No Finance Contingency Comeback?

A: Say it ain't so! In a clear sign that the Manhattan real estate market is in full frenzy mode, I just experienced my first deal where the seller is requesting a removal of the 'finance contingency' that is part of the contract of sale. This type of tactic was very common in the months of JAN-APRIL of 2005 when bidding wars were everywhere and a good product was very difficult to find. While I won't go out and say that today's market is exactly like it was 2 years ago, it is active enough that one seller is risking a deal by asking for a No Finance Contingency contract.

First let me just define a few things here for you:

No Finance Contingency Contract of Sale: Every contract of sale includes a financing contingency that simply means the deal is contingent on the buyer obtaining financing at the appraised purchase price. Should the buyer not be able to obtain a loan commitment, then the deal falls apart as stated in the contract of sale and the deposit is returned to the buyer. When a seller asks for a NO FINANCE CONTINGENCY deal, in essence they are requesting to REMOVE the financing contingency from the contract of sale putting pressure on the buyer to obtain a loan to close the deal. Should the buyer in this case not be able to obtain a loan commitment, than the buyer must come up with the cash to proceed with the closing or risk losing some/all of their deposit.

I wrote about this on March 1st, 2006 in a post titled, "No Finance Contingency Explained". In the comment thread was a response by NYC real estate attorney Peter Graubard, who I recommend often to my clients. It stated:

When a buyer agrees that there will be no financing contingency, the financing contingency clause that is already in most contracts is simply omitted.

All mortgage commitments have conditions attached to them that need to be satisfied prior to closing. The conditions range from an appraisal of the apartment, to the approval by the bank of the co-op or condominium, to something that needs explanation by the borrower. Also, if a mortgage commitment letter is issued by the bank, but the borrower's financial condition takes a turn for the worse after the commitment is issued, but before closing, the bank may withdraw the commitment (i.e. if the borrower lost his/her job prior to closing). In this event, a buyer who has signed a non-contingent contract is in jeopardy of not being able to close and losing his/her contract deposit.

The question that comes to my mind is whether or not this seller is seriously considering losing a deal over this request? Is the market that frenzied that this strategy, if backfires, will still lead to another similar deal in the very near future? So what do you do? It really depends on the buyers comfort level and desire for the property.

First off, you should ask your lender to investigate the property/building in question. According to Wells Fargo Private Mortgage Banker Michael McGivney:

"I like to remove the risk for the buyer at the very beginning by providing a loan commitment rather than a pre-approval before any contract is signed. That way the buyer knows ahead of time what their risks are and can take comfort in proceeding with a No Finance Contingency deal."

Michael McGivney went on to point out the 3 biggest risk factors that could lead to failure in obtaining a loan commitment letter after one's credit/income/assets are reviewed:

1. Land-lease Building - Building lease must be reviewed and updated by lender
2. Property Valuation - Appraisal must come in at asking price. If it comes in below, the lender will only commit to a loan at the appraised price leaving the buyer to make up the difference at closing
3. Owner/Occupancy Rate - Lenders like to see a building with an owner/occupancy rate above 70% or so. Once you get below 60%, some lenders might not be able to produce a loan commitment for the buyer as the risk of default in the building due to a larger # of investors is higher. Read my post on Owner/Occupancy Rate Explained.

Here is my advice for the prospective buyer in the deal:

Buyer is Confident in Obtaining A Loan: Getting a loan today is still very easy as tighter lending standards for the most part have not hit many of the major lending institutions. So, it really boils down to your own financial situation. Assuming you pass the credit, income, and assets part of a lenders review, ask your mortgage broker to review the building in question. If possible, try to get a commitment rather than a pre-approval letter from your lender. Being upfront with your lender is very important in this situation. Tell them everything about you, the no finance contingency deal, and the building in question.

Buyer is NOT Confident in Obtaining A Loan: If you have bad credit, a non stable or low paying job, and little assets than you should be concerned about this type of a deal. If anything, discuss the situation with your lender and reconsider the seller's request for omitting the finance contingency in the contract of sale. Everything is negotiable, especially this, and in the face of losing a deal I don't see how a seller can rationalize passing up a market valued offer simply because they want a NO FINANCE CONTINGENCY deal. Remember, it's a strategy that sellers can get away with in a sellers' market where if they pass on the deal, they will have no problem finding a similar buyer.

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