyer or the seller for the sale to go through. Simply put, a contingency is a conditional sale.
For example, you could agree to buy a house as long as it's in good condition. If you realize later that the house has structural integrity issues, you can cancel the sales contract and get your deposit back.
Five Common Types of Contingencies to Know
Today, we're going to explore some of the most common types of contingencies you'll likely run into when buying your first house.
House inspection contingency
Mortgage or financing contingency
House sale contingency
Let's dig into each one individually, so you can understand what to look out for when you're home-shopping.
1. House Inspection Contingency
This is one of the most common contingencies. Once you make an offer to buy a house, the seller accepts it but the deal will only take place once the house is inspected.
You are in charge of finding an inspector who can give you an independent report of the house condition.
Depending on the report received, you can either:
Decline the offer if warranted by the report
Ask the seller to repair the house
Ask for a price reduction and repair the house yourself
2. Appraisal Contingency
Nobody likes paying higher than the market price. To avoid this concern, an appraisal contingency comes into place. An appraisal contingency protects you as the home buyer from paying more for a house than it's worth.
If the asking price is higher than what the house is worth, you can ask the seller to lower it down. (This is obviously less appealing to the seller!) If the difference is insignificant and the seller doesn't want to change the price, an appraisal gap contingency allows you as the buyer to back out of the contract if the property doesn’t appraise for the amount you had offered to pay.
Keep in mind, you also get back your earnest money deposit and avoid facing other penalties.
Lender gives you a mortgage approval letter stating the maximum amount you can get
You present an offer to the seller using the mortgage approval letter
Seller accepts the offer but sale is contingent on obtaining finance from the lender
Now, the approval letter will help convince the seller to “hold” the house for you. Should the option period expire before finances come through, the seller terminates the contract and opens the house for more offers. That’s why cash offers are often preferred. In fact, they're four times more likely to be accepted than offers from a finance-backed buyer.
This contingency protects you from ownership disputes that may arise due to divorce, unpaid taxes, or lien.
5. House Sale Contingency
Based on this framework, you ask the seller to give you time to sell your current house and thereby raise the funds you need to pay for the new one. Sellers don’t like this option because it delays the process. Property sellers have to keep the house for you until you sell yours pending expiry of the time given.
This contingency can either be:
A settlement contingency – where you have a buyer and a closing date
A sale and settlement contingency – where you haven’t found a buyer
A settlement contingency is more appealing to sellers as it gives a specific closing date.
Why Are Contingencies So Important in Real Estate
Contingencies are very important in real estate. In fact, 76% of houses sold in 2018 had contingencies. Home inspection had the most common contingency with 58%, followed by appraisal with 44%, and financing with 43%. These percentages have not changed significantly since then.
Now, why is it necessary to have all these contingencies? Have to say, they help protect the buyer and the seller.
For example, how would a seller know that the buyer will be able to pay for the house without a mortgage contingency? Why would you want to buy a house without inspecting it first?
See, it’s all part of due diligence to protect both parties from making mistakes that can easily be prevented.
Besides, without them, a sales contract would be crippled by difficulties.
By accepting contingencies such as financing and house sale, a seller increases the possibilities of making a sale.
How Often Do Contingent Offers Fall Through
Admittedly, many failed house sales arise due to a contingency that was never removed.
What does this mean for you? If you make an offer (on a house in the contingency status) your chances of getting it are considerably lower.
All the same, you can still make an offer bearing in mind the first buyer might fail to meet the contingency conditions.
To Sum Up
Many changes can happen between making an offer and closing. Contingencies provide a channel to re-negotiate the deal or cancel the contract if a certain condition is not met. Once the contract is cancelled within the option period, the earnest money is refunded to the buyer.