Real-estate transactions can get caught up in various types of contingencies. And sometimes these contingencies aren’t completely in your control, such as the sale of your home before you can buy another.
Fortunately, there are options that you can use to avoid contingencies that delay your next home purchase. From changing cities to upsizing your space, these non-contingent loans could be your best ally when you’re ready to change homes…
What is a Contingent Sale?
To fully understand non-contingent sales, you have to have an understanding of contingent sales. A “contingent sale,” or “contingency sale” is simply any sale that is dependent on certain requirements (aka “contingencies”) being met. These contingencies can take many forms, including clean titles, verification of income, appraisal of the property, and proper insurance, as well as many other potential factors. Essentially, with a contingent sale, both parties (buyer and seller) agree, usually in a legal contract, that the sale will be made once the contingency is met.
One of the most common contingencies required by lenders is the sale of the buyer’s current property. As we’ll see, this type of contingency, which is extremely common, can throw a wrench in the gears of a well-oiled real-estate machine, causing problems for everyone involved.
The DTI Debacle: Let’s take a moment to look at the concept of “debt-to-income ratio,” which is an important factor for lenders. Your DTI is a measurement of your total income compared to your total debt load. If someone has $1,000 in debt payments every month and makes $4,000 a month, their debt-to-income ratio is 25%. ($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 you now have a problem. Currently, with the property you own your debt-to-income ratio is (for example) 40%. If you were to purchase the new home without first selling the current property, you DTI would be at, say, 60%. This larger DTI is too high for lenders, so they are unwilling to make the loan until you have sold the first property.
According to data from the National Association of Realtors (see p. 24) 47% of all buyers owned a previous residence. For buyers between the age of 52 and 61, 57% previously owned property. For people 62 to 71 years old, 78% of buyers owned the previous residence. Clearly this is a situation that comes up regularly, so the market has created solutions that help you address this issue.
The Problems of Contingent Sales
You might guess that contingent sales can create some very complex situations, with the potential to create a logjam of contingencies that hold up multiple sales. Say Mr. Adams wants to purchase a home, but he need to sell his house first. He finds a buyer, Mrs. Blake, but she is also in a contingent sale, waiting on Mr. Clark, who is waiting on Miss Davis, who is waiting on Mrs. Evans….you can see how contingencies can hold up a long line of real estate sales!
In a market with lots of buyers and less inventory, sellers are also less likely to tie their sales to a contingency situation.
Fortunately, you don’t have to subject yourself or your home purchase to the complex web of contingency sales. With non-contingency loans, you can have greater flexibility with your purchase, allowing you to find the home you love and make the purchase when you’re ready.
What is Non-Contingent?
A non-contingent loan is essentially a loan that has no other requirements or contingencies attached. The loan is ready, so you don’t have to meet any more steps to make it final. Be it the sale of your current home or any other contingency, you loan is ready when you find the house you desire!
These loans can take away the issue of selling your current home before you buy, and can end the chain of buyers needing to sell.
Options for Non-Contingent Loans
Borrower the Money from a Family Member
If you need cash to reduce your overall debt-to-income ratio, and thereby eliminate a lender’s contingency requirements, you may be able to use a cash gift from a family member or even a friend to meet this requirement.
For many people, this is far from the best option, but it could be the solution you need to get the non-contingent loan for your home purchase. Various organizations have different requirements for gifts and loans, so you’ll need to 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, which can include grandparents, uncles, and aunts.
FHA has slightly different rules. With an FHA loan, you have more options for borrowing or receiving a cash gift from friends and family. Their requirements allow for gifts from close friends, employers, labor unions, other government agencies, and some public and non-profit entities.
To use the money, 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, and 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 funds.
Using gift cash as a downpayment is a fairly simple process. You will also have to provide a gift letter, which should include the gift amount and a statement that it’s a gift not a loan, and banking evidence of the transfer. (If the money has not yet been transferred, the non-contingency loan may not be approved.)
Initiate a Home Equity Line of Credit 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. Essentially, you borrow against your home’s equity and the house itself is used as collateral. Using these programs, you don’t take out a fixed amount, but instead create a line of credit, which 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 this option, you’ll need to have established equity in your home, although the amount of equity required will vary by lender and program options.
However, if you have established strong equity, you can borrow up to 85% of the value of your home. For example, if the home is worth $2 million and you still owe $1.5 million, you can borrow an additional $200,000 as a HELOC. Using this cash, you may be able to avoid a contingency loan.
You can usually find a HELOC that is fully adjustable with a prime rate plus a margin of one to two percent. Generally, it will take 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 take advantage of this option. Also, there could be an early payoff penalty if the house is sold in the first 12 months of the HELOC.
Utilize a Mortgage Program with a Higher Loan-to-Value
Along with DTI, loan-to-value (LTV) is one of the most important factors for lenders. Loan-to-value 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. (The more money they loan, the more they will make back in interest, but high loans also have high risk.)
With a higher loan-to-value loan, lenders will ease one of the restrictions that would keep you from securing a loan in the first place. Perhaps you need a 95% LTV loan, but the lender only allows a 90% LTV maximum; lending out 95% of the money needed to purchase to property is just too risky for them.
However, if you meet certain parameters, you may be able to secure a loan with a higher LTV. These loans have a minimum down-payment requirement that is generally easier to meet, and allow for max purchase prices that can bring excellent homes.
Another option for avoiding the chains of contingency is what’s known as a cross-collateralization loan. Sometimes a property is so valuable that it can be used to secure not just one loan, but two. This has an advantage in many facets of financing, as you don’t have to tie down multiple properties and can instead use only one, which means you only put one at risk.
The main reason to cross-collateralize is because you need more than one loan, which is the situation we are discussing.
This option is useful to homeowners who have established a large portion of equity in their current homes. This program uses the two properties (your current home and the house you want to purchase) to leverage the total amount into one. It’s popular for homeowners who have lived in the homes for many years, but you will still need to qualify for the payments on both properties.
This option may be utilized if there is equity in the current home that may allow you to make a non-contingent offer on a new residence without selling your current home.
Be aware that there are some issues in regard to using a cross-collateral loan. For example, if you want to sell the house, you may have to pay off both loans that are secured by the property or seek a new form of loan structure. If you work with an expert mortgage professional, you can likely find a solution to this issue.
There may also be a few requirements to use cross-collateralization. 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 so be sure to talk with an expert who can help you understand cross-collateralization before making a decision.
Another option to ease the transition from one home to the other is a bridge loan. These are simply temporary mortgages that provide the funding for a down payment on your next house, which should allow you to complete a transaction without contingencies.
Many buyers want to sell their current home in order to provide the down payment but can’t find the right buyer. They may have enough for a down payment in equity, but this money is locked in the home until someone comes along and purchases the property. A bridge loan essentially bridges the gap between the purchase of the new home and the sale of the old. There will be fees and added interest, but once you sell the old house, you simply repay the loan plus accrued interest.
It is a good option for many people, but you will need to continue paying for both mortgages until the old property is sold. If you can’t handle this financial burden, you likely won’t qualify for the bridge loan and will have to seek other options.
Providing Trustworthy Guidance Through Your Home Transition
If you have any questions about non-contingent options for your home purchase, contact the helpful team at San Diego Purchase Loans today.
We’ll make sure you have the right information to make an informed decision on your home transition, so whether you are upsizing, downsizing, or moving to a new city, let us help through the entire process!
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