The Architecture of a Rock-Solid Real Estate Contract

Let’s break down that process in granular detail:

Step 1: Making the offer

An official offer form is prepared by the buyer’s real estate agent (or a lawyer) and submitted to the seller to accept or counter. Among other details, the offer will include a description of the parties and property, the purchase price offer, the earnest money deposit amount, the proposed closing date, and any buyer contingencies.

Step 2: Seller considers the offer

The seller accepts or rejects the offer. If the seller counters the offer, the seller or their listing agent will send back a counter-offer for the buyer to likewise accept or reject. A counter could include changes or modifications to one or more components of the offer, like purchase price, closing costs, or a contingency.

Step 3: Offer accepted

Once the seller accepts the initial offer or the buyer accepts the counter-offer, it becomes a legally binding contract, and both the buyer and the seller work to meet the terms and conditions outlined in the contract. If the buyer and the seller can’t agree on all the terms laid out in the offer, the contract isn’t finalized.

So how quickly do negotiations and the offer become a signed, legally binding contract? Pretty quickly, says Peter Chicouris, a top-selling agent in St. Petersburg, Florida, who works with over 75% more single-family homes than the average St. Petersburg agent. If there is only one buyer submitting an offer on a property, “most of the time, a transaction is agreed upon in the first 24 hours,” he says.

In a multiple-offer situation, “many times a seller will put the property on the market for 24 to 72 hours, knowing that they have an aggressively priced property.” After the time allowed for multiple offers to come in, the seller will make a decision based on the best price and closing date.

“Once the offers are in for review, usually within 24 hours there’s a commitment and a signed contract,” Chicouris adds.

Decoding a real estate contract

Unless you have experience in the real estate industry or with buying property, you probably aren’t familiar with a lot of the terms in a real estate contract. Let’s start with the most important things to know and then dig into the extras.

Full legal names

The contract will include the full legal names of the buyers and sellers.

Property details

Basic details will include the property’s address.

The price the buyers will pay for the home

“Price is the first thing,” says Chicouris. When it comes down to it, the best or highest price usually (but not always) wins, especially when there are multiple offers.

Asking your real estate agent for a comparative market analysis is to your benefit. This way, you can assess whether the seller is pricing at, above, or below market value and strategize how much to offer accordingly.

Timing

Another important consideration of a real estate contract is the timeline for the inspection period, the date when the closing will take place, and any other important dates in the transaction.

Usually, the next step following the signed offer is the home inspection, notes Chicouris. Once the inspection has been performed and passed, “that’s one less contingency for the contract, and it strengthens the contract.”

Riders

A rider, otherwise known as an addendum, is an add-on to a real estate contract that modifies it based on the unique circumstances of each buyer and seller relationship. They are put in place to safeguard the specific needs of the parties involved in the transaction.

According to Chicouris, some of the most popular riders he’s seen attached to real estate contracts include:

• Disclosing the rules and regulations of a homeowners association, if applicable to the property.
• A Federal Housing Administration (FHA) rider, especially common with first-time homebuyers, specifying the buyer will be securing a mortgage through the FHA. An FHA loan provides extra financial protection for the lender in case the buyer stops making payments on the loan and the home enters foreclosure.

Contingencies

Contingencies are a list of requirements or conditions that must be met before closing. Essentially, the contract is contingent on these items, and without them, the buyer (or in some cases, the seller) can back out of the contract with no penalty.

Some common contingencies include the buyer obtaining a loan to finance the purchase, the buyer selling their current house, repairing the house or renegotiating the contract if any major issues emerge during the home inspection, and the house appraising equal to or higher than the sale price.

Financing

Sometimes also called a mortgage contingency, a financing contingency is put into place to give the buyer time to secure financing for the new purchase. This sets a timeframe for the buyer to apply for loans and get the money they need to proceed with the purchase. Depending on the terms, both the buyer and seller might retain certain protections by way of this contingency.

Inspection

The inspection contingency is there because the inspection period can uncover some major issues that may require negotiating the purchase price or walking away from the deal entirely.

Sometimes, an offer will stipulate that the buyer will purchase the property as-is because it’s more desirable to a seller; however, if an inspection discovers a major issue involving the roof, HVAC system, plumbing, or even a structural problem, the doors of negotiation may be reopened, depending on the terms of the contract.

If the buyer still wants to purchase the property, the price will most likely be negotiated, so the buyer won’t be held to the full market price on a home that needs substantial repairs. Likewise, the seller will realize the inspection results would likely need to be disclosed to the next buyer regardless of the outcome of this sale.

This is where an agent’s experience can be critical. “When you have a couple of agents who understand the circumstances and can explain it to both parties, it can be resolved and worked out,” says Chicouris. “Then, the transaction moves forward.”

Appraisal

A home appraisal is a formal, professional assessment of the value of a home by a licensed appraiser. Lenders require an appraisal, so they don’t lend the buyer more than the home is worth. The appraisal contingency allows the buyer to back out of the deal if the appraisal comes in lower than the purchase price. As a buyer, you typically want your potential home’s appraised value to come in at or above the purchase price.

