You may have wondered how a pending house sale can fall through if both a buyer and a seller agree to the terms of a home purchase agreement. Isn’t it a binding contract? Yes, it is; the legal document includes the terms of the purchase and the final price for the house, but it is not set in stone.
No matter at which end of the negotiating table you find yourself, you should plan for the possibility that a pending home sale may fall through for the following reasons:
- Contingency clauses (we’ll discuss six)
- Closing document issues
- Buyer doubts
A home purchase is a huge investment, so a buyer would want to know everything about the house before the closing. A home inspection, an objective examination of a home’s condition, can reveal any defects and deficiencies that a seller may need to address first.
Many home purchase contracts include an inspection contingency clause. The clause gives a buyer the right to request an inspection within a specified date, walk away from the deal, or request the seller to make repairs if the home inspection report highlights major problems. While a home inspection can minimize costly surprises, it can also pressure buyers to walk away from a deal.
Contracts can include an appraisal contingency, allowing the buyer to either negotiate with the seller to lower the price, move forward with the purchase if the terms allow, or cancel the contract if the appraised value does not meet a minimum amount. Banks usually require an appraisal to determine the home’s value before approving a mortgage loan.
The reason for this is lenders will loan an amount that is equal to the appraised value or the sales price, whichever is less. If the property’s asking price is equal to or less than the appraised value, a buyer can get the financing they need. If the asking price is over the appraised value, the lender will reduce the loan to the home’s appraised value (the buyer may choose to negotiate). In other words, the home is overpriced. Lenders protect their interests by not overinvesting in properties that are below their market value.
For example, a seller listed the home for $110,000 before it was appraised for $100,000. The lender will only finance $100,000. The buyer can either make up the difference by paying $10,000 out-of-pocket or by negotiating with the seller to drop the price. If the seller refuses to lower the price, the buyer could cancel the deal due to the contingency.
Another common reason for why some house sales fall through is an unmet mortgage contingency. This contingency gives buyers time to secure financing and to reclaim their earnest money if they cannot obtain a loan. Earnest money is a buyer’s deposit paid into an account to show commitment. This amount can be applied towards the home’s purchase price.
Loan denial can come as a surprise to prospective home buyers, especially to those who are pre-approved for a mortgage loan. The fact is a mortgage pre-approval—a statement of an individual's credit worthiness—is only a conditional commitment from a lender that a buyer is eligible to borrow a specific loan amount at a specific interest rate. Life events such as the loss of employment or a large increase in additional debt can throw a wrench into the loan process.
To ensure the home sale is finalized, financial experts advise against doing the following:
- Taking on new debt
- Switching employment
- Deducting large funds from personal bank accounts
- Failing to make timely payments
Home Sale Contingencies
We learned that sometimes obtaining financing is not a guarantee. Buyers also face another challenge: the right timing. Many home buyers may find themselves in a race against time to sell their current home. Unless their income was sufficient enough to cover two mortgage payments simultaneously, a buyer will likely feel compelled to sell their home before proceeding with the purchase.
A home sale contingency clause protects a buyer in the event they are unable to sell their current home for their asking price within a specified amount of time, usually 30-90 days. The buyer can also back out of the deal without legal consequence. For the seller, the contingency forces them to delay for a period of time before they can relist the home again. Although home sale contingencies are not in the seller’s best interest, once the deadline passes, the seller would have the right to cancel the contract and wait for a more qualified buyer.
The kick-out clause—a boon to sellers—offsets the home sale contingency by allowing a seller to market their home. If a more qualified buyer makes an offer, the seller can then “kick out” the first buyer after a certain period of time. The first buyer generally has 72 hours to remove the home sale contingency or use it to back out of the deal. If the contract is cancelled, that buyer receives their deposit.
A house can sit on the market for as long as 30-90 days. Without a kick-out clause, the seller would need to wait until the deal falls through or when the buyer sells their house.
Home Insurance Contingencies
Sometimes a seller or lender may require a buyer to purchase a home insurance policy and include this condition in the contract. Known as a home insurance contingency, it seeks to give buyers a layer of protection in the event the property is damaged by natural disasters or other destructive forces. However, some buyers have reported difficulty in obtaining insurance. For example, insurance companies are denying fire coverage to California homeowners and home buyers due to the increased likelihood of wildfires. In these cases, pending home sales may fall through if a buyer cannot meet this contingency.
Closing Document Issues
From clerical errors to forgeries, title issues can cause serious delays in the transaction process or cancel the deal altogether.
Some of the most common issues are the following:
- Public record errors
- Outstanding liens
- Missing heirs
- Faulty disclosures
- Boundary disputes
Sellers and buyers can protect themselves from these issues by purchasing title insurance to proceed with the closing.
Purchasing a home is a significant life event. It is also intimidating. Consequently, home buyers are more likely to back out of a deal. The most common reasons are home inspection issues and loan denials. Whatever the reason may be, the buyer and the seller would sign a written contract cancellation and settle the deposit.
How often do pending home sales fall through? According to Forbes.com, 3.8% of home sales fail. In many cases, unmet contingencies, buyer doubts, and closing document problems are common causes.
Both buyers and sellers can take steps to increase the chances of closing the deal. Some events are out of one’s control—a buyer can’t sell their home or insurance companies deny coverage. Inspections on the other hand can go smoothly with some early preparation. A seller can schedule for a pre-inspection before listing their house to identify major defects and repair them over time. And buyers can try to limit their spending and avoid taking on new debt to guarantee they’ll be approved for a home loan.