Unconditional Offer – The Potential Problems

Unconditional Offer: the Pitfalls for both Buyers and Sellers

With today’s low interest rates, low supply and high demand, bidding wars remain commonplace in many locations in the GTA and surrounding areas. 

This competitive housing market has left many potential homebuyers tempted and sometimes even encouraged to write a “clean” offer to purchase.  In other words, an unconditional offer. 

Once accepted, an unconditional Agreement of Purchase and Sale is a binding contract.  Unconditional Offer

As a purchaser, what are the risks of an unconditional offer; without a financing clause?

As a buyer, you may believe that you have done everything right.  Prior to making any offers, you went to the bank, or a mortgage broker, and were pre-approved for a certain amount. 

What is often not explained is that mortgage financing is not based on affordability or income alone.  It is also based on the property you intend to purchase.  Your ability to pay the mortgage is only the first piece of the puzzle.  Particularly in high ratio mortgage approvals (less than 20% down payment), your approval will be subject to an appraisal to confirm the value of the home, and at the insurer (CMHC or Genworth)’s sole discretion. 

Let’s say for example, you were pre-approved for $500,000.00, based on your income and the parameters of affordability.  You then find the perfect home.  It is listed for $350,000.  The home is in a popular location, and there is a bidding war.  As a result, in order to make sure you purchase this home, you offer $400,000.00.  You have a 5% down payment of $20,000.00, plus closing costs.  You make this offer unconditional because you want to make the offer as attractive as possible.  Your offer is accepted.  The bid was $100,000 less than your pre-approval, you’re ecstatic. 

Here’s what could go wrong

You go back to your bank or mortgage broker, and the deal is submitted by the lender to CMHC for their approval.  CMHC then compares the property you purchased against recent and comparable sales in the area.  CMHC then determines that they will not support the value you offered, and after an appraisal, they assess the maximum value of the home to be $380,000.00.

What does this mean for you? 

They will only allow a mortgage of 95% of $380,000.00, which is $361,000.00.  You would then be responsible for the shortfall in your down payment. 

If you cannot come up with the difference, you may not be able to close the purchase.  In addition, you will likely lose your deposit, and may be sued by the sellers. 

If you fall within the high ratio mortgage category, not making an offer conditional on financing can be very risky. 

As a seller, what are the risks of an unconditional offer; without a financing clause?

For a seller, an unconditional offer provides what can appear to be immediate certainty. 

When a purchaser includes a financing condition, there is a short term “out” for the purchaser.  If they are unable to obtain financing, in most circumstances, you will know within a short period of time.  You will then likely be able to attract a similar level of interest in your home that you experienced when it was first offered for sale.  The risk of accepting a financing condition is limited and often inconsequential. 

On the other hand, if a buyer offers to purchase your home without any conditions, in spite of the fact that the will require mortgage approval, and provides you with a 5% down payment.  You accept their offer, and you’re happy. 

However, you may be accepting more risk than you realized. 

Here’s what could go wrong

Consider if the purchaser is unable to obtain mortgage financing for the agreed upon price, for example, like the purchase in the above scenario.  For fear of losing their deposit, the purchaser may try arrange financing through alternative means.  The purchaser may choose to tell you of this misfortune as soon as they learn of it, a few weeks down the road or on the eve of closing.  In the mean time, you have purchased a new property, based on the funds you believed you would receive from the sale of your home.  However, on the day of closing, the deal has collapsed. 

Wait a minute, what about that deposit.  Unless the purchaser agrees to surrender the deposit, the real estate brokerage is not permitted to release deposit monies that are “in dispute”.  It may require legal action in order to obtain the deposit.  While it may be wrong or even unethical for the purchaser not to surrender the deposit monies, it is certainly a possibility.

Click Here for more information why you may want to make your offer conditional on a home inspection.   

Contact your local real estate legal professional at Frost Law, Professional Corporation prior to accepting or drafting an Agreement of Purchase and Sale to ensure your rights are protected. 

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