A contingency [sometimes referred to as a “condition” is usually an event, the occurrence or nonoccurrence of which can determine whether the transaction will continue or be terminated. For example, in residential purchase transactions, there are several standard buyer contingencies. There are no “magic words” necessary to create a contingency, so long as the language indicates an intent to make the closing of the transaction conditional upon another event.
As discussed below, in Oregon, Oregon Real Estate Forms, LLC (“OREF”) is the statewide provider of forms for Realtors® to use in their brokered real estate transactions. Here are some of the main contingencies found in the OREF 2013 Residential Real Estate Sale Agreement:
(1) The financing contingency, which says that the buyer must qualify for the loan and the property must appraise at least for the sale price;
(2) The title contingency, which says that the seller must be able to convey good and marketable title at the time of closing;
(3) The inspection contingency, which makes the purchase subject to the buyer’s satisfaction with one or more inspections of the property and its operating systems;
(4) In those properties where water is obtained from a well, the well water contingency is important to allow the buyer to verify that the quantity of the water is adequate for household purposes, and the quality is safe for human consumption.
Typically, depending upon their terms, the occurrence or non-occurrence of any of the above buyer contingencies will give the buyer the right to terminate the transaction and obtain a return of the earnest money deposit. Here are some examples found in the standard 2013 statewide OREF Residential Sale Agreement:
- If the buyer is unable to qualify for financing after making a good faith effort to do so, the transaction will terminate and the deposit refunded;
- The same result occurs if the appraisal comes back for less than the agreed-upon sale price;
- If the title company issues its preliminary report on the condition of the property’s title, and there are liens or other encumbrances that cannot be removed before closing, the buyer may terminate and get his or her deposit back;
- The result is the same with the buyer’s property inspection report – if rejected by the buyer, he or she may terminate the transaction and recover back their deposit;
- The same holds true if the well test shows the presence of toxins in the water.
The Professional Inspection Contingency. This is the one that results in the greatest number of disputes. This is because frequently the parties and/or their Realtors® have different understandings about how the contingency works. Under the OREF Residential Sale Agreement form, if the buyer rejects the inspection report for any reason, he or she may give notice of termination to the other side. But if the notice of disapproval of the report is not given within the designated time frame, the disapproval is ineffective.
Buyers should closely coordinate with their Realtor® to make sure how much time they have to exercise their right to withdraw from the transaction. The standard provision says that unless another time frame is selected, the inspection contingency expires after ten business days from the date the sale agreement was accepted by seller and buyer.
If a buyer is concerned that they will be unable to (a) complete the inspections, (b) obtain a written report, or (c) negotiate necessary repairs with the seller, within the agreed-upon time frame, it is important to contact the seller or seller’s agent and secure a written extension of time. If the seller refuses to extend the inspection contingency period, a buyer’s only recourse is to either accept the property with the defects noted in the inspection report(s), or immediately withdraw from the transaction. The failure to timely terminate the transaction by midnight of the last day of the inspection period, constitutes an acceptance of the property’s condition. In other words, “Silence is Consent.”
Contingencies ~ Drafting. As noted above, there are no “magic words” necessary to create a contingency. However, careful drafting requires that the language demonstrate a clear understanding between the parties that if the contingency fails to occur, [e.g. the buyer fails to qualify for a loan] the transaction is at an end, and the buyer will be entitled to a full refund of their earnest money deposit.
In Oregon, most residential Realtors® use the standard OREF Residential Real Estate Sale Agreement (“Sale Agreement”), which takes much of the guess work out of having to draft major contingencies. While the above-discussed contingencies are the most common to residential transactions, buyers are free to add additional contingencies unique to their particular circumstance. Sellers should carefully review all conditions that are a part of the transaction, making sure that they accurately describe the contingency.
Trap ~ It is important for sellers to require that any unique buyer contingencies be limited in time. Otherwise, the seller might be locked into the transaction all the way up to the scheduled closing date, before it is determined whether the buyer contingency will or will not occur. Typical language protecting the seller should say something like the following:
This contingency must either be satisfied or removed in writing by ________________ (selected date and time). The failure to do so shall result in the contingency being automatically waived.
Contingency For The Sale Of Buyer’s Home. Occasionally, buyers find a home they want to purchase before they have actually sold their own home. Whether a seller is agreeable to this type of contingency is really a function of the marketplace. When there are many more buyers than sellers, it is a “sellers’ market” – meaning the sellers will generally dictate the terms. In a sellers’ market, one would not normally expect a seller to agree to a contingency making the transaction subject to the buyer first selling their own home. Conversely, in a buyers’ market, where there are more sellers than buyers, a seller may have to accept such a contingency, if they want to sell their home. In these cases, the buyer’s offer of purchase is made “subject to” or “contingent upon” the sale of the buyer’s home.
