How to Avoid Making a Contingent Offer to Purchase
Avoiding Real Estate Contingencies
Let’s face it, buying or selling a home is a stressful experience for most people. This is why we want to make the process as quick and painless as possible for you. However, real-estate transactions can get held up due to various types of contingencies. Sometimes real estate contingencies are out of your direct control, like needing to sell your home before you can purchase another one.
Other real estate contingencies are the result of a lack of education on the part of financial companies where homebuyers and sellers are concerned. To remedy this, we want to help you learn about several potential options for avoiding real estate contingencies to help expedite your home transition. From moving cities to upsizing your space, these options can be your best ally in avoiding real estate contingencies when you’re ready to change homes….
What is a Contingent Home Sale?
You might be asking yourself what is a contingent home sale anyway? Well, a “contingent home sale” is simply any sale dependent on meeting certain requirements (also known as “contingencies”) to be completed. Contingencies can take many forms, including:
- Clean Titles
- Verification of Income
- Appraisal of Property
- Proper insurance, just to name a few…
Essentially, with a contingent home sale, the home buyer and seller agree (usually in the form of a legal contract) the sale will not be made until all applicable criteria is met. Sometimes, these contingencies don’t really hold up a real estate transaction from finalizing. Other times though, real estate contingencies can cause irreconcilable headaches for both parties.
Common Real Estate Contingencies: Home Sale Contingency Issues
One of the most common real estate contingencies required by lenders is the sale of the buyer’s current property. Although extremely common, this home sale contingency can cause significant problems for buyers and sellers alike. In general, real estate contingencies have the potential to create logistical logjams that hold up multiple sales.
For example, let’s say Mr. Adams wants to purchase a home, but he need to sell his house first in order to do so. He finds a buyer, Mrs. Blake, but she is waiting on Mr. Clark to buy her house, who is waiting on Miss Davis to buy his, who is waiting on Mrs. Evans and so on and so forth. Are you beginning to see what we mean by logjam?
Now it is important to discuss why some common real estate contingencies, like the “sell first-buy next” clause exist. In order to do so in its proper context, let’s talk about debt to income ratio mortgage loans….
What is a Debt to Income Ratio Mortgage Loan?
Let’s look at the concept of a “debt-to-income ratio mortgage loan,” which lays the foundational framework for common real estate contingencies like the “sell first-buy next” clause. Your debt to income ratio (DTI) is the measurement of your total income compared to your total debt load. So if someone has $1,000 in debt payments every month and makes $4,000 a month, their debt-to-income ratio is 25% (because $1,000 is 25% of $4,000).
Let’s say you are a homeowner with a growing family who wishes to move to a larger house. You not only need to move into a new house, you also need to sell your current home. You find a house that is perfect for you, but now comes a DTI problem. Currently, the debt-to-income ratio on your existing home is (for example) 40%. If you were to purchase the new home without selling the current property first, your DTI would be at, say, 60%.
The increase in DTI is too high for some lenders, so they will be unwilling to make the loan until you have sold your existing home first. This is just one example of how an existing debt to income ratio mortgage loan can hamstring the process of buying a new family home.
According to data from the National Association of Realtors (see p. 24) 47% of all buyers have owned a previous residence. 57% of buyers between the age of 52 and 61 have previously owned property. 78% of buyers aged 62 to 71 have owned a previous residence. Now, this situation comes up regularly, so solutions exist to help you address this potential issue.
What is a Non-Contingent Mortgage Loan?
One of the most popular solutions to the debt to income ratio mortgage loan problem is a non-contingent home loan. A non-contingent home loan gives you greater flexibility by allowing you to find the home you love and make the purchase when you’re ready. A non-contingent home loan is essentially a mortgage loan that has no requirements or contingencies attached.
A non-contingent home loan is ready to go immediately, which means you don’t have to meet any more steps to finalize the lending process. So your loan is ready when you find the house you want to purchase. A non-contingent mortgage loan can alleviate the need to sell your current home before you buy a new one, and can end the logjam of one of the most common real estate contingencies before it forms in the first place.
Options for a “No Mortgage Contingency Loan”
There are several potential options for a “no mortgage contingency loan” you can explore. Of course, a “no mortgage contingency loan” is exactly what it sounds like: A home loan with no stipulations attached (like the ones we have already discussed). The feasibility of these options depend entirely on your current situation and any unique needs you might have. Let’s discuss these options here, in order to help you decide which no mortgage contingency option might work best for you….
Borrowing Money from Family
If you need cash to reduce your overall debt-to-income ratio, and thereby eliminate a lender’s contingency requirements, borrowing money from family (or even close friends) in the form of a cash gift may help you achieve no mortgage contingency loan status.
For many people, borrowing money from family is far from the best option. However, it could be just the solution you need to get the no contingency mortgage loan for your home purchase. Various organizations have different requirements for gifts and loans, so you’ll also need to make sure you understand these options before seeking money from friends or family members.
For loans through Fannie Mae, Freddie Mac, and the VA (as well as jumbo loans) the gift must come through a member of your immediate family or close extended family. This includes parents, grandparents, uncles or aunts.
FHA has slightly different rules. With a FHA loan, you have a wider range of options for borrowing money from family or friends. FHA’s requirements allow close friends, employers, labor unions, other government agencies, and some public or non-profit entities to loan or gift you funds for your new home purchase.
A 5% contribution will be required on many conventional loans if the total down payment is less than 20%. For jumbo loans, there is usually a required 5% client contribution. Additionally, if you have a moderate or low credit score, there could also be requirements that a specific portion of the down payment comes from your personal (loaned or gifted) funds.
