Summary: In a Mello-Roos district or neighborhood, California homeowners pay additional taxes to fund public…
This article is part of a series that covers the different types of real estate contingencies home buyers can use. Today, we will examine the home inspection contingency used by many California home buyers, along with the pros and cons associated with these contract clauses.
How a Home Inspection Contingency Works
In previous articles, we explored purchase contract contingencies used for appraisals and mortgage financing. Today, we will talk about the property inspection contingency that California home buyers can write into their purchase agreements.
Let’s start with a couple of important definitions.
Home inspection: A thorough examination of a house conducted by a trained and licensed inspector. Home buyers use these inspections to gain better insight into the true condition of the house they’re purchasing. The inspector reviews many aspects of the property, including the electrical system, HVAC, roofing, the foundation and other structural components.
Real estate contingency: A contract clause that stipulates certain conditions and requirements that must be met in order for the deal to proceed. Contingencies essentially give California home buyers a way to back out of the deal if certain conditions arise, while protecting their earnest money deposit at the same time.
Put these two things together, and you have a home inspection contingency.
In the context of real estate contracts and purchase agreements, a California home inspection contingency allows buyers to back out of the transaction based on the inspector’s findings. It can also prevent the buyer from losing their earnest money deposit, and that’s an important component.
After all, an earnest money deposit can add up to thousands of dollars, especially in California’s more expensive real estate markets. If a home buyer were to back out of a deal without just cause, they could risk losing their earnest money deposit. And that’s where these contingencies come into the picture.
Example Scenarios: Buyers Backing out
Here are a couple of realistic scenarios that demonstrate how a home inspection contingency works for California home buyers.
Scenario 1: Buyer uses a contingency
In this example, the home buyers have included an inspection contingency within their real estate contract / purchase agreement. The contingency states that the buyers have the right to cancel the transaction and back out, if the home inspector discovers something that they are not willing to accept.
As it turns out, the inspector identifies some serious issues with the home’s foundation. The buyers decide they are not willing to take on this risk, and so they cancel the deal. The home inspection contingency allows them to do this while also recovering their earnest money deposit.
Scenario 2: Buyer waives the contingency
In this example, the home buyers have decided to waive all of their purchase contract contingencies in order to get their offer accepted. They are in a highly competitive real estate market where sellers typically receive multiple offers. So they’ve chosen not to use a home inspection contingency, to give them an advantage over other offers.
Here again, the inspector identifies a serious issue with the house’s foundation. But the buyers do not have an inspection contingency in place. So they essentially have three options. They can back out of the deal and potentially lose their earnest money deposit. They can ask the seller to repair the foundation, which is unlikely. Or they can move forward with the purchase and deal with the foundation issues later.
The key difference here is that the buyer’s deposit is not protected, as it is with the first scenario.
Pros and Cons of Contract Contingencies
The scenarios presented above demonstrate the potential pros and cons of using a home inspection contingency within the California real estate market. Here are the advantages and disadvantages of this strategy.
Pro: It protects your deposit and gives you more flexibility.
The home inspection contingency basically gives buyers more flexibility, in terms of contract negotiations. It gives them an exit strategy for certain situations relating to the inspection. Legally speaking, it allows them to cancel the transaction and back out of the deal while retaining their earnest money deposit. (As long as the clause is written that way within the actual contract.)
Cons: It could make your offer less attractive to the seller.
There is also a potential downside to using a home inspection contingency in California, especially in a competitive real estate market. The primary disadvantage is that contingencies can make an offer less appealing to the seller.
Real estate contingencies can also make the transaction more complicated, from the seller’s point of view. This could work against the buyer in a competitive market, where multiple offers are common. For instance, a seller might disregard the more “complicated” offer for one that does not include any contingencies.
Ultimately, the choice is yours to make. As a home buyer, you should never sign a purchase agreement until you’re comfortable with the language and clauses it contains.
Disclaimer: This article provides a basic overview of home inspection contingencies in California. Real estate transactions can vary due to a wide number of factors. So portions of this article might not apply to your particular situation. This article is not meant to take the place of professional legal or real estate advice.