How Does A Mortgage Contingency Work?

Most real estate transactions rely on a home buyer's ability to obtain a mortgage. If a buyer signs a purchase contract and discovers they can’t secure financing, a mortgage contingency can come into play.

A mortgage contingency – also known as a financing contingency or a loan contingency – is a clause that allows buyers who can’t secure a mortgage to cancel a home purchase contract without penalty and get a refund of their earnest money deposit.

Explore the benefit of adding a mortgage contingency clause to a home sale agreement and see how it can benefit both home buyers and sellers.

What Is A Mortgage Contingency?

How Does A Mortgage Contingency Work?

A buyer submits a purchase offer to a seller when they’re ready to buy a property. If they haven’t been preapproved for a mortgage or aren’t sure whether they’ll qualify for a loan, they can add a mortgage contingency clause to the offer. Once both parties sign the purchase agreement, the buyer will likely make an earnest money deposit, leading the seller to take the property off the market.

The purchase agreement will specify the mortgage contingency period, which is the length of time the buyer has to obtain financing from a lender.

Once the buyer gets approved for a mortgage, they’ll provide the seller with a mortgage commitment letter from their lender, setting the next steps of the closing process in motion.

If the buyer doesn’t qualify for the loan within the mortgage contingency period, they can back out of the deal. With a mortgage contingency clause, a buyer can terminate a home sale agreement during the contingency period without penalties if they can’t secure financing in time. The buyer will get their earnest money deposit back, and the seller can look at other offers.

How Long Does A Mortgage Contingency Last?

The loan contingency period typically lasts 30 – 60 days. The buyer and seller will agree to a time frame and add it to the purchase contract. Securing financing and mortgage lender approval is usually a crucial step for buyers before they can begin the closing process.

A buyer can typically request an extension of the mortgage contingency deadline if they can’t get the loan by the original deadline. The seller can either agree to the extension or reject it. If the seller refuses to budge on the deadline, the buyer must decide whether to cancel the deal or proceed without the contingency.

Other Types Of Real Estate Contingencies

Real estate contracts often include various contingencies that can protect home buyers and sellers from unexpected issues during the sales process. Some common contingencies include:

• Home inspection contingencies: This clause allows a buyer to request a property inspection before agreeing to purchase the home.
• Appraisal contingencies: This clause allows a buyer to legally back out of a sale if a property appraises for less than its purchase price. If the buyer decides to buy the home despite the lower appraised value and the seller won’t lower the asking price, a lender will likely request a higher down payment.
• Title contingencies: This clause helps ensure a buyer receives a clear title on a property. The buyer can request a title search for any liens or easements.
• Home sale contingencies: This clause allows a buyer to back out of a sale if they can't sell their existing home within the agreed time frame.

What Goes Into A Mortgage Contingency Clause?

The home buyer and seller must agree on the conditions outlined in the mortgage contingency. It should include details on the following key lending terms:

Mortgage Contingency Deadline

The mortgage contingency period mandates how long a buyer has to secure a loan. The period – which both parties must agree on – typically ranges from 30 – 60 days.

Sometimes, buyers and sellers opt to add a mortgage contingency extension date, which automatically extends the mortgage contingency period if the buyer can’t secure a loan before the original deadline. However, the seller isn’t obligated to grant a contingency extension. They can cancel the sale once the contingency expires and move on to other buyer offers.

Type Of Mortgage

Most mortgage contingency clauses specify the type of mortgage the buyer must secure. After reviewing loan options, both parties must settle on the specific mortgage loan the buyer must qualify for to move forward with the closing process.

Mortgage Approval Amount

A key term of the mortgage contingency clause is the loan amount the buyer must secure. This condition acts as a secondary protection for the buyer. If the lender approves the buyer for an amount that differs from the amount in the contract, the buyer can terminate the sale without penalty.

Maximum Interest Rate

Buyers should let sellers know what interest rate they’re comfortable paying monthly. If a buyer gets approved for a home loan with a higher rate, the mortgage contingency clause will allow them to back out of the sale penalty-free.

Closing Or Origination Fees

Before signing the purchase agreement, the buyer must establish the closing costs and fees they must pay to secure the loan. One category of fees a mortgage lender typically charges is origination fees, which include the cost of processing, underwriting and funding a loan. Buyers should factor these additional fees into their home buying budget.

Should You Waive A Mortgage Loan Contingency?

Although most real estate agreements include a mortgage contingency clause, some buyers waive it. Buyers usually consider waiving a mortgage loan contingency if:

• They’re paying for a property in cash.
• They’re preapproved for the necessary loan.
• They’re using seller financing.
• They want to make a more compelling offer in a competitive market.

Leaving out the mortgage contingency clause can be risky. If a buyer’s financing falls through without the protection of a mortgage contingency clause, they’ll likely lose their earnest money deposit and may open themselves up to additional fees and potential lawsuits.

The Bottom Line: A Mortgage Contingency Protects Buyers If Financing Falls Through

The mortgage contingency clause is a commonly used safety net to protect home buyers and sellers from unexpected issues during the home buying process. Both parties should discuss lending terms during negotiations and understand the risks of waiving the clause.

If you’re still early in your house hunt, get started on your mortgage approval with Rocket Mortgage®.