Is this financing language common in new builder contracts?
April 28, 2018 11:09 AM   Subscribe

I've been comparing a few national spec builders and have noticed common language in several sales contracts. All of the real estate and legal professionals I've consulted say I need to suck it up. But what is the real worst case scenario here?

Disclaimer: asking for opinion not legal advice.

I'm new to house building. Chose a spec builder. Took the time to read through their 30 page contract and thought it was pretty terribly one-sided. I read a number of other contracts from other spec builders. More of the same, even identical wording.

The short story is that my realtor and the expensive real estate lawyer told me to suck it up if I wanted to spec build. When I looped back to my specific questions, the lawyer would tell me about how much he preferred custom building his house in a nice golf community. Yeah...okay.

So, barring that stellar advice from two paid professionals, I'd like to get the MeFi opinion. MeFi is such a knowledgeable community that hasn't let me down so far. And if push comes to shove, I'm willing to hire another lawyer address my concerns in more exact terms.

Offending Section 1
Broker or Seller shall have the right, but not the obligation, to obtain said loan on the Purchaser's behalf

Offending Section 2
...provide your permission for us to receive information on your loan in an attempt to assist you with the loan process

Offending Section 3
There is no appraisal contingency and the builder will not modify the contract to add that in. Nor will any of the other builders I talked to. My realtor says that is typical with spec builders. He says that if the house appraises low, they will take my deposits to make up the difference. If that isn't enough money and/or I can't finance, they would still keep my deposits and then sell the house to the next interested buyer. He said they "probably wouldn't" force me to buy a house with negative equity but he can't say if it was legally possible or not.

How royally screwed over could it actually make me? Here's an example of a scenario my brain is concocting:

The house appraises for X amount below the list price. They take my deposits as cash. Now I don't have X money credited back at closing and can't make the downpayment on my Y% LTV loan.

---- 3a. Can they force me to then apply for a new lower % loan (like a 5% down conventional or a FHA loan) to make the house sale go through, even if that's not the loan I signed up for?

---- 3b. Can they force me to get a bridge loan or personal loan to make the sale?

---- 3c. Can they somehow force me to liquidate assets or anything else in that vein that was not part of the original loan contract?

---- 3d. The downpayment is going to be 100% gifted from my spouse which lender says is legal (my income pays the bills, my spouse's income is downpayment—separate checking accounts). Would they be able to somehow do any of the above to the spouse even though spouse is not on the loan itself?

Thanks for the help guys. I appreciate any feedback, even if it's only commenting on one question or a portion of a question.

My last (existing house) purchase had an appraisal contingency. The house appraised about 20k below list. It blows my mind that most builders won't allow an appraisal contingency and I'm really worried about what could happen.
posted by ticktickatick to Home & Garden (11 answers total)
 
The house appraises for X amount below the list price. They take my deposits as cash. Now I don't have X money credited back at closing and can't make the downpayment on my Y% LTV loan.

No, they don't take your deposit if the appraisal is low. They only take your deposit if you fail to get financing and back out of the deal. A low appraisal can complicate your mortgage, requiring either a bigger down payment or less favorable rate. But as long as you complete the deal, your deposit will apply to the cost of the home.

What they are saying is that a low appraisal cannot be used as an excuse for backing out of the deal without surrendering your deposit. You are responsible for making sure you can get financing regardless of how the appraisal turns out. Typically that means being able to scrape up a bigger down payment if needed.

You should try to work with the builder, your agent, your lawyer and your bank to find out the track record of your builder regarding appraisals. You may find that the builder always gets good appraisals.
posted by JackFlash at 12:25 PM on April 28, 2018


They won’t allow an appraisal contingency *because* they’re building to spec. It’s not on them to make sure the house is sellable, since you retain all the design rights. That means you retain all the risk of straying away from standard home elements.

The risk to them is that you choose to build a 600k house that will only ever sell for 300k. They can take your down payment to cover the losses, but in a worst case scenario, that won’t be enough.

