The Dangers of Writing an Unconditional Offer to Purchase
In today's competitive housing market, where you may be competing against multiple buyers in a bidding war, you may be tempted or even encouraged to write a "clean" offer to purchase, without including any conditions. This is a binding sales contract once the sellers accept your offer. The most common conditions placed in offers allow buyers time to obtain their financing commitment from their mortgage lender, and may also include a satisfactory home inspection.
The clauses often read "This offer to purchase is conditional upon the buyer obtaining satisfactory mortgage financing by (date) and (time)... failing of which this offer will become null and void and the buyers deposit will be returned in full, etc."
Once all conditions are met, your Realtor will have you sign a waiver form, as the conditions must be removed within the time period allotted for the sale to become firm.
But what are the risks of writing an offer to purchase without a financing clause?
Let's say you have a team of professionals who have worked with you to get you as ready as you can be to make that offer to purchase. Your team should consist of an Accredited Mortgage Professional and an experienced Realtor - a Realtor who knows how to present your offer to purchase in the best light and sell the vendors on why they should accept your offer. Your Accredited Mortgage Professional will have pre-approved you to purchase, pulled a credit bureau, provided you with parameters for affordability, assembled your income and down payment verification and provided you with a mortgage pre-approval subject only to CMHC or a satisfactory appraisal of the property. You may be tempted to write an unconditional offer to purchase because your Mortgage Professional has indicated that you look strong and you have passed the test on affordability and credit, right?
But your mortgage financing approval is not based on you alone. The lender and the insurer (CMHC) also need to pass their approval on the property too. The property is the physical collateral for the loan, and your covenant (personal strength credit wise and ability to repay the loan) and the property itself both become part of the approval process. In high ratio mortgage approvals, the insurer (CMHC or Genworth) have the final say. In conventional properties, the approval will be subject to an appraisal to confirm value.
Here's what could go wrong:
For example, let's say you have 5% down payment, plus your closing costs. It is a bidding war, so you come in with your strongest offer, and bid well over the asking price. It is within the price range that your Accredited Mortgage Professional has advised you on the affordability test. The deal is submitted by the lender to CMHC for their approval. CMHC compares the property value against recent and comparable sales in the area, and determines that they will not support the value you offered. They may request a full appraisal of the property. If, for example, you bid $240,000 on the property and CMHC assesses the maximum value of $230,000, they will only allow a maximum mortgage of 95% of $230,000. You would be responsible for the shortfall in the down payment. If the offer to purchase was not subject to financing, and you could not cover the shortfall in the extra down payment, you could be subject to losing your deposit and risk being sued for damages. In reality, you have paid too much for this property and because the offer to purchase was unconditional, the contract would be binding. Another scenario is that CMHC requests a full appraisal on the property. The appraiser comes back with a report that there is a foundation problem, and they are not willing to insure at all. Or in conventional financing, the value may again effect the purchasers in the amount the purchasers have to provide as down payment.
My recommendation is that if you are requiring mortgage financing, you should always put in a financing condition - for your own protection. If you've written an offer subject to financing and CMHC doesn't approve the property, you'll be disappointed, but protected. If you've written an offer unconditional and you don't get your mortgage financing, you'll lose your deposit and risk being sued for damages.
Keith
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