What is a Contingency? In its simplest form, a contingency is generally an event that must first occur before the contract will become fully binding.
There are many examples of contingencies:
- Financing – i.e. buyer getting the loan;
- Marketable Title – i.e. no material defects appearing on record title, such as, an easement across the middle of the property making development impossible;
- Professional Inspections – i.e. no conditions identified in the inspection report that buyer, in buyer’s sole discretion, objects to;
- Quality of well water – i.e. no negative information contained in the well tests, which buyer may object to in their sole discretion;
But true to the old adage, when it comes to understanding and drafting contingencies, “The devil’s in the details.”
Fortunately, for Oregon Realtors®, the statewide OREF Residential Sale Agreement has many of the important buyer-contingencies already preprinted in the form. And for those contingencies not found in that form, such as the Contingent Right To Purchase Addendum[1] (Form No. 083), they are available from OREF’s inventory of forms. Of course, OREF does not have forms for every contingency, and that case, it generally means the parties and their brokers must draft one.
The Financing Contingency. There are several important issues to remember concerning the financing contingency contained in the OREF Residential Sale Agreement.
- Contrary to all of the other contingencies in the OREF Residential Sale Agreement, this one does not automatically expire after a certain number of days. So, unless it is expressly waived, e.g. by a written Addendum,[2] it runs all the way up to the moment of closing.
- The reason the Sale Agreement form does not make the financing contingency automatically expire, say after a couple of weeks following loan application, is that even though a buyer may be “pre-approved”, that is not the same as a “final loan approval” which only occurs when the lender’s underwriters say so; and that is normally right before closing. Until that final loan approval is given, the loan, however solid appearing, is nothing more than an expectation.
- Why do loan underwriters wait until the last minute to determine a buyer’s credit qualifications? Because a borrower’s FICO score and other important credit information can change at a moment’s notice. A tax lien could show up right before closing; an unpaid child support judgment could surface; or a legal claim clouding title to the property could be filed. This is why after obtaining the preapproval letter, loan applicants should not apply for an additional credit card, purchase a significant asset on time, or even engage in checking their own credit score. All of these activities could change the buyer’s credit score, and jeopardize their ability to get loan approval.
- The Title Contingency. The title contingency closely resembles the other standard contingencies in the OREF Residential Sale Agreement, in that it contains language making it automatically self-expiring. Specifically, it provides that the buyer shall have five business days (if no other time is inserted) following receipt of copies of the recorded title documents to notify the seller of any objections to the preliminary report. Correspondingly, upon receipt of such notice, the seller may agree to remove them, or give reasonable assurances of doing so prior to closing. If the seller fails to do so, all earnest money is to be returned to the buyer and the transaction terminated.
But buyers must understand here, as in the case of most other contingencies discussed, that silence is consent. In other words, if the buyer fails to object to some recorded exception disclosed in the preliminary title report within the applicable time period, such as an easement or right of way, the objection is waived.[3]
For this reason, it is very important for the buyer’s Realtor® to make sure their client closely reviews the contents of the preliminary report and secures timely answers to any issues that could potentially pose a problem. While real estate agents are not expected to be title “experts,” in this era of increased Realtor® professionalism, it is suggested that the buyer’s agent personally review the preliminary title report when it comes in. As I always tell new agents, once you have reviewed enough of them, you will see they generally follow a pattern; the report identifies any loans currently on the property (all of which will have to be removed at closing), utility easements, and recorded CC&Rs, if any. It’s only when the report shows something out of the ordinary, e.g. a tax lien, or large delinquent assessment or judgment lien, that one’s radar should go up. In almost any case where a question arises, buyers should be encouraged to first contact the title officer who prepared the report.[4]
The Professional Inspection Contingency. Similar to the title contingency, a buyer’s failure to object to the inspection report constitutes consent to the condition of the property. In other words, the failure to object constitutes a waiver of the right to do so after the contingency period expires.
Unless a different time is selected, the buyer has ten (10) business days within which to conduct one or more inspections and, if necessary, complete negotiations with the seller for any repairs, price adjustments, or other concessions (the “Inspection Contingency Period”). It is critical to remember that the time-frame permitted in this Period covers not only completion of the inspections themselves, but also all negotiations between seller and buyer as to how the adverse information in the report will be dealt with – e.g. price concessions or repairs, etc. The goal within the Inspection Contingency Period is to fully negotiate all property condition issues and reduce them to a fully executed Addendum. If it appears that this cannot occur due to matters beyond everyone’s reasonable control, both agents should discuss with their respective clients the need to consider a written extension of time.
Well Inspection Contingency. This is another printed contingency in the standard OREF Residential Sale Agreement form. Here are its main features:
- It provides that the cost of the state-required well water testing will be borne by the seller.
