By: Attorney Amanda N. Follett, Schloemer Law Firm, S.C.
If you are looking to buy from or sell property as a For Sale by Owner (FSBO), your Washington County and West Bend real estate attorneys at Schloemer Law Firm can provide valuable assistance to ensure that your interests are fairly represented in the transaction. In this article, we explore common contingencies that are included in an Offer to Purchase and some contingencies that buyers should consider including to protect their interests.
In a real estate transaction, the Offer to Purchase may be the most important document. The Offer to Purchase is a contract between the seller and the buyer for the sale of the real estate. Once the Offer has been accepted, the accepted Offer will dictate the terms of the transaction between the seller and the buyer. In other words, the Offer will determine both the buyer’s and seller’s rights and remedies in the sale of the property. Accordingly, it is important to have your attorney review the Offer before it is accepted to ensure that the Offer is enforceable and protects your rights.
This article should not be regarded as a way to short cut the careful analysis and legal advice and recommendations of a real estate professional. Every real estate transaction is unique, and this article is simply a starting point for educational purposes. Each transaction should be independently examined and evaluated to determine what contingencies are necessary. This article should not be considered legal advice, and you should consult with an attorney regarding your specific situation and what contingencies may be needed. While there is a standard form for an Offer to Purchase, no two properties have the same physical or legal characteristics, and custom contingencies should be considered in every situation. This article also does not address vacant land or commercial properties.
What is a Contingency?
Contingencies in an Offer to Purchase are conditions precedent to a buyer’s obligation to perform under the Offer to Purchase. That is, an Offer to Purchase will not be enforceable until these contingencies (i.e., conditions) are fulfilled or waived. Contingencies should be clear and precise so that it is clear when a condition is satisfied and what the consequences are for a failure to satisfy the contingency. Generally, in drafting a contingency, the following should be considered:
- Whether it will be buyer’s or seller’s responsibility to satisfy the contingency;
- Whose cost the contingency will be satisfied at;
- Time period for contingency satisfaction;
- Consequences of failure to satisfy the contingency, e.g. if the Offer becomes null and void, whether the earnest money is required to be returned, etc.;
- Whether the contingency expires based on passage of time or whether explicit waiver is required.
Poorly or vaguely drafted contingencies are one of the most common causes of disputes and litigation between buyers and sellers.
Most buyers will need to secure financing in the form of a mortgage to purchase the property. The financing contingency serves to make the purchase by the buyer conditioned upon the buyer being able to obtain financing. If the buyer is unable to obtain financing, the buyer would be unable to complete the transaction, and in that case, the buyer would not be penalized for being unable to do so. In a financing contingency, the buyer will typically need to indicate the source of the financing, the time period for the contingency, the amount of the financing, the maximum rate of interest, the term of the loan, and the maximum amount of initial monthly payments. The buyer will also indicate whether the financing will be a fixed rate or an adjustable rate financing.
The standard Offer to Purchase requires that the buyer provide the seller with the buyer’s loan commitment, if the buyer qualifies for the loan described in the Offer, or another acceptable loan. The loan commitment must be delivered by the deadline set forth on the contingency. If the buyer does not deliver the loan commitment within such a timeline, the seller may terminate the Offer by written notice to the buyer. The buyer must generally accompany the loan commitment with a written direction to deliver the loan commitment to the seller. Delivery of the loan commitment will satisfy the contingency. Once the loan commitment has been delivered, the buyer cannot rescind an Offer if the lender decides not to finance the transaction.
A buyer should consult with their lender to determine the amount of time needed for this contingency, and the financing terms to be included.
A real estate Offer to Purchase will also typically contain an appraisal contingency. An appraisal contingency will typically be included because a lender will require an appraisal (a valuation of the property’s fair market value), so if a buyer is obtaining financing, the buyer will also require the appraisal contingency. Under an appraisal contingency, if the property does not appraise at the purchase price or higher, the buyer would have the right to terminate the Offer by providing written notice of termination to the seller prior to the deadline included in the Offer.
