Weekly Market Update

In the Wake of SVB, Signature and First Republic, Funding Contingencies Come to the Fore

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Q: What is the difference between a mortgage contingency and a funding contingency?

A: A mortgage contingency generally refers to a purchaser’s ability to cancel a contract of sale in the event that the purchaser is unable to obtain a loan commitment from a lender (meeting the financing terms set forth in the contract) on or before a specified date in the contract of sale.

A funding contingency generally refers to a purchaser’s ability to cancel a contract of sale if the lender, after the loan commitment letter has been issued, unilaterally decides not to provide loan proceeds to the purchaser. Therefore, a purchaser’s obligation to purchase is conditioned upon the lender providing funds to the purchaser at the closing.

The use of a mortgage contingency is customary in many residential real estate transactions. Conversely, a funding contingency has been less common because the bank’s ability to deliver funds on closing day has been a given.

In the wake of the collapse of SVB and Signature Bank, that shifted this week (for now anyway.)

Buyers should consider securing a secondary lender as backup and including funding contingencies, in addition to a mortgage contingency so that they aren’t stuck in a contract that they can’t close if their lender(s) fails to deliver.

Sellers should welcome a funding contingency because their objective is to sell, not to claim a buyer’s deposit. Furthermore, pursuing a buyer’s deposit in this case would be counterproductive. Why?

Here’s how this would otherwise play out without a funding contingency: 

Mortgage commitment letter comes in and the deal moves forward toward closing, but instead of issuing a “clear to close,” the bank pulls out due to their inability to fund. Contract would then allow the seller to keep the deposit. However, despite what the contract says, the buyer WILL fight back in court because they are indeed not at fault for the deal not closing. 

This puts the property in the middle of a legal dispute, thereby adding a lis pendens notice to the propertyrendering it unsellable until the dispute is settled, the judgement for which would take >$20,000 and many, many months to arrive.

While it would be possible for the seller to relist the property and cancel the lis pendens when another buyer comes along, most sellers would be better off saving the legal costs and anxiety by returning the deposit, putting the property back on the market and finding another buyer sooner.

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