Contingency Clause: What it is, How it Works, Real Estate

A contingency clause is a contract provision that requires a specific event or action to take place in order for the contract to be considered valid. If the party that's required to satisfy the contingency clause is unable to do so, the other party is released from its obligations.

Understanding Contingency Clauses

A contingency clause can be inserted into a contract to benefit either party. Courts often require a good faith effort in contracts that contain these clauses. A contingency clause can be considered a type of escape clause for those involved in the contract. It allows one party to cancel a deal if certain requirements are not met, though the party benefiting from the clause has the right to waive it.

Contingency clauses can be written into conditional offers as in the case of employment contracts. A job offer might be contingent on the applicant passing a drug test or background check.

Contingency Clauses in Real Estate

Contingency clauses are often used in real estate transactions whereby an offer to buy a home might be contingent on something being satisfied.

A contingency clause in a real estate transaction may require the buyer to obtain financing before the seller transfers the deed. If the buyer cannot bring together sufficient funds to complete the sale, then both parties may have the right to walk away from the deal.

A buyer may have a contingency written into an offer to buy a house only if it passes inspection. An unsatisfactory inspection report can result from issues that were not detected when the buyer first looked at a property. There may be damage to the foundation or hidden problems such as termites. Also, if there's a history of flooding, mold could be present during an inspection triggering the contingency clause. The seller could be compelled to pay the expenses necessary to mitigate these issues. If they do not, the buyer may have the right to call off the transaction or demand a reduction in the sale price for the property.

The appraised value of the property could also set off contingency clauses as well. The bank or lender who is providing the mortgage for the property will send an appraiser to assess its value. The reason for the appraisal is that the bank doesn't want to lend an amount that's more than the house is worth. If the property is determined to be of lower value than the negotiated sale, the lender is not going to loan at the selling price. The low appraisal could prompt a contingency clause that lets the buyer request a lower price, or they can abandon the transaction.

It's important to review the wording of a contingency clause. A loosely worded clause may provide either party too much latitude in determining whether the terms of a contract should be executed. A contingency clause should clearly outline what the condition is, how the condition is to be fulfilled, and which party is responsible for fulfilling it. The clause should also provide a timeframe and what happens if the condition is not met.