|The Only Contingency You Will Ever Need
the real estate market as a new investor can be very intimidating.
That's why so many people are tempted to add contingencies to
their purchase contracts that allow them to escape from an offer
unharmed. Not that there is
anything wrong with this line of thinking.
Protection is good and necessary.
The error is found in the use, or should I say "abuse," of
these contingencies when the buyer uses false contingencies, or
"weasel clauses," to secure his or her protection at the expense of
those of you unfamiliar with the concept, weasel clauses say things
like, "This offer is subject to the approval of buyer's partner,”
when the buyer doesn't really have a partner or, “This offer is
contingent upon the inspection of the property by my spouse," when
your spouse has already seen and approved of the property.
The real reason for these contingencies is to provide the buyer
with a bogus reason to back out of a deal by later claiming that their
"partner" (possibly his dog) or their wife/husband didn't approve
of the purchase. The
problem with these contingencies is that the buyer is deceiving the
seller and, even worse, if the buyer exercises a weasel clause, other
events in the seller's life (bill payment, purchase of another house,
helping a relative, etc.) may be significantly delayed when the
settlement doesn't occur as expected.
the description of "weasel" never sat well with me.
I didn't ever desire my reputation to be that of someone who
“weaseled out” of a deal every time the chips were down, so I made a
pledge to myself when I began investing to see every deal through to
completion whenever a seller accepted my offer.
My sole condition was that I had to be able to obtain sufficient
funds in order to settle. Such
funds would either come from lenders, my own bank account, or a
combination of the two.
me when I tell you I can relate to many of you who offer tens of
thousands of dollars for a home with little to (in my case) no money in
the bank. This seems so
illogical, however, like you, despite my lack of funds, I knew I had two
choices, make offers or go home.
Not being the "quitting" type, I found a solution to my
problem, a financing contingency that would allow me to purchase an
investment property by borrowing ALL of the required funds while
informing my seller of my cash position.
My standard contingency (certainly nothing new or magical) read
"This offer is contingent upon the buyer obtaining financing from ABC Lenders.
A prequalification letter from such lender is attached."
difference between this financing contingency and a "weasel clause"
is that it discloses truthfully to the seller upfront that I am
dependent upon my hard money lender to provide me with enough money to
purchase their property. I'm
not hiding anything or creating an escape hatch.
Contingencies In Practice
I quickly discovered when making offers on bank REO properties, weasel
clauses were unacceptable even if I did intend to use them.
Banks had been burned by weasel clauses time and time again, and
they weren't accepting contracts containing them.
In fact, they were selling their properties "as-is," so
inspection contingencies were out of the question as well.
My only choice was to make truly clean offers (no contingencies)
or offers with a financing contingency.
Since I didn't have my own cash, I had to make offers with
with many of you, my goal when I first started was not want to buy homes
but rather to wholesale them, pick up my check, and move on to the next
deal. Now, if I purchased a
home at the right price, wholesaling was not a problem as I always had
buyers waiting in the wings. However, if my offers were too high, it was difficult to find
a wholesale buyer since I had paid too much.
were if I paid too much for a house and couldn't wholesale it, then my
hard money lender wouldn't give me enough money for the purchase
either. They might have
agreed to finance a portion of it, but if I didn't have the rest of
the funds required to settle, I couldn't buy the home and they
didn't have any choice but to turn down my loan request.
If they turned me down, I could exercise my financing contingency
to release myself from the contract.
I'm not suggesting that anyone should attempt to wholesale properties
by haphazardly making offers that may or may not be too high knowing
that the financing contingency can legitimately bail them out.
Whenever you start to exit a lot of deals, however ethically or
gracefully, sellers will still be upset and word will start to spread
that you can't be trusted to settle and your offers won't be
accepted. Plus, you risk
losing your earnest money deposit, depending upon the language in your
I do recommend is that you to go into every deal with the intent of
closing if at all possible. Even
the "cash poor" among you should take heart.
It won't be long before you have some cash to assist you in
those situations where your hard money lender comes up short.
In my case, I was only three months into my investing career
before I had made $23k and was able to put away some cash which enabled
me to purchase and rehab some of my “bad” wholesale deals on my own,
even when my hard money lender couldn't finance the whole purchase.
Problems Not A Problem
you might not be able to insert an inspection clause into your contract,
you will still be protected from material defects in the property by
your financing contingency. For
example, let's assume that after signing a contract to purchase a
home, you discover some major repair issues that weren't disclosed or
uncovered prior to your making an offer (by major, I mean significant
structural damage, a dry well, etc. Most little things don't make a difference since you are
buying properties at such reduced prices).
Upon discovering this problem, you have an obligation to your
lender to call them so they can make an educated decision regarding the
loan. They will reevaluate
and probably reject your loan request, protecting themselves and
preventing you from getting involved in a bad deal.
As a result, you will be able to exercise your financing
contingency and exit the deal.
the other hand, you could keep the problem to yourself.
But why? There
isn't anything wrong with informing your lender of the problem.
In fact, it's your duty and what they expect.
How do you think they would feel if they discovered the problem
later? Furthermore, how do
you think they would feel if they discovered you knew about the problem?
Sure, you could hide the problem and involve both of you in a
deal that you shouldn't be doing, but in the process you would
jeopardize your relationship and prevent them from making an educated
decision about how they invest their money.
No question about it. You
should be honest with your lender and move on to another deal.
just as with your offering price, you should exercise care in doing your
due diligence and arriving at a realistic repair estimate so you don't
back out of too many deals. Don't
get stuck in the details, but talk to an experienced investor and obtain
a good understanding of the general repair costs in your area.
When in doubt, estimate high, but try to remain in the ballpark. Otherwise, your offer will be too low to be competitive.
whether you need protection from high offers or significant repair
issues, if you use your financing contingency correctly, it is the only
clause you will ever need. Personally,
I have only needed it twice. On both occasions, I was off the mark with my offers and
could not obtain enough financing from my hard money lender as a result.
In both cases, I was released from my contract through my
financing contingency. As I
said before, it's the only contingency you'll ever need.
Since 1998 Steve Cook has flipped many hundreds of houses as an active Baltimore-area real estate investor. Steve’s
unique specialty is the “flipping homes 1-2 punch”, a proven system of real estate investing that powerfully combines
wholesaling and rehabbing houses. Also the founder of www.FlippingHomes.com, Steve is dedicated to helping others
in this thriving online community succeed through understanding and aggressively applying his time-tested,
step-by-step approach to flipping real estate. Get FREE weekly tips from Steve Cook and other house flipping
experts at www.flippinghomes.com
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