Mortgage contingency– is there a more important clause?

Two weeks prior to closing on the house you've purchased, your lending bank advises it can no longer provide you the loan. Now what?

Scary scenario

What would you do if you entered into a contract to buy a house and then 2 weeks before closing you find out that your lending bank cannot commit to the providing you the loan for the purchase? At this point you are bound by the contract to close with whatever money you can find. You need “CASH” and you need it fast!

If you are like most people, you likely will not be able to muster up enough funds to pay the purchase price and the closing costs without a loan. This means you cannot close on the house and will be in breach of the contract.

The seller cannot force you to close if you don’t have enough funds but they can keep the down payment you paid when you entered into the contract, which is usually 10% of the purchase price. This means if you were buying a one million ($1,000,000) dollar home, you would be at risk of losing the one hundred thousand ($100,000) dollars you paid to the seller’s attorney when you signed the contract. That is a lot of money to lose with nothing to show for it. Don’t forget any other expenses you incurred along the way like legal fees, loan application fees, title search fees, property inspection fees and alike.

How to protect yourself

The best way for a buyer to protect their down payment is to ensure the contract has a Mortgage Contingency Clause. A mortgage contingency clause is a provision in the contract which states that if the buyer cannot get a mortgage within a fixed period of time with specified terms, the buyer can cancel the contract and have the down payment returned. This clause effectively makes the contract conditional on the buyer being able to obtain a mortgage on the property.

How does it work?

The buyer and seller must agree in the contract on the time frame in which the buyer needs to secure mortgage commitment. A contingency period typically lasts anywhere between 30 and 60 days. If the buyer is unable to get a mortgage commitment within the agreed time or circumstances change such as interest rates sky rocket, then the buyer will need to provide proof of their attempt to obtain the mortgage and the inability to do so.

This is usually a letter from the lender or mortgage broker to whom the buyer applied clearly stating that the bank has either rejected the buyer’s application or has not been able to provide a commitment to the buyer within the specified time frame. At this point the buyer can choose to cancel the contract and be refunded the down payment by the seller.

If the buyer is finding it hard to get a mortgage approved before the end of the contingency period, it is possible to request an extension from the seller. It is entirely up to the seller if they are willing to grant you a further extension. An astute attorney will be following this time frame and checking in with their client to determine if they have a commitment and if not will then request an extension from the seller on behalf of the buyer. If the extension is not granted, the attorney can rely upon the mortgage contingency and terminate the contract for the buyer and obtain the refund of the down payment.

How do I work?

I have represented both buyers and sellers of residential houses and apartments throughout New York and find this clause to be one of the most regularly negotiated and relied upon. I guide clients through the process of their residential purchase or sale and walk them through this and each other provision of the contract to manage their risk and ultimately ensure a smooth closing.