Pam and Martin Scarborough were discouraged. They were trying to buy their first home and had planned carefully for the undertaking: they had come to me for preapproval two months before. Their finances were well organized and I assured them that getting final approval on their mortgage would go smoothly once they had an accepted offer.
That was the problem. They couldn’t get an offer accepted.
“We’ve made offers on seven houses,” Pam said, the frustration putting an edge to her voice. “We’ve offered more than the seller’s asking price every time, but somebody comes in with cash and no contingencies and we lose out. Every time.”
Martin nodded grimly. “Maybe we should just hold off and wait for a year or so,” he said. “There are so few houses on the market now, they get snapped up by investors with a ton of cash. We can’t compete with that.”
He was right on one score—that inventory has been very low, and with such scarcity, the competition for each property is fierce. I had told them several times why they should keep at it, but there’s only so much cheerleading a loan officer can do. We had to find another way.
Pam and Martin were looking for a home in the $350,000 price range—the most competitive part of the market. They had enough cash for a 10% down payment plus closing costs. They were well qualified, so I had no doubts about their final approval—once they got an offer accepted.
Cash buyers have two advantages: they need no contingencies (thus removing one layer of uncertainty for the seller) and they can close quickly. In return, cash buyers often ask for a discount.
When a buyer makes an offer on a home, there are typically two important contingencies— conditions that must be satisfied in order for the transaction to proceed. First, there is a Loan Contingency. This states that the buyer will receive a loan for the amount and terms called for in the contract; second, there is an Appraisal Contingency, which states that the property must appraise for the contract price. Both contingencies protect the buyer’s earnest money deposit.
But what if the seller doesn’t need (or want) to close in five days? What if a quick close is an inconvenience? In that case, the cash buyer’s only advantage is the lack of loan and appraisal contingencies.
There is a strategy available to buyers who need a mortgage to buy (most buyers today): make an offer with no loan or appraisal contingencies. This means two things: first, if you can’t get approved for the loan, you won’t be able to get out of the deal. Similarly, if the property doesn’t appraise for the contract price, you won’t be able to renegotiate the price or cancel the deal. You will be committed to close the transaction—or risk forfeiting your deposit.
Two things could go wrong. You could get turned down for the loan. This could occur if the loan officer did not carefully examine all aspects of the loan package before assuring you that you were approved. No experienced loan officer should allow this to happen. If there is any doubt about a borrower’s situation, the loan officer should consult an underwriter to be certain of approval.
The second potential roadblock is the appraisal. If you have agreed to buy a property for $350,000 and the appraiser’s opinion of value is $340,000, the lender will base the loan on the lower value. You will then have the choice of putting up more money or accepting the loan at a higher loan-to-value ratio. If you intended to make a 10% down payment ($35,000) and a loan of $315,000 (90%), your monthly mortgage insurance premium would be figured at .49%—$128.63 per month. But with a low appraisal, the loan-to-value-ratio would be 92.6%. The mortgage insurance premium would be .67%—$175.88 per month, an increase of $47.25 per month.
Are these acceptable risks? That is for you to decide, but if you are frustrated because cash buyers are “stealing” your dream home, you may decide that making an offer without loan or appraisal contingencies is worth it. You should discuss with your Realtor© and your loan officer whether this aggressive strategy is appropriate for you.