Trap ~ The problem with this contingency is that it is tied to an event that may be outside the buyer’s actual control. While the buyer may make a Herculean effort to sell their home, they may be unable to do so in a timely manner. If they are unsuccessful within the agreed-upon time frame, the transaction fails and the earnest money deposit is refunded.
Tip ~ This is why the use of a qualified Realtor® is helpful, in order to advise the seller about the pros and cons of such a contingency. Additionally, OREF forms – which are only available through Realtors® – have a suitable pre-printed OREF form giving the buyer a limited period of time to release their contingency (e.g. 24 to 72 hours) should the seller find another buyer willing to make an offer without the need to sell their home. Under no circumstances should the seller remove their property from the market while waiting for the buyer to sell their home.
Contingencies ~ When They Fail. Sellers should remember that most contingencies create no legal risk to the buyer if the contingency fails to occur. For example, if the purchase is subject to the buyer obtaining financing not to exceed a certain rate of interest, and the buyer is unable to obtain the loan at that interest rate, after making a good faith effort to do so, the transaction is at an end. The buyer has a nearly absolute right to the return of their entire earnest money deposit. While the failure of a contingency may be a disappointment to the buyer, it can create tremendous inconvenience, and sometimes cost, to the seller, who now must resume marketing the home all over again. For this reason, sellers should be careful to review the conditions proposed by their prospective buyers, making sure that the contingency is reasonable, and limited to a relatively short period of time.
A little know fact outside of the Realtor® community is that if an offer is accepted that is subject to various contingencies, it shows on the local multiple listing service [such as the Regional Multiple Listing Service™, or “RMLS™ “] as a “Bumpable Buyer.” This mixed term means that while the property is under contract, there is a pending contingency that can result in the seller “bumping” that buyer should another buyer submit another offer acceptable to seller.
Tip ~ When evaluating whether to agree to any buyer contingencies, sellers should ask whether the condition, such as financing, is realistic. Is it probable that the buyer will, in fact, qualify for the loan in the necessary amount? Is the maximum rate of interest reasonable? Some – but not all risk can be taken out of this financing contingency process by requiring the buyer to provide the seller with a Pre-Approval Letter, which essentially says that a specified lender or mortgage broker has actually reviewed the buyer’s financial data and they will qualify for a certain loan in a certain amount.
Unless there is a special reason for not doing so, after accepting an offer containing a contingency, most sellers should keep their home on the market. However, once a home goes “pending” in the RMLS™, other buyers may lose interest, since any offer they make will be in a “back-up” or secondary position. This means that the back-up buyer’s offer will only become good if the first-position buyer withdraws or otherwise fails to complete the transaction.
Contingencies ~ Waiver by Buyer. As noted above, sellers must insist that buyer contingencies be tied to specific time frames. For example, the buyer should be given a limited period within which to perform any requested inspections and negotiate for necessary repairs. If the seller and buyer reach agreement within the agreed-upon time frame as to what repairs the seller will pay for, the seller’s Realtor® may nevertheless ask that the parties sign an Addendum to the Sale Agreement which recites that the inspection contingency has been removed – even though the time frame has already expired. This practice of having the parties sign a statement acknowledging that the certain contingency has been “satisfied,” “waived,” or “removed” by the buyer is a good, “belts and suspenders” approach to Realtor® risk management. That is, once placed in a written and signed Addendum, there can be little argument that the specified contingency is no longer a part of the transaction.
With regards to the inspection contingency, if the seller and buyer are unable to reach agreement as to how repairs are to be handled [e.g. reduction in sale price vs. seller pays outright] within the specified inspection contingency period, the buyer will have to decide whether to (a) terminate the transaction by giving written notice of rejection of the inspection report before the applicable deadline, or (b) doing nothing – which will result in the automatic expiration of the contingency.
Tip ~ A buyer’s failure to timely terminate the transaction within the time specified in a contingency is the equivalent of a waiver of that contingency. Once a contingency is waived, it drops out of the transaction, and the buyer no longer has the legal right to withdraw based upon the failure of that condition. While this does not mean that the buyer cannot withdraw from the transaction, it does mean that withdrawal may subject him or her to the loss of their earnest money deposit.
