What Is a Financing Contingency in a Real Estate Contract?

A financing contingency serves as a protection within a real estate purchase agreement. This clause ensures that a buyer is not bound to complete a home purchase if they are unable to secure the necessary mortgage financing. It offers a safeguard against unforeseen financial hurdles.

Defining a Financing Contingency

A financing contingency, sometimes called a mortgage contingency or loan contingency, is a contractual provision making a real estate sale conditional upon the buyer obtaining a mortgage loan. Its core purpose is to protect the buyer’s earnest money deposit. This deposit, typically 1% to 5% of the sale price, is substantial. Without a financing contingency, a buyer could lose this deposit if their loan application falls through.

This clause makes the purchase agreement conditional, meaning the buyer’s obligation to buy the home depends on their ability to secure specific financing. It provides a clear exit strategy for buyers, reducing their financial risk if they cannot obtain the necessary funds. For sellers, while it introduces a variable, its inclusion indicates the buyer’s serious intention to obtain funding.

Key Elements of a Financing Contingency

A financing contingency clause details specific conditions that must be met for the buyer to secure financing and proceed with the purchase. These conditions include the type of loan the buyer intends to obtain, such as conventional, FHA, or VA loans. The clause also specifies the maximum interest rate and the exact loan amount the buyer needs to finance the property. If the approved loan deviates from these specified terms, the buyer may have grounds to terminate the contract.

The timeline, or financing contingency period, specifies when the buyer must secure loan approval. This period commonly ranges from 30 to 60 days, allowing sufficient time for the mortgage application and underwriting process. Loan approval typically refers to a mortgage commitment letter, which is a written document from the lender outlining the key terms and conditions of the loan.

Invoking a Financing Contingency

If a buyer is unable to meet the financing conditions outlined in the contingency, they can formally invoke the clause to terminate the contract. The buyer must promptly notify the seller in writing that financing is unavailable, by providing a loan denial letter from their lender. This notification must occur before the expiration of the specified financing contingency period. Failure to provide timely notice can result in the buyer losing the protection afforded by the contingency.

Upon proper invocation, the contract is terminated, and the buyer is entitled to a refund of their earnest money deposit. This outcome protects the buyer from financial penalties when they cannot secure the necessary funds through no fault of their own. The earnest money is refunded because the condition for the sale—obtaining specific financing—was not met, as stipulated in the purchase agreement.