- The buyer may, at the buyer’s expense, have any additional tests performed.
- If any tests indicate a substantial deficiency in well water quality or quantity, the buyer may withdraw from the transaction and recover back all deposits – so long as it is done within the time-frame agreed upon in the Sale Agreement.
- Absent the selection of some other time-frame, the buyer will have seven business days to give such notice to the seller.
- Although this section of the Sale Agreement However permits the parties a short period of time to negotiate over any deficiencies in the well water report, the buyer is not required to agree to anything less than a report that is 100% satisfactory to them. In other words, a seller may not prevent a buyer from terminating by agreeing to correct the deficiencies shown in the well report(s). In this respect, the well water contingency is the same as the inspection contingency – i.e. seller and buyer have a period of time to try to resolve their differences, but neither is required to concede anything.
Drafting Your Own Contingency. When drafting a special contingency, it is essential to avoid ambiguity. If reasonable minds can differ upon the meaning of a contingency provision, it is “ambiguous”. So when drafting language unique to a specific transaction, it is important to make sure that all parties and their Realtors® agree upon its meaning. The following issues should be addressed:
- The operative event that is the subject of the contingency;
- How long the party for whose benefit the contingency is written has to exercise the contingency;[5]
- What “exercise” means (e.g. the transaction shall be terminated and all deposits refunded to buyer);
- The form of the notice (e.g. in writing);
- To whom notice must be given (e.g. the party or their agent, or either one); and
- What happens if timely notice is not given (e.g. the contingent event is deemed to be waived – in other words, the buyer shall be deemed to have accepted the condition of the property (i.e. silence is consent).[6]
- What happens if timely notice is given (e.g. the transaction is terminated and [assuming the contingency is for the benefit of the buyer] all earnest money is refunded).
Conclusion. Since most contingencies usually permit the buyer to terminate the transaction without liability, such termination can occasionally be met with resistance from the seller. Even though the OREF Residential Sale Agreement provides that upon timely exercise, all deposits will be refunded, if the earnest money is in escrow, the seller can effectively “veto” the return of funds by simply refusing to sign the termination agreement.
Escrow will not act without joint instructions from the seller and buyer,[7] which means that if the seller refuses to cooperate in permitting the funds to be returned, the deposit will not be disbursed – even though the buyer may believe they timely exercised their right of termination under the contingency.[8]
In order to avoid misunderstandings, Realtors® should make sure that all contingencies are fully explained to their clients, and if called upon to write a special contingency, make sure everyone is in agreement upon the written terms, including when it must be exercised and how that exercise is to occur. ~Phil
[1] This Addendum makes the buyer’s offer of purchase contingent upon the buyer’s ability to sell their home.
[2] Some listing agents unilaterally prepare an Addendum releasing “all contingencies” which includes the loan contingency. Buyer agents should be careful about routinely allowing their clients to sign such an Addendum, since it means that if the loan falls through at the last minute due to reasons outside of the buyer’s control, the buyer could lose their earnest money. Realtors® representing buyers should thoroughly discuss this risk with their clients before allowing them to release the financing contingency. Remember, the OREF Residential Sale Agreement form itself does not require that the financing contingency be released at any time before closing. So a buyer’s willingness to do so should be based upon an evaluation of the risk of the loan falling through.
[3] However, this Section also provides that the buyer’s failure to object will not relieve a seller from the duty to convey marketable title at the time of closing.
[4] While Realtors® may undertake some of the responsibility of collecting information from the title officer, they should be careful in documenting all such information and its source, and remind their clients to personally verify the information, and secure competent legal counsel, if appropriate.
[5] If the deadline is to be measured in business days, it must be specified. Failure to so specify will be construed to mean calendar days. If the period is measured in a specific number of days, the parties must be sure to agree upon the beginning and end dates. Although it sounds silly, some people might count the first day of the contingency, even though it is not a “full 24-hour day”. For this reason the Sale Agreement provides that when counting contingency periods and other time limits, the first day is the first full day following the date of the contingency.
[6] Although more commonly found in commercial transactions or those contemplating the future development of the property, sometimes the failure to give notice that the operative event has not occurred (e.g. getting preliminary plat approval for a 20-lot subdivision), means that the transaction is terminated. In other words, silence is not consent.
[7] The only exception is ORS 105.475 (exercise of buyer’s revocation under seller property disclosure law, which allows the earnest money deposit to be refunded to the buyer if written notice of revocation is timely made.
[8] This may not necessarily be so if the earnest money deposit is retained in the buyer broker’s trust account. See, Oregon Administrative Rule 863-015-0186.