Using gift cash as a downpayment is a fairly simple process, but be aware that you will have to provide a gift letter. This letter should include the gift amount and a statement that it’s a gift not a loan, as well as banking evidence of the transfer. Also, be aware that the money must already be in your immediate possession, or else your lender might not approve your no mortgage contingency loan.
Benefits of a Home Equity Line of Credit on Your Current Property
Another option to qualify for a no mortgage contingency loan is to take out a home equity line of credit out on your current property. A Home Equity Line of Credit, often called a HELOC (pronounced “Hee-Lock”), is a loan that uses your home’s equity as a means of getting cash quickly. Essentially, one of the main benefits of a home equity line of credit is your ability to borrow against your home’s equity, which allows the house itself to be used as collateral.
This program doesn’t require you to take out a fixed amount, but it instead create a line of credit you can draw from as needed. If you have borrowed and repaid a certain amount, your full amount of available credit is restored, much like a credit card. HELOCs generally have a draw period and a repayment period. To qualify for and reap the benefits of a home equity line of credit, you need to have established equity in your home.
The amount of equity required will vary by lender and program options. For example, if you have established (strong) equity, you can borrow up to 85% of the value of your home. This means if your home is worth $2 million and you still owe $1.5 million, you can borrow an additional $200,000 as a HELOC. If you choose to use this capital toward the purchase of your new home, you may be able to avoid a contingency loan altogether.
You can usually find a fully adjustable HELOC with a prime rate, plus a margin of one to two percent. Generally, it takes about 30 to 45 days to secure your cash through a HELOC, so you’ll need to start the process as soon as possible in order to reap the benefits. Also, it is important to be aware of any stipulations with HELOCs, including a potential early payoff penalty if the house is sold in the first 12 months.
Higher Loan to Value Mortgages
Along with DTI, loan-to-value (LTV) is one of the most important factors lenders take into account. LTV is essentially a measurement of the amount of the loan compared to the value of the property. Generally, lenders like the LTV to be a low as possible while still allowing them to make some profit off the loan. Of course, the more money they loan, the more they will make back in interest, but high loans also have high risk.
With higher loan to value mortgages, lenders will ease one of the restrictions that would keep you from securing a loan in the first place. Perhaps you need a 95% loan to value mortgage, but the lender only allows a 90% LTV maximum because lending out 95% of the money needed to purchase to property is just too risky for them.
However, homeowners who meet certain requirements may be able to secure higher loan to value mortgages. Loan to value mortgages have a minimum down-payment requirement that is generally easier to meet, and they allow for max purchase prices that can help you become the proud new owner of an excellent home.
Cross-Collateralization Mortgage Loan
Another option for avoiding contingencies is a “cross-collateralization mortgage loan.” Sometimes a property is so valuable it can be used to secure not just one loan, but two. A cross-collateralization mortgage loan has several distinct financial advantages. Mainly, you don’t have to tie down multiple properties, which means you only have to put one of your properties at any potential risk.
It is important to understand the main reason people pursue a cross-collateralization mortgage loan is because they require more than one loan to purchase their new home. This option is useful to homeowners who have established a large portion of equity in their current homes, because it uses the two properties (your current home and the house you want to purchase) to leverage the total amount into one.
This option can be especially useful for homeowners who have lived in their current homes for many years, but who still need to qualify for payments on both properties. In this context, cross -collateralization mortgage loans may be useful if there is equity in your current home allowing you to make a non-contingent offer on a new residence without needing to sell your current one.
The are some potential issues regarding cross-collateralization mortgage loans to be aware of. For example, if you want to sell one house, you may have to pay off both loans that are secured by that property, or seek a new form of loan structure entirely. However, if you work with an expert mortgage professional, you can likely find a solution to this issue before it becomes one.
There may also be a few requirements to use cross-collateralization mortgage loans. For example, the loan will need to be in first position on both your new or old properties, and you must qualify for mortgage payments on all liens against your property. There are other requirements beyond this, so be sure to talk with an expert who can help you understand cross-collateralization mortgage loans before making a decision.
Bridge Mortgage Loans
Another option to ease the transition from one home to the other are bridge mortgage loans. Bridge mortgage loans are simply temporary mortgages that provide the funding for a down payment on your next house. This quick infusion of capital can allow you to complete a transaction without contingencies.
We have found that many buyers we work with want to sell their current home in order to provide the down payment, but they struggle to find the right buyer in time. These clients may have enough for a down payment in equity, but this money is locked in the home until someone comes along to purchase their property. Bridge mortgage loans essentially close the gap between the purchase of your new home and the sale of your existing one.
It is important to be aware that there are usually fees and added interest associated with this option. However, once you sell your old house, you can repay the loan plus accrued interest.
Bridge mortgage loans are good options for many people, but keep in mind that you will need to continue paying both mortgages until your old property is sold. If you can’t handle this financial burden, you likely won’t qualify for a bridge mortgage loan and should seek other options.
San Diego Purchase Loans is Here To Help
At San Diego Purchase Loans, we are dedicated to providing our clients with trustworthy guidance throughout the home transition process. We strive to educate and thus, empower those we serve while making home transitions as smooth and simple as possible.
If you have any questions about non-contingent options for your home purchase, we welcome you to contact us today for a no-obligation consultation. San Diego Purchase Loans is committed to ensuring you have the correct information to make an educated decision on your home transition. Whether you are upsizing, downsizing, or moving to or from a totally new city, your neighbors at San Diego Purchase Loans are here to help!