Editor’s note: Since this post’s original publication date of December 5, 2022, changes in the insurance marketplace make the need for a new mortgage contingency clause a reality.
Too many companies to count ceased accepting new applications for home and dwelling insurance in many states. Many companies now employ geospatial resources in deciding whether to insure homes at a local level.
Many companies are ceasing to write insurance in ‘coastal areas.’ These encompass communities located near the coastlines of oceans, rivers, inlets, bays, and lakes. This will prove problematic for mortgage and real estate professionals as insurance coverage either be highly expensive or impossible to secure.
A new mortgage contingency looms in the near future.
In this post, I’ll do a quick review of some of the better-known mortgage contingency clauses. And I’ll discuss one I believe many, if not all real estate attorneys and allied professionals should add to client contracts.
What are the contingencies in a real estate deal?
A contingent offer is a standard way that buyers agree to purchase a home if certain conditions are met. If the conditions are not met, then the buyer can back out of a sale without fear of losing their downpayment.
The Home Inspection
For example, a home- inspection is one of the most common contingencies. Some buyers are not willing to spend money on inspections unless they can back out of the purchase, or renegotiate it, at the end of the process.
A home inspection can reveal all sorts of problems from mold to bad floor joists. It is one contingency that is nearly always made on a sale.
Also, in my experience, the home buyer who hires a qualified home inspector, and stays with the inspector during the inspection is a more informed buyer. I can’t tell you home many home buyers call me for home insurance proposals who don’t even know the outside and inside square footage of their future home. Heck, how do you know your bed and living room furniture will fit? And how many can’t provide the month and date of important home upgrades that are part of normal maintenance? Not to mention the shutoffs for the gas, oil, electricity, and water services.
Which are the best-known contingencies?
The Mortgage Contingency
Another important contingency is the mortgage contingency is also, at least until now, the most common. The mortgage contingency protects the buyer and the seller from a situation where the buyer can’t get a loan to cover the sale price. The buyer receives a certain amount of time to get a loan. He may think he has the mortgage lined up, but things happen. If he can’t get a lender to agree to the loan, then the buyer can back out of the agreement. This wastes everyone’s time and that’s why there is also an appraisal contingency.
The Appraisal Contingency
The appraisal contingency is good for the buyer because it helps ensure the property is actually worth what he is paying for it. In this case, a lender hires a third party to put a value on the property. If the value is less than the buyer is paying, then the buyer can cancel the deal.
While you may hear of non-contingency deals in hot real estate markets, these can be extremely risky for buyers and sellers.
You might hear of them in a case where the price is low and the buyers have cash. In this situation, the buyers sign the contract without an inspection. It is somewhat risky for the seller because if there is something dramatically wrong with the property, the buyers could sue. On the other hand, it is terribly risky for the buyer because they don’t know what the pitfalls of the property are.
A New Contingency Clause. The Availability of Home Insurance Clause
I strongly suggest real estate attorneys begin to include a new contingency clause in their contingent offers.
The new clause? The Availability of Home Insurance Clause.
The reason for this new clause is simple – homeowners insurance may simply become unavailable in certain parts of the country. The inability to find home insurance that meets lender requirements may become difficult based on the homes’ location and other factors. What caused homeowner insurance rates to increase exponentially?
Several factors recently caused home insurance rates to skyrocket:
- A 40.4% increase in the cost of residential building supplies since January 2020;
- An increase in home replacement costs to match this inflationary rise;
- Devastating hurricane and flood damage in Florida, the Eastern seaboard, and the Gulf regions of the United States, no doubt caused in large part to climate change;
- An expected unprecedented increase in January 2023, in the cost and availability of reinsurance purchased by insurance companies.
What is reinsurance and why is it so important to insurance companies?
That will be the subject of an upcoming post. For now, suffice it to say without the ability to purchase affordable reinsurance, home insurance companies will have no choice but to limit their policy offerings.
For example, companies known as reliable markets for coastal or rural risks could severely limit how the number of policies they write or place a moratorium on writing these types of risks for a specified time.
In the past, some companies, concerned about their reinsurance costs and exposure to possible natural disasters simply chose to non-renew policies in certain areas.
It simply means a disruption in the availability of home insurance, especially for those purchasing a new home. In some cases, insurance companies will require more underwriter approvals, and proof of sound maintenance of the proposed risk. They may also be limited in the number of policies they are able to write with particular companies.
In the worst-case scenario, some independent agents and brokers, and captive agents, may find themselves losing insurance markets altogether.
And this matters because . . .
Without reliable and affordable markets for home insurance, home lending will crawl to a stop.
The bank will not close any mortgage unless ample proof of coverage in the form of a binder and a paid receipt is received by them prior to the closing. Without both, there will be no closing, and the purchaser will lose their downpayment.
There is a simple fact I’ve tried to share with members of the real estate and mortgage professions for my entire insurance career:
Don’t save the search and eventual purchase of home insurance for last.
Everyone looking to purchase a home should begin their home insurance search as soon as they receive their mortgage commitment.
Not two weeks before their lender anticipates closing their loan.
No, as soon as they sign on the dotted line.
In this way, homeowners and purchasers of new homes will best guarantee they will find and purchase the homeowner’s insurance they need.
A closing suggestion for real estate brokers, mortgage lenders, and real estate attorneys
Your local independent insurance agent is no longer an afterthought. You need to have good if not great relations with professionals able to provide you and your clients with the insurance they will need to close. Also, you might get calls from clients asking for referrals to independent agents able to assist them should companies stop offering home insurance in certain areas, and are in danger of being non-renewed.
Now is a good time to reach out to insurance professionals you know, and get referrals to other insurance professionals in your area. Over a virtual chat, an in-person cup of coffee, or a simple telephone call, find out whether their insurance resources are solid. And then, stay in touch.
Strengthening these relationships could make all the difference.
About the author
Eustace L. Greaves, Jr., LUTCF, is an NYS-licensed Independent Insurance Agent and Broker with over 40 years of experience, 26 of those years as the owner of Bridge Insurance Agency.
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