Many buyers will make an Offer contingent upon a home inspection being performed by a Wisconsin registered home inspector which discloses no “defects”. What is considered a defect will be determined by the terms of the Offer. While the Offer contains standard language regarding the definition of a defect, it has been our experience that the definition contained under the standard Offer is vague, and our clients are often best served by putting a dollar value on the definition so as to avoid disputes over minor issues that are inevitably discovered during an inspection.
In determining the amount of time required for this contingency, a buyer should consult with their home inspector to determine their schedule and how much time will be needed.
If a seller discloses certain issues in the Real Estate Condition Report, such items cannot be included in the definition of defect for this contingency. Accordingly, it is important to carefully fill out a Real Estate Condition Report to provide to the buyer.
If an inspection does reveal “defects”, the buyer and seller have several options. A buyer can deliver a “Notice of Defects” to the Seller (more on this later). Alternatively, a buyer and seller may negotiate an amendment to the Offer to Purchase to reduce the purchase price, and the buyer will take the property subject to the items noted in the Home Inspection Report. A buyer and seller can negotiate to have a seller complete certain repairs prior to closing, but it is often simpler to reduce the purchase price to avoid further issues.
If a buyer does not provide a Notice of Defects to the seller by the deadline, this contingency is deemed satisfied.
If a Notice of Defects is provided, what happens next depends on whether the seller has a right to cure under the Offer. If the Offer provides the seller with a right to cure and a buyer provides a Notice of Defects to a seller, the seller can choose to cure the defects or choose not to cure the defects and let the Offer become null and void. If the Offer does not contain a right to cure, delivery of a Notice of Defects will render the Offer null and void (in other words, it will kill the Offer).
The buyer may only perform the inspections identified in the contingency. If a buyer wishes to have inspections or tests for specific items or systems on the property, contingency should be drafted to specifically address those inspections and tests, such as roof, pool, electrical, HVAC, etc.
If the property contains a well and/or septic system, contingencies should be drafted specifically to address those items.
If a buyer wishes to have testing done, a contingency will typically be included to provide that the closing of a transaction is contingent upon (1) a safe well water test, (2) inspection of the well system to confirm that the well is substantially in compliance with code, and (3) inspection of the septic system to confirm that the septic system is operating properly and substantially in compliance with the codes regulating such systems. In each case, the contingency will also specify the timelines for completion of the tests, the party responsible for obtaining the tests, the party responsible for paying for the test, and the consequences of any issues noted by the tests.
These are just examples of a few of the most common contingencies. Depending on the specific property and concern of the buyer, other contingencies that a buyer and seller may wish to negotiate may include, for example:
- Sale of buyer’s other property.
- Environmental inspection.
- Radon testing.
- Pool inspection.
- Survey of property.
- Rezoning or variance approval.
- Ensuring suitability of a lot for building and confirming road access and availability of utilities.
- Contingencies related to landlord/tenant issues if there is a lease affecting the property.
- Copies of surveys or plans related to property.
- Letters verifying zoning and utilities, etc.
- Pest inspection.
Buyers and sellers should be careful in drafting and accepting contingencies. While contingencies are a very useful tool to ensure that a buyer is able to perform its due diligence prior to completing the purchase of real estate, a poorly drafted contingency can often lead to disputes between buyers and sellers and issues over whether earnest money is required to be returned. In addition, as a practical matter, if a seller has competing Offers, the Offer with less contingencies may be more attractive, so a buyer should consider what contingencies are really needed before adding unneeded contingencies. Buyers and sellers should work with legal counsel to ensure that contingencies are enforceable and precisely drafted.
If you have any questions regarding this article, please contact its author, Attorney Amanda N. Follett, at [email protected] or 262-334-3471.
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Disclaimer: The information contained in this post is for general informational purposes only and is not legal advice. Due to the rapidly changing nature of law, Schloemer Law Firm makes no warranty or guarantee concerning the accuracy or completeness of this content. You should consult with an attorney to review the current status of the law and how it applies to your unique circumstances before deciding to take—or refrain from taking—any action. If you need legal guidance, please contact us at 262-334-3471 or [email protected].