(Jeff Sorg, OnlineEd) – In the real estate transaction the contingency is one of the most powerful tools available to the real estate broker. When properly drafted, a contingency protects the client by allowing for the necessary time to obtain needed information or for a crucial event to occur before becoming obligated to close the transaction. Before we get started, let’s take a look at some definitions.
A contingency is an event that may occur. It is a future event or circumstance that might occur, but is not certain to occur. A contingency used in a real estate contract is a clause designed to protect a party to the contract, usually the buyer or seller.
A contingency clause defines a condition or action to be met in order for a real estate contract to remain binding and continue toward closing. A contingency becomes part of the real estate sale agreement when the buyer and seller sign the contract for purchase and sale.
Contingencies prevent contract provisions from becoming affirmative duties until the happening of the event or condition defined by the contingency. When a contingency becomes an affirmative duty, it is said to have ripened. Whether a condition is satisfied and ripens is an important concept to understand when drafting contingencies. For example, when a contingency does ripen, non-performance of the contract might represent either total or partial breach. If it does NOT ripen, the contingency may allow the benefiting party to cancel the contract without further performance and without being in contract breach.
The effect of the occurrence of a condition is to ripen the duty it qualifies – the duty is qualified by the specific event that is to occur. Once the event occurs, the duty of the party will become an affirmative duty and require further contract performance. If the party does not perform after becoming obligated, there is a contract breach. When the condition qualified by the contingency fails to occur, there is no ripening of the qualified duty, further contract performance is not required, and there is no contract breach.
A well-written contingency is one of the most powerful tools a real estate agent has at their disposal to protect their client. When properly drafted, a contingency will relieve the benefiting party of any obligation to perform the balance of the purchase contract without committing a contract breach.
Because the buyer will usually require information regarding the condition of a property, along with time to qualify for financing and to obtain an appraisal, contingencies are usually included to benefit the buyer. When properly drafted, these contingencies allow the buyer or a third party the necessary time to investigate any matters or concerns before becoming obligated to the balance of the contract.
Ideally, sellers and their agents prefer offers without any contingencies for the benefit of a buyer. However, this usually isn’t the case and most transactions will contain contingencies for the buyer to obtain financing, the house to appraise for at least the purchase price, and a due diligence period for inspections and other investigations the buyer wants completed before becoming obligated.
As a rule of contract interpretation, the buyer or seller may claim the benefit of a contingency, regardless of who included the contingency in the contract. This means absent any clause allowing only one party to waive, satisfy, or remove a contingency, both parties are required to waive it. When drafting a contingency, it is important to include who (the buyer, the seller, or both) has the right of waiver, satisfaction, or removal.
Silence by the Party Claiming the Benefit: The issue of silence by the party claiming the benefit of the contingency is one of whether silence is treated as approval or disapproval of the qualified event. Contrast the following two ways a contingency for a professional inspection could be drafted:
If the buyer does not issue written disapproval of the property inspection report within seven-business days the buyer is waiving this contingency and accepting the condition of the property.
If the buyer does not give written approval of the property inspection report within seven-business days this transaction is void without further action by either party.
In both of these examples, assume seven days pass with the buyer remaining silent. In the first example, the buyer is approving the inspection report and waiving the contingency and the buyer’s duty to perform the rest of the contract ripens into an affirmative obligation. In the second example, the buyer is not approving the inspection report and both buyer and seller are discharged from further contract performance.
Time: The element of time is an important part of a contingency because it is a limiting factor of the contingency. This means that the occurrence or non-occurrence of the specified event must happen by a date certain, such as August 15, or within a certain period, such as 30-calendar days.
Generally, time is material. This means occurrence or non-occurrence of the event within the specified time limit or on or before a date certain will influence the ripening of the underlying duty to perform the rest of the contract. Time is material the following situations:
When the parties have expressly stated that time is a material element by the inclusion of “Time is of the Essence” anywhere in the contract, but not necessarily in the contingency itself;
When the nature of the agreement itself would indicate it to be material because performance must occur on or before the stated date; and
When the delaying party has reasonable notice and opportunity to meet the specified condition.
Satisfaction: A contingency is usually based upon the satisfaction of the party for whose benefit it was written. In other words, the party who included the contingency will usually be the party who needs to waive or satisfy it.
The courts have categorized satisfaction in two ways:
Satisfaction based on the taste, personal fancy or personal judgment of a party to the contract, or;
Satisfaction based on an objective, reasonable person standard.
These two standards lead to different results. Under the first standard, based upon the personal fancy standard, the decision relating to satisfaction is absolute, so long as the decision is made in good faith. Generally, this standard applies in situations where the condition is purely personal.
The reasonable person standard of satisfaction is reviewable as a question of fact by a court. In other words, if the buyer unreasonably refuses to remove the inspection contingency, the court will decide if a reasonable person would remove it. If the court rules the buyer unreasonable and orders the contingency removed, then the buyer’s duty to close the transaction is ripened into an affirmative duty.
To clarify intent , when a contingency is based on the personal fancy standard it should be stated as such using as much clarity as possible.
Absent the personal fancy clause in the contingency, the reasonable person standard applies.
Click below to keep reading…
Page 1 | Page 2
Interested in more FREE coaching tips? Sign up here!
OnlineEd is a provider of pre-licensing, post-licensing, and continuing education for real estate licensees. For more information about OnlineEd, please visit www.OnlineEd.com.