A contingency is a term of the contract that must occur for the deal to go through. If the item listed in the contingency does not happen, then the Buyer or Seller may have the option to back out of the contract without any penalty. These are far more common than most people think and if we include due-diligence as a type of contingency, then they are practically included in every single family home contract done in this market.
The most common type of contingency is where the purchase of the home after the sale of the Buyer’s previous house. In this instance, the Buyer does not have the funds to buy the second home until they receive money from the sale of the first so they create a contingency that delays closing until after the sale and if the deal falls through gives them the option to back out of the contract altogether. At times these are mistakenly written as open-ended contracts with no end date for the Seller when instead they should be limited to give the Buyer a specified time under which they have to close on their first home.
Even with the option of such a contingency, it is a poor marketing strategy for any property that is likely to sell quickly to delay closing waiting on another home unless that home is under contract. The best use for this type of contingency is to ensure that the closing dates of the two contracts line up appropriately and if something goes wrong at the last minute to give the Buyer an option out in the same way as a finance contingency.
A very common contingency is the finance contingency. In this case, the Buyer requests a period during which they will obtain financing for the home, and if they are unable to secure lending, they will then have the option to back out of the contract. At the same time, many finance contingencies give the Seller the option to require proof of ability to finance within the same given timeframe and then the Seller has the opportunity to back out if the Buyer can not provide this proof. The only instance without these is with all cash sales, which, by definition, are home sales without a finance contingency and not necessarily a purchase that doesn’t use financing.
Related to the finance contingency is the appraisal contingency. In this instance, the Buyer has the option to request the Seller reduce the price of the home to match the value of the appraisal or the Buyer may then back out of the contract. This option does not require the Buyer to back out or require the Seller to lower the price, but if the price remains the same, the Buyer becomes responsible for paying the difference in cash at closing.
While these may be some of the most common types of contingencies, there can be any number of other situations where the Buyer or Seller wants to create an option for them to be able to back out of the contract if something unexpected comes up. Consider circumstances from both sides and be realistic in what you request. Know that the more contingencies you require in your, the less likely it will be accepted by the other party as it creates a more substantial amount of uncertainty. At the same time, if you want to win in a bidding war without increasing your price, try getting rid of common contingencies and see the Sellers consider your offer over a higher priced one.