The Financing Contingency On a Home Purchase

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The financing contingency clause on the standard St Louis Association of Realtors Residential Sale Contract provides protection for both the buyer and the seller.  This provision is very important to buyers and sellers in the negotiation process.

The main goal of the financing contingency is to make sure the buyer is not penalized for being unable to get financing and completing the transaction. Most buyer-initiated financing contingencies will stipulate that the buyer gets their earnest money back if they are unable to get approved for the loan.  The protection for the seller is that the dates protect the seller from getting strung along with the house off the market for long periods of time.
On the St Louis Association of Realtors (SLAR) Residential Sale Contract, paragraph four is the financing contingency:

The first option in the financing contingency clause gives the purchaser the option of not making the contract contingent upon financing also known as a cash offer.  This option, however, gives the buyer the right to still get a mortgage.  Some buyers will  add an appraisal rider to the offer which will then protect the buyer if the bank’s appraiser does not appraise the home for the purchase price.  Attaching the appraisal rider basically negates the cash offer in the eyes of the seller.  For a “non-contingent” offer, the seller will request verification from the buyer as to the source of the funds with either a letter from the buyer’s financial advisor or bank.

When a buyer chooses to make the sale contingent upon financing, the buyer indicates to the seller that a loan commitment letter will be delivered to the seller by a certain date.  The buyer also provides the seller with specifics about the type of loan that is being requested:  Conventional, FHA, or VA; fixed or adjustable rate; amount of the down payment, the amortization term and the interest rate.  If the bank cannot approve the buyer for the terms and/or date date specified on the contract, the buyer may be able to terminate the contract and earnest money will be returned (on the SLAR standard contract).  However, it is very important that buyers and sellers discuss this with their agent and fully understand the terms writte and conditions of the contract.

If you choose the financing contingency, one of the first steps is to confirm with a lender how much money can be borrowed.  This is called a pre-approval.  For a pre-approval you supply a bank or lender with your overall financial picture, including your debt, income and assets. After evaluating this information, a lender can give you an idea of the mortgage amount for which you qualify.  Pre-qualification can be done over the phone or on the internet, and there is usually no cost involved.  Almost all sellers will require a copy of the pre-approval letter with the offer.

Especially in a hot market, the terms that are spelled out in the financing contingency can be more important to the seller than the amount being offered for the purchase of the home.
It, of course, goes without saying that the optimum offer to a seller is not contingent on financing and the buyer  produces written proof of funds.

Next highest in value to a seller is a conventional loan contingency.  The terms of a conventional loan are specified by the buyer.  The amount of down payment also has bearing on a seller’s consideration of the offer.  If the buyer is putting 20% or more down, it is likely there will be no private mortgage insurance required by the lender (pmi).  The less a buyer is putting down the more risk is involved in the loan.  Loans that have less than 20% down must be approved by the p.m.i. companies and add another layer of suspense to a loan.
Government loans like FHA and VA have a few more protections for the buyers and have always been considered less desirable to sellers than a conventional loan.

The least desirable to a seller is a government assisted no-down-payment loan contingency.
As you can see, the financing contingency is crucial in negotiating an offer and needs to be understood by both buyer and seller.  This clause can give you the competitive edge but the risks need to be understood. It is very important that this clause be discussed with your agent.

Deciding How Much You Can Afford

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