In my 16 years (and counting) of teaching business law, particularly the FR/BAR contract to licensees in Southwest Florida, I have often joked that, in addition to the buyer and seller, there is a third party to the contract. This party is all powerful, practically unaccountable, notoriously fickle, and, worst of all, it doesn’t even sign the contract.
The Wizard of Oz? No, the lender.
This is the first in a series of articles that attempt to simplify and make sense of the FR/BAR contract. The most confusing section in the entire contract is paragraph 8, the financing section. The contract drafters seem to rewrite this section every few years, and with each new version, old ambiguities and problems are solved, and new ones are inevitably created. The result is that paragraph 8 is poorly and confusingly drafted. This article will analyze the section from a buyer’s perspective. The next article will do so from a seller’s perspective.
The buyer creates a loan contingency by checking box 8(b). The buyer then fills in the blanks specifying the loan terms. Do not write “market” or “prevailing” in the blanks, and do not leave them blank. If you do that, and then the buyer qualifies only for a bad loan, then the buyer may not be able to cancel the contract.
The loan application date is also critical—it is the date by which the buyer must apply for financing. The buyer must document its loan application in writing; it may need to provide that as proof to defend itself from claims that it is in default of the contract by not timely applying for a loan.
The most important date in the entire paragraph is the loan approval period. This is the loan contingency period, but it should be called “the date by which I am going to lose my deposit if I don’t get my loan or cancel.” The contract has a default period of 30 days if left blank, but again, don’t leave anything blank. These days, the loan approval process can take up to 45 days or longer. And make sure this date is up before the closing date.
Pay close attention to the rest of the paragraph, because things start to get really hairy. If the buyer gets its loan approval within the loan approval period, then it must deliver written notice of the approval to the seller within the loan approval period. Not a day later. And, once the buyer does so, its deposit becomes non-refundable if it doesn’t close, subject to some uncommon exceptions listed at the end of the paragraph. So make sure the written notice of loan approval is sent to the seller in writing before the expiration of the loan approval period.
What if the buyer does not have a loan approval by the loan approval date? The contract gives the buyer 3 choices before the loan approval period expires:
- Waive the loan contingency, which means if the buyer eventually doesn’t get the loan, and therefore can’t close, then its deposit will likely be forfeited to the seller. On the other hand, if the buyer still finds a way to close, at least it doesn’t risk losing the house. Regardless, this is a risky option, and is rarely used.
- Terminate the contract and get its deposit back. This is less risky, and is the most reasonable option if the buyer doesn’t get a loan. The downside is that the buyer has lost the house. The cancellation must be done any time before the loan approval period expires. The cancellation must be in a writing signed by the buyer.
- A third option is to do nothing. A buyer should never do nothing. If the buyer does nothing, and the loan approval period passes, then the buyer is deemed to have waived the loan contingency. This presents the same risks to the buyer as option number 1, above. Namely, the deal is no longer contingent upon the buyer getting a loan, and if the buyer eventually doesn’t get the loan, and therefore can’t close, then its deposit will likely be forfeited to the seller.
- But it is even worse. Because if the buyer does nothing, then the seller also has the option (but is not required) to unilaterally terminate the contract within 3 days after the expiration of the loan approval period. That means the buyer can lose the house (but in that case at least the buyer would be entitled to the return of its deposit). What does all this mean? It means if the buyer does nothing, now the seller, not the buyer, is the captain of the ship.
- The best option is the 4th option, which is not specifically listed in the financing paragraph, but applies to any and all terms of the contract. If the buyer cannot obtain loan approval before the expiration of the loan approval date, then the buyer should ask the seller for a written and signed extension to the loan approval period—well before it expires.
- This extension absolutely must be in writing and signed by the buyer and seller. Emails and phone calls will not suffice. The seller is not required to give the buyer more time, and some sellers will refuse. But it is worth a try. The buyer needs to ask for this extension well in advance of the expiration of the loan approval date, so as to give it time to decide to try options 1. or 2. above, in the event that the seller does not respond or the seller refuses.
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Next up: The financing section from a seller’s perspective.