Not everyone has the cash to buy a property outright. Many people seek finance from a bank or other financial institution in order to buy their dream home. Financing a home comes with a few caveats, though. While buying subject to finance may seem just right for you, don’t go “all in” just yet. Read on for five facts to consider.
Find your financing before you sign the contract for sale. Let’s face it. Sellers want to make sure their property sells. That is the most important thing to them which makes cash sales their favourite kind. However, most buyers don’t have large pots of cash around to buy a property outright — so they need to borrow the amount of the sale price from a financial institution. Borrowing (or mortgaging) the sale price of real estate property is common but not without risks.
If a buyer signs a contract for sale before he acquires financing for the sale, he is in danger of a breach of contract should he not secure financing before the settlement date. At that point, the seller may try to force the buyer to proceed with the sale or to forfeit his deposit and in addition sue for compensatory damages.
Buyers can avoid the unfortunate results of a breach of contract by securing the financing up front before signing the contract. Another way to avoid the breach is for buyers to buy a house with a condition clause that says the offer to buy is subject to his ability to secure financing. That way the buyer who is unable to secure financing can cancel the contract for failure of the condition.
How does the seller know that the buyer has satisfied the condition? The seller can ask the buyer for confirmation that the financing came through. Sometimes, the finance condition has a specific time frame. If the condition’s time frame expires, the seller can assume the contract is no longer conditional and avail himself of the remedies to either force the buyer to proceed with the sale or treat the failure to obtain financing as a breach of contract and demand the remedies that naturally flow from that breach.
What are the kinds of mistakes a buyer and a seller can make with respect to a contract for sale with a subject to finance conditional clause? A subject to finance clause may sound simple but here are just a few of the mistakes that can flow from this arrangement:
- A buyer believes that the term pre-approval means they secured adequate financing in an approved loan. A pre-approval only means a bank has looked at the buyer’s credit history and determines they are eligible to apply for a loan. It does not mean that the buyer completed the loan process or that the bank has agreed to lend the full amount that the buyer needs to buy the property.
- The buyer is mistaken in the belief that they met all of the lender’s requirements.
- The buyer lets the finance condition lapse because of a misunderstandings about pre-approval and satisfaction of the lender requirements.
- The finance condition lapses due to: buyer’s failure to give notice or gives late notice; buyer fails to pay deposit on-time; or buyer fails to comply with all the finance clause conditions.
How the finance condition affects Estate Agents. You probably already understand that the Estate Agent receives commission on completed sales only. In practical terms, that means that the Estate Agent has a vested interest in the sale going through to completion. Unfortunately, there are instances where Estate Agents have manipulated the finance condition clause to their advantage. Estate Agents have been known to help the buyer draft the finance condition and in the process:
- shorten the period of the finance condition;
- change the timing of the finance condition’s notice period; or
- suggest a less than squeaky clean lender for the loan.
It turns out that the Estate Agent also has a vested interest in the buyer’s default on the finance condition. If the buyer defaults, they forfeit the deposit to the seller. And, of course, the Estate Agent has the right to get commission on the forfeited deposit. In fact, they can force the seller to forfeit the deposit so the Estate Agent can take commission even if the seller doesn’t want to activate the forfeiture clause.
Typically, finance condition clauses contain three things:
- Name of buyer’s lender;
- How much money buyer needs to borrow in order to buy the property;
- The date the buyer expects to receive approval of his loan without conditions.
The standard form Contract for Sale of Real Estate sets out the recommended finance condition in General Condition 3. You may view/download the standard control for a minimal fee by clicking the above link.
How does the buyer know when he has loan approval? Generally, the bank or other lending institution will confirm the loan’s approved status. Unfortunately, there’s been a move with regard to home loans to provide a qualified loan approval — which means the loan is not approved at all because it is subject to certain conditions. Remember, a loan that the bank calls pre-approved — or approval in principal or approved subject to conditions — is not an approved loan.
Another loan phrase to watch out for is the term “subject to valuation.” That term is the most common condition on a loan approval. In most home sales, the sale price becomes the new market value for the property under contract. There are circumstances, however, where the bank or other lending institution believes that the buyer paid too much for the property and that the value of the property is not great enough to secure the bank’s position with the loan. In that instance, the lending institution may reject the loan.
Even if the buyer believes the property is worth the amount he offered, the bank may still deny the loan. So, remember, a loan subject to valuation is not approved.
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