The market conditions for real estate in the last two years have been, well, a little nuts. Following pandemic challenges, we’ve seen inventory drop and prices shoot up, which has created an extremely competitive market for both buyers and sellers. Sellers may experience multiple-offer situations, and buyers are having to compete more aggressively than ever. There is intense pressure, so when things don’t work out as planned and the contract terminates, it can be heart-wrenching. However, both buyers and sellers can equip themselves to deal with some of the most common challenges that can interrupt or completely halt the sales process. Read on to find out the top reasons why homes fall out of contract (or terminate).
1. The inspector finds items that need to be repaired
A critical repair is one of many surprises that can show up while a home is “under contract”, meaning the window of time between when an offer to purchase a home is accepted and when the keys are handed over at closing. After an offer is accepted, a buyer typically has a short time frame to hire a professional to conduct an inspection.
Home inspectors look at roofing, cooling and heating systems, as well as the electrical and plumbing of the house. They also may commonly flag issues with grout or tile, tears in the carpet, or countertops that need to be resealed – in other words, smaller repairs that could be handled by the seller without too much cost or effort.
Based on the inspection results, a buyer may ask for certain items to be fixed prior to the sale or for the seller to reduce the price to cover the cost of making repairs. If an agreement with the seller can’t be reached, this is one of the first opportunities in the contract period when a buyer may be able to back out without losing their earnest money. In this very competitive market, a buyer might wish to waive the inspection altogether, which might not be in the buyer’s best interest. In this case, the buyer might waive the right to object to individual issues discovered in the inspection but preserve the right to terminate the contract based on the inspection as a whole.
To avoid surprises, sellers could consider getting an inspection before listing a home so issues can be fixed up front or so sellers can be prepared to offer concessions in the contract. And of course, sellers can and should identify and make minor functional and/or cosmetic repairs themselves before ever listing the property for sale.
2. The home is appraised for less than the offer price
Did you know that cash buyers do not have to have an appraisal? Ordering (and paying for) an appraisal is at their discretion. However, buyers who need loans must follow their lender’s requirements, which almost certainly include getting an appraisal of the property.
When setting the listing price for a home, agents take several factors into consideration, including looking at recent comparable properties’ sales. But today’s competitive market means the seller may get offers that are far above the list price.
The challenge is that most lenders won’t finance a home for more than the appraised value. If the appraisal comes in below the offered sale price, either a seller would have to agree to lower the sales price or a buyer would have to pay cash for the difference (called the “appraisal gap”).
To make sure the buyer is protected, his/her agent can include a contract provision that allows a buyer to back out of the deal if the appraisal comes in short and a new agreement can’t be made. A seller may be able to contest an appraisal if an agent is able to show comparable properties that sold for a higher price or demonstrate that the home received multiple offers at or above the asking price.
3. The buyer’s financing falls through before the home can close
After the inspection and appraisal, both parties can feel more optimistic that the contract will close successfully. Fewer options remain that allow buyers to back out without losing their earnest money, which can reassure sellers that the buyer is serious about the deal. But when a buyer’s financing falls through, a contract can be derailed, even just days before closing.
Early in the contract process, buyers should turn in all their financial paperwork to their mortgage professional so all that’s left during the contract are the inspection, appraisal and final verification of income. The mortgage professional may need an updated credit score shortly before closing, so buyers should avoid purchasing new furniture on a credit card or buying a new car. These actions could change their credit score, impact their ability to qualify for the loan for which they applied, or impact the loan terms.
Some contracts have addenda to protect the buyer from unexpected emergencies such as a job loss that may jeopardize loan qualification. While there are some circumstances a buyer won’t be able to predict, having as much of the loan process completed prior to putting in an offer can help set buyers up for fewer complications down the road.
Sellers can protect themselves by asking buyers who are making offers to provide proof of funds and pre-approval loan status before accepting an offer. And in a multiple offer situation, it isn’t uncommon for a seller to simply rule out buyers who have loan contingencies and focus only on cash offers. So if the buyer needs a loan, the buyer should be pre-approved and able to document that the financing is in place.
Falling out of contract can be anything from inconvenient to catastrophic for buyers, sellers and real estate agents. Buyers and sellers can set themselves up for success by working with a real estate professional, and planning and preparing carefully for anticipated problems!
Published July 2022