When you decide to make an offer on a property you will need to decide what to include in that offer. These items are negotiable between the Buyer & Seller. In a competitive Sellers market (which we are currently in an EXTREMELY competitive market), the Seller is going to want the very best terms.
The first two are pretty self explanatory:
Escrow Deposit (this binds the contract & goes towards your cash due at closing--it also is what keeps people from simply terminating & walking away---the higher the deposit the more appealing to the sellers)
But there are additional terms, which we call Contingencies, that you need to decide whether or not to include or to Waive as part of your offer or Contract to Purchase.
There are typically three:
1) Mortgage Contingency: you have a preapproval but you have not actually applied for a loan. In order to apply for a loan you have to have a property under agreement (a contract). Once you apply for the loan the lender will go through all of your documents (bank statements, tax returns, pay stubs, credit report) to make sure that you qualify for the loan. They will also have an appraisal of the property to make sure that it's at market value. Once all of these items are checked off and approved the lender will issue a Mortgage Commitment Letter which states that they will fund the loan. Once that's issued the attorneys & realtors can schedule the closing. We need that Mortgage Commitment Letter by a specific date that is stated on the contract. This entire portion is referred to as the Mortgage Contingency because if your loan is denied you can terminate the contract & get your deposit back as long as that denial is on or before the pre-agreed upon date. Cash buyers waive this Contingency because they do not need a mortgage. Some buyers decide to waive the mortgage contingency in order to make their offer more appealing to a seller---BUT that means that you risk losing your deposit if you get denied the loan.
2) Inspections Contingency: a standard Purchase Agreement has an inspection period of 10 business days for a buyer to conduct any and all inspections. If you are not satisfied with the inspection (or if you just change your mind about the house) you can terminate the Agreement & get your full deposit back as long as it's within those 10 business days. Some buyers will choose to reduce the inspection period as a way to make their offer more appealing to a seller (example---reduce the inspection period to 5 business days). Or some buyer will choose to waive the inspection period completely. You have to be certain that you want this house if you do that! And you have to feel confident that you're willing to take on whatever work is needed. You can certainly choose to have a home inspection after you close on the house--I always recommend that so that you can go through the house & understand it's structural & mechanical components.
3) Appraisal Contingency: Cash buyers tend to waive this contingency because they're not working with a lender. If you are getting a loan & waive the Appraisal contingency it means that IF the appraisal report comes in LOWER than the Purchase Price you will have to make up the shortfall.
Example: Purchase Price $325k; appraised value $320k---this means you have to make up the difference and put down an additional $5k because the bank will only lend based upon the $320k. Does this mean that the house is not worth $325k? An appraisal is subjective & it depends on the comparative houses that the appraiser used. If you have the appraisal contingency in place we want the appraisal report back BEFORE your Mortgage Commitment deadline so that if the appraisal falls short we can either:
a) ask the seller to reduce the purchase price to the appraised value (they do not have to agree)
b) you decide that you still want to proceed & can make up the difference
c) you decide to terminate the contract
Inspired by recent conversations, I want to make sure that my clients are prepared for all of the costs that one will have to stomach when buying a house. For a while it will feel like you're shelling big money out constantly--especially if the house that you're buying needs repairs. So let's go over the upfront costs that you need to have prepared:
Buyers Agent Fee: Guess what? I have good news! This one is a freebie & won't actually cost you anything! I highly recommend that you work with an agent that works directly for you rather than working with the agent that represents the seller. The commission for the sale of the has already been established & in most cases that number doesn't change regardless if you use your own agent or not. You are better off having someone that 100% works for you, negotiates on your behalf, & is on the hook for fiduciary responsibility.
Customized MLS Search: Ok--here's another freebie just to make you feel good! Sure, you can use zillow or realtor dot com or any of the other syndicate sites for free but I can set up a customized search for you that is more efficient to use, allows for communication/notes, & is more accurate. And I can make changes to that search so that we really hone in on exactly what you're looking for. All of those sites pull the info directly from our mls site so go to the source!
Down Payment: This one is straight forward. What's the amount that you can put towards the house that will pay down the principal balance. There are loan options that you may qualify for that start at 0 down payment up to twenty-five percent down. Certainly you can put as much down as you want but the loans will determine the minimum down payment. Your lender will be able to go over the various loan options that you qualify for & I can certainly weigh in on the pros/cons to help you decide what works best for you. Your down payment will not be due until closing day.