Title and lien contingencies

A property title search is done to ensure that the party selling a house is indeed the legal owner of the property and has full rights to sell it. If the title search turns up any claims to or liens against the property, they will need to be resolved.

Home sale

The home sale contingency comes into play when a buyer already owns a home and wants to buy a new one. The terms would typically state that they have to first be able to sell the existing home before buying the new property. And if they can’t, the deal would likely fall through to protect the buyer from having to pay two mortgages.

Kick-out clause

A kick-out clause is a contingency that benefits sellers by giving them protection against a home sale contingency.

The kick-out clause generally lets the seller keep marketing their property (or at least accepting offers) even if they’ve entered an agreement with a buyer with a home sale contingency in place. If the seller gets a better offer, they can give the current buyer a certain period of time (usually about 72 hours) to either remove that contingency from the contract to make their offer more appealing — or to back out of the purchase agreement entirely.

Representations and warranties

All real estate contracts have representations and warranties, terms that refer to facts presented within the document by the seller about the condition and specs of the property.

For instance, sellers typically represent that they know of no loan delinquencies; threatened or proposed litigation; or current, pending, or proposed special assessments through what’s called a warranty deed.

Buyer financing details

The real estate contract will spell out how the buyer plans to finance the property, whether through a mortgage, all-cash, or (in rare cases) assuming the seller’s mortgage.

Earnest money

Earnest money is a deposit made by the buyer as a show of good faith at the signing of the contract. It’s typically part of the buyer’s down payment that they pay when the house goes under contract instead of at closing, and the amount can be negotiated between the buyer and seller.

Considerations (i.e., fixtures and appliances)

Considerations are a key element of a real estate contract and simply mean anything of value that is exchanged as part of the transaction or agreement, which most often means money. However, there are times when alternative forms of considerations are offered, like a significant material item.

Buyers can use considerations to include certain pieces of furniture in the deal that the seller would ordinarily take with them, for example.

Property taxes

In most transactions, the buyer and seller both pay property taxes, due at the time of closing. Depending on the state and whether taxes are due at the beginning or end of the year, either the seller pays the prorated amount that covers the time they lived in the home since the beginning of the current tax year, or the buyer will have to offer up the prorated amount that covers the span from the purchase until the end of the current tax year.

Option to terminate

An option is a timeframe in which the buyer makes a binding decision to follow through with or to terminate the real estate contract (note that these are not common in seller’s markets).

Title insurance

The contract terms may stipulate who will pay for title insurance for the lender (required) and the buyer (not required, but recommended).

Closing costs

Closing costs are any additional fees beyond the purchase price necessary to transfer the home to the buyer, such as title insurance, notary fees, and transfer tax, to name a few. The purchase agreement will include details on who pays for which closing costs, not the total amounts themselves.

Whether the buyer or the seller is responsible for paying closing costs varies from state to state and deal to deal. A real estate agent can best advise on the closing cost standards of the market and whether they can be negotiated between the buyer and the seller. Generally, buyer closing costs average between 2% and 5% of the purchase price.

The signatures

Once all the above terms are agreed to and each party signs the contract, it is legally binding. At that point, if the buyer pulls out of the contract without justification, their earnest money deposit can be forfeited, and in some cases, the seller or buyer could sue each other.

Types of real estate contracts

Within the realm of real estate contracts, there are three main types used depending on the specific arrangement.

Purchase agreement

A purchase agreement is the most common type of real estate contract, used when a buyer is purchasing a home from the seller.

The purchase agreement includes all the contract components outlined above and can fall under one of three main categories:

• State/association purchase agreement: This is most likely what a real estate agent will use when drafting a purchase agreement contract based on local Realtor® association guidelines.
• General purchase agreement: This is a simplified, condensed version of the state/association agreement, usually selected when a buyer deals directly with a seller instead of working through a real estate agent.
• Property-specific purchase agreement: This type of contract is used for non-traditional properties, such as mobile homes and vacant land.

Real estate assignment contract

An investor uses a real estate assignment contract to buy the rights to a property, with the intention to assign the contract to a different buyer offering a higher price.

There is a large market for wholesaling properties, which is when buyers and sellers use a real estate assignment contract. Usually, a fixer-upper is sold as-is in a wholesale situation, so the investor makes a profit without having to put any work into the home.

Lease agreement

A lease agreement is an agreement between the owner of a property and a tenant or renter. The lease agreement includes important details not found in a purchase agreement, such as how much rent costs and how often it is due, who is responsible for paying utilities, the security deposit requirements, penalties for late rent payments, and who is responsible for repairs to the property.

Regarding repairs, a lease agreement will typically state that the tenant is responsible for reporting them in a timely manner, and the landlord is likewise responsible for fixing them quickly. It will also restrict the tenant from making any major alterations to the property themselves, including painting walls or installing appliances without the landlord’s permission.

Now that you know the ins and outs of a real estate contract, you can proceed with the confidence that your offer will be strong, and you’ll have all your bases covered for a seamless transaction.

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