The Purchase Contract/Disclaimer
Purchase contracts for the sale of real property do not always go as planned. Rarely, is getting out of a purchase contract the seller’s concern. However, for the buyer, it comes up in discussions before writing a formal offer almost every time. This post will go through all of the scenarios for a buyer backing out of a contract. It will also briefly examine the legal arguments some buyers may put forth to exercise their rights. Some of these have substance and others are without merit. However, before going any further I am forced to give you the following disclaimer: While I am a member of the California State Bar and actively hold my license to practice law, nothing in this post should be considered legal advice or procuring an attorney-client relationship. This post is written under my license as a realtor, only. I would advise you to rely only on the advice of your own realtor and/or legal counsel for your particular circumstances. Okay, enough of that and on to the post.
The vast majority of purchase contracts in San Carlos are written on form contracts called PRDS Real Estate Purchase Contract (hereinafter the “Contract”). There are different providers of form contracts, but for the purposes of this post we will concentrate on the PRDS form because it is so widely used in San Carlos. Once a written offer is submitted by the buyer and is accepted by the seller there is a ratified purchase contract in place. Notice that I said written offer. While verbal contracts are enforceable in California, there is a section of the California Civil Code called the Statute of Frauds which states that verbal contracts are enforceable in California with very few exceptions. One of those exceptions states that an agreement for the purchase of real property must be in writing. Therefore, any verbal contract that you have with a buyer or seller, by its very subject matter, would be most likely found unenforceable. The role of the Contract is to give the buyer, seller and the agents involved, an easy way to reduce their agreed upon terms to a writing that will satisfy the Statute of Frauds.
Backing Out With Contingencies
From a buyer and seller perspective, they are either (1) dealing with a contract that contains contingencies; (2) dealing with the time period of the contract where contingencies are no longer in place; or (3) dealing with a contract that has no contingencies whatsoever. The vast majority of contingencies are put in place to benefit the buyer. Typical buyer contingencies include (a) their ability to complete and accept inspections on the property; (2) their ability to fully secure financing; (3) their ability to first sell their current home before completing the purchase. It’s rare, but the one seller contingency which does creep up from time to time, is that the purchase is contingent on the seller finding a replacement property.
Breaking this down in its simplest form, backing out of a purchase contract falls into one of two time periods: (1) while the contingencies are in place; (2) after the contingencies (if any) have been released. If a buyer chooses to back out of a purchase contract during the contingency period, the reason for backing out needs to be directly related to the contingencies they have in place. For example, the buyer has elected a financing contingency of 14 days and on day 12 their financing falls through. By the terms of the Contract, the buyer can safely back out of the contract.
Insider’s Tip>>>The property condition contingency is elected by most buyers. By the terms of the Contract, the buyer is free to conduct any and all inspections deemed reasonable to fully assess the property during the contingency period. By the letter of the law, if the buyer finds a condition on the property that is materially different than what they had expected at the time of purchase, it is enough for the buyer to safely back out of the purchase. This is the reason most good agents will have the buyer fully acknowledge a disclosure package ahead of accepting an offer. By acknowledging the disclosure package ahead of time, the buyer is already on notice of all issues affecting the property, therefore any condition they wanted to use to get out of the contract must be materially different from what they have already acknowledged.
Possibly Playing Dirty Pool >>> A seller can do everything right. They can fully disclose all material issues with the house, have professional reports conducted and have the buyer fully acknowledge all disclosure documents…..and if the buyer can find nothing materially different with the property, the buyer can still back out if they are willing take push the limits of the Contract and possibly table their ethics. The Contract gives a very broad description of what is involved in a property condition contingency. Consequently, the buyer could run any number of scenarios that a seller could not possibly account for. For example, the buyer could state that they did not like the traffic in front of the house at a particular time of day. They could say they did climate research for the property and San Carlos as a whole and did not like the results. Sound ridiculous? It is. However, any attorney could formulate an argument on how these items and similar items would affect a buyer’s ultimate quiet enjoyment of the property. When push comes to shove, if you have a buyer who has a sudden change of heart on the house and cannot get out of the contract any other way, the property condition contingency will give that buyer a way out if they are willing to look the other way with regard to good faith and fair dealing.
Backing Out After Contingencies
All of the contingencies have bee released by the buyer and now the two parties are just waiting to close escrow. For San Carlos, this time period is usually 15-30 days after the contingencies are released. Let’s assume a buyer (for whatever reason) does not want to close the deal and wants to back out of the contract. If the Liquidated Damages provision is checked on the Contract, the buyer may back out of the Contract by forfeiting their 3% deposit (unless a different amount has been agreed upon).
Insider’s Tip: Most sellers mistakenly believe that they will get a check from the escrow company for the buyer’s 3% after the buyer backs out of the Contract. This is not exactly correct. Know that the escrow company cannot release funds to the seller without both parties acknowledging that directive in writing. So if a buyer backs out and does not sign the Release of Funds to the seller, the seller cannot immediately collect the amount due per the Contract. The buyer, in theory, could refuse to sign and hold up the entire process, perhaps trying to negotiate down the 3% default amount.
There are other ways that a buyer could back out of the Contract after the contingencies have been removed without jeopardizing their 3% deposit. Most commonly, this occurs when a new and relevant disclosure becomes available. How does this happen? A seller or the seller’s agent forgets to have the buyer sign a particular disclosure item. The buyer could make the case that the new disclosure, even though it may only be “form” in nature, is a new disclosure, relevant to their particular perception of the property. This new disclosure could signal two different opportunities for the buyer: (1) it could trigger a three day right of rescission; or (2) it could re-open the property condition contingency. Both of these possibilities are a way out of the Contract for the buyer, while keeping their 3%.
Understanding the Limitations of Form Contracts
As you can see from the examples listed above, the pitfalls for sellers are numerous. There are ways to greatly limit a seller’s exposure during a purchase, but doing so involves crafting clauses that go beyond our form contracts in San Carlos. Remember, the form contracts play toward the middle. It is perfectly acceptable to have an addendum to all purchase contracts in San Carlos with some carefully drafted clauses that can circumvent some of these very common issues. Your real estate agent should have some ideas on how to offer protection beyond that which is supplied in our form contracts.