Escrow Deposit/Good Faith Deposit: In order for a contract to be valid (or in order to "bind" a contract), you have to put down some cash & this is your deposit. These funds will go towards your cash due at closing (down payment + closing costs). Typical deposits range from 1-3% of the purchase price. A higher deposit may be more appealing to a seller because you have more "skin in the game"--meaning it would be easy for you to walk away from a contract if you only put down $100 for a deposit versus if you put down $10,000 as your deposit. At a minimum you should have $1000 available to put down as a deposit. The deposit is due when you sign a contract to purchase a house so this is the first amount of money that will be required upfront. The deposit needs to be submitted as soon as possible---we don't have a valid contract until your deposit has been submitted. The listing brokerage will hold your deposit. A personal check or bank check is fine for a deposit but note that it needs to come from the bank account of the person(s) who is applying for the loan. Your lender will need a photocopy of the deposit check.
Inspections: Once you have a contract in place to buy a property you will have 10 business days to conduct any & all inspections. The buyer is responsible for paying for these inspections. A general structural/mechanical inspection costs around $500-700. Separate inspections will include Lead, Radon, Water Quality, Septic/Cesspool, Mold/Air Quality--these would all be additional costs if you choose to have any of these.
Appraisal: Your mortgage lender will require an appraisal of the property except in cases where you're putting 25%+ down or in other rare cases. You should plan on needing an appraisal & that's a fee that you'll pay for upfront. In some cases the lender may be able to wrap this fee into your closing costs but you'd need to discuss that upfront. The appraisal is ordered through the lender & the fee is $500-700.
Home Owners Insurance Binder: Your mortgage lender will require that you have a home owners insurance policy in place before they will issue a commitment to fund the loan. You will pay for the first year upfront & subsequent payments will be made by your mortgage company each year. Part of your total monthly mortgage payments will include payments into your escrow account, that' essentially a savings account your mortgage company sets up & sets aside a portion of your monthly payments to pay for your property taxes & your annual home owners insurance policy. But you'll need to pay for that first year upfront. Like the appraisal, some lenders may be able to wrap this into your closing costs so you should discuss this upfront with your lender. Single family insurance policies average $1200 per year in RI, multi family properties range from $2-3k depending on the number of units.
Closing Costs: These are a bunch of fees/costs bundled together. They consist of the fee the lender charges to underwrite the loan, the attorney fee, the fees to record the deed with the City, & any property taxes that are due upfront or that will be put into your escrow account. They may also include any Private Mortgage Insurance (PMI) that you pay upfront, any points that you pay to lower your interest rate, & potentially your appraisal fee & home owners insurance. Rule of thumb---plan on $6-8k for closing costs. Here's a blog post I wrote all about Closing Costs that will go over this in a lot more detail.
Cash Due at Closing: Your attorney will let you know the final total amount that you have to bring to the closing. Usually that's in the form of a Bank Check. Your lender will provide you with an Estimated Closing Disclosure a few days after you've formally applied for the loan--this goes over everything & you have to sign it. It will go over your down payment, the interest rate that is locked in (sometimes they will wait to lock in a rate but you need to understand if it isn't locked in & why), and this will also include the estimated closing costs. I can go over this form with you if you have questions. It can be overwhelming to look at & to try & figure out. The cash due at closing will consist of your down payment plus closing costs minus the deposit and minus any seller credits.
Other Costs: Depending on the loan that you are applying for you may need a certain amount, called "Reserves" in your bank account in order to qualify. This is especially common for FHA loans for multi family properties. The lender will want to show that you have at least 3-6 months worth of mortgage payments available in your bank account. I will help you to identify things about the property that you will need to address right away---perhaps there's a hot water tank that's beyond it's life expectancy (which is only 6 years btw)--people use houses differently so inevitably there will be something that goes awry pretty quickly after you buy the house. It's not bad luck! It's just that you use the house differently. So I'll do my best to identify things upfront, the home inspection will be really helpful for this, so that you can set aside funds to make these repairs right away. I always encourage my clients to keep a house fund of at least $4-6k set aside for emergencies. Work the math backwards from all of this & it gives you an idea of what you need to save & keep in your savings in order to be prepared to buy a house.
Questions? Comments? Reach out! I'm always here to help!