UNDERSTANDING CONDITIONAL OFFERS

Most real estate offers are conditional on two main terms:

1) The buyer obtaining the necessary financing to complete the purchase; and

2) The buyer being satisfied with the results of a home inspection report, completed by a professional home inspection company.

These conditions are typically for a period of three to seven days, to give the buyer the time to confirm with their mortgage broker or lender that they are approved for the necessary funds and to give their home inspection company time to complete their report. Upon receiving the approval from the lender and being satisfied with the results of the home inspection report, the buyer then waives the conditions in the offer and the agreement becomes “firm.” If the buyer is unable to obtain the financing approval, or if the buyer is not satisfied with the results of the home inspection report, they notify the seller and the agreement is terminated.

However, there are many other important legal rights and obligations that must be understood by real estate salespeople when advising buyers about any condition included in their agreement.

Let us first focus on the financing condition in more detail. What most buyers do not understand is that just because their lender provides the initial approval, there are typically other conditions that still have to be satisfied before they will actually give you the money.

The main “other” condition is that the lender must be satisfied from their own appraiser that the appraised value of the home or condominium is equal to or greater than the amount the buyer has agreed to pay for it.

For example, let’s say an agreement is signed for $300,000 for a home and the buyer is approved for financing of $225,000, which is 75 per cent of the value of the home. If the bank’s own appraiser actually values the same property at only $275,000, then the bank in most cases will not lend you the full $225,000. They may only lend 75 per cent of $275,000, or $206,250, and then expect the buyer to come up with the difference of $18,750. This can occur perhaps just before closing, making it extremely difficult for the buyer to come up with the extra funds in time.

When interviewing potential lenders, buyers must also make sure they inquire as to what the lender’s appraisal practices are and what other conditions have to be satisfied before they receive their funds. Where possible, make sure that all bank conditions, including the appraisal, have been satisfied before waiving the financing condition.

It is also important for buyers to understand that when they make a transaction conditional on financing, they have a legal obligation to act in good faith in trying to satisfy this condition. The buyer cannot simply do nothing and then say to the seller that the deal is off because they could not obtain financing. They must actually apply to a lender in good faith for the financing and then be turned down, in order to legitimately cancel the agreement. If not, the seller can take the position that the buyer has not acted in good faith in trying to satisfy the condition and the seller will then not only refuse to return the deposit, they may also sue the buyer for damages for breaching the contract.

Let’s say an agreement is conditional on the buyer obtaining a mortgage for $200,000. The buyer applies to a bank for the mortgage but is not approved. Can the seller then offer to take back a mortgage for $200,000 and try to force the buyer to waive the condition? The answer is no, unless there was an additional clause added to the agreement that gave the seller the right to provide the financing in the event the buyer was not approved by the lender.

Although the home inspection condition almost always appears in residential real estate transactions, it is surprising how many buyers and sellers do not really understand what the condition means and what their rights are once the condition is inserted. Some of the questions that are asked by buyers and sellers are:

1. Does a home inspection condition give a buyer an automatic right to cancel the agreement?

2. Is the seller entitled to a copy of the home inspection report?

3. If the report shows only minor problems, is the seller entitled to just fix the problems and force the buyer to complete the transaction?

4. What happens if the buyer does not carry out a home inspection at all and then tries to cancel the agreement?

In general, the courts have indicated that when buyers are trying to satisfy any condition, including a home inspection condition, they must act honestly, reasonably and in good faith. A decision of the Ontario Court of Appeal provides some guidance as to how we can answer each of the above questions. In the case of Marshall v. Bernard Corporation, decided in 2002, the agreement contained the following home inspection condition:

“This Agreement is conditional upon the inspection of the Property by a home inspector of the Buyer’s choice and at the Buyer’s sole expense, and receipt of a report satisfactory to him, in his sole and absolute discretion. Unless the Buyer/Cooperating Broker gives notice in writing, delivered to the Seller/Listing Broker on or before Wednesday August 19, 1998, that this condition is fulfilled, this Agreement shall be null and void and the deposit shall be returned to the Buyer without interest or deduction. This condition is included for the sole benefit of the Buyer and may be waived at his sole option by notice in writing to the Seller/Listing Broker within the time period stated herein.”

The buyer was not satisfied with the inspection report and asked for the deposit to be returned.

The seller took the position that the buyer was not acting in good faith and refused to return the deposit, because the inspection report listed only minor deficiencies to the home. The sellers felt that in accordance with any “objective standard’, the buyers should have been satisfied with the report and completed the transaction.

The court however, disagreed and held that in this case, the words “sole and absolute discretion” indicated that the parties intended this to be more of a “subjective standard” and as long as the buyer acted reasonably, they could refuse to waive the condition. In other words, as long as the buyer could prove that they were not happy with the result of the inspection report, they did not have to prove that anyone reading the inspection report would have been unhappy with the results.

As a result, many sellers try to remove the words “sole and absolute discretion”, from home inspection condition clauses or include additional language that if the amount to correct all deficiencies is less than $1,000, then the seller has the right to correct the deficiencies and the buyer has to close the transaction. If any change is made to the home inspection condition clause, salespeople need to review the changes carefully with their buyers to ensure that everything is understood.

Sellers are not entitled to a copy of the inspection report unless it says so in the clause itself.

If the buyer does not conduct the home inspection at all, or perhaps brings in an unqualified person to conduct the inspection, then I believe these might be examples of not acting reasonably and in good faith and it would thus be difficult for a buyer to try and cancel the agreement based on the condition clause. It is thus very important that buyers always use qualified home inspectors to conduct any inspection of a home.

In my view, sellers should not spend a lot of time negotiating conditions. If the buyer does not want your home, it is better to just let them cancel the agreement and find a buyer that really wants your property. However, buyers also need to understand that some sellers may not be so accommodating. That is why any home inspection condition must be drafted carefully and carried out in good faith.

Waiving conditions

Once a buyer is satisfied with the results of a condition, whether it is financing or the home inspection, immediately have the waiver signed and delivered to the seller or the seller’s salesperson. Sellers have successfully terminated agreements when the waivers were delivered late.

In the condition, we write that the waiver must be for “the sole benefit and option of the buyer” because the buyer may want to buy the house even though the condition is not satisfied.

If the waiver is not at the sole discretion of the buyer, the seller may take the position that this is a “condition precedent”, and thus cannot be waived by anyone. A condition precedent means that if the condition does not happen, the deal terminates, and no party can waive it. It is normally used when you make a transaction conditional on obtaining a severance, or dividing your property, with the approval of the local municipality. If you don’t get the approval, the deal cannot happen and thus no one can waive the condition. A seller might want to take this position because the property suddenly went up in value after the original agreement was signed.

An example occurred where a buyer made a transaction conditional on a water purification system being installed on the property prior to closing, or else the transaction would end. It did not include any waiver rights. The seller tried but could not install the system. The buyer then tried to accept the property anyway, even without the new system. The seller refused and since the condition was found to be a condition precedent, no one could waive it and the deal ended.

It is thus very important for salespeople to understand and explain to buyers and sellers all of their legal rights and obligations relating to conditions when buying or selling a home.

SOURCE: REAL ESTATE MAGAZINE

 

Jackie Dall'Orso

Jackie Dall'Orso

Sales Representative
CENTURY 21 Miller Real Estate Ltd., Brokerage*
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