It’s possible they still have more leverage over you. But in most relationships for custom home building, they’re working with wealthy people and need this language to cover their high overhead/materials/labor costs. (I’m doing a 50k reno right now and still having a hard time wrapping my head around how small a client I am to these guys.)
posted by politikitty at 12:27 PM on April 28, 2018 [1 favorite]


If it appraises so low that I have to change my financing terms or requires out of pocket money I don't have, I have no problem backing out and them taking my deposits.

I just don't want to be forced into a house purchase I don't feel I can afford. The language in all of these builder contracts seems to open the legal possibility of being forced to purchase...even after I forfeit my earnest money.

Purchaser's obligation to close shall not be contingent upon Purchaser's ability to obtain financing

This is followed by clauses about taking deposits as liquidated damages if I back out. But it doesn't completely close off the possibility of them suing me or something because I failed to close on the house. But maybe I'm being paranoid?

Most of the "spec" I'm doing is not an additional cost. I choose a floorplan from their set of floorplans and am going with their base interior features. I might be adding a power outlet or light here and there. So they'll have a few thousand total earnest money and deposits they can take if it appraises low and I can't or won't make up the difference. (Standing inventory in the area is extremely low, which is why I'm considering spec building at all.)
posted by ticktickatick at 1:43 PM on April 28, 2018


I’m doing a 50k reno right now and still having a hard time wrapping my head around how small a client I am to these guys.

While this will be the most expensive house I've ever purchased, I guess it's not in the wealthy category yet either. I am considering building one of their biggest floorplans on a basement, which by itself would make it the most expensive home in the community. The builder still told me if I didn't like the contract that I could shove it and take my business someplace else.
posted by ticktickatick at 1:49 PM on April 28, 2018


We are building with a spec builder and had similar language in our contract. We even had a clause that said the closing date was estimated and they had up to TWO YEARS to deliver the home. It never takes them that long, but they cover themselves.

So, if the house doesn’t appraise, you can chose to make up the difference between the sales price and the purchase price in cash, or you can walk and they will keep your deposit and sell the house to someone else. That is the risk you are taking. Ask if anyone has had problems with appraisals. Don’t just ask the sales office, ask people in the neighborhood. Our community has over 500 new homes and no one has had a problem. We put our money down a year ago and just got our appraisal done as we are closing next month and it came in 60k higher than our purchase price because the prices have continued to rise. Ask your lender if their appraisers are familiar with new construction and if they go to the sales office for comps. Here, many of the homes don’t end up in the MLS that many appraisers use for comps because people have purchased without an agent. Our appraiser went to the sales office to get the comps and had no problems. If he had relied just on MLS, it would have been more difficult because he would have largely compared against resales. Also ask your mortgage company or bank if they have financed in the community before. Our guy has done many of the homes in our community so we knew their appraisers were familiar with the area.

In our community, they don’t do anything like forcing you to change your mortgage or come after you for damages beyond your deposit. They don’t have to. If you back out here, they keep your deposit, market the home and usually end up with a buyer quickly so no skin off their back. But we are in a strong real estate market

This really comes down to your risk level. We weren’t concerned about the appraisal but if it did come up short, we knew we would still want the home and had the ability to make up the additional money. If you are not comfortable with this chance, then you may want to rethink new construction. The builder is building a home for you and is not willing to have that contingency. You have to decide if you’re ok with it. It’s no different than buying a resale and the seller saying they won’t agree to that contingency. The builder is just being up front about that and has made their decision. You need to make yours. But before you decide, explore the stuff above.
posted by polkadot at 1:54 PM on April 28, 2018


To start with disclaimers: I am a lawyer, but I’m not a real estate lawyer and probably not licensed in your jurisdiction. This is not legal advice, just the worst case scenario that you asked for and that makes it hard to sleep at night after you’ve had your first year property class or studied for the bar.

Without an appraisal contingency, if you back out of your contract because the house appraised too low, you’d be in breach of the contract. Now the question is what can the builder do about that. First, the builder could take your deposit as liquidated damages and you’d both walk away from the deal.

However, the contract probably gives the builder the option of using the deposit as liquidated damages but doesn’t require it. Instead, the builder could sue you for breach of contract, instead. Because the law views real estate as unique, specific performance may be available as a remedy when someone breaches a real estate contract. The builder could ask the judge to force you to go through with the deal and buy the house. It would be up to you how you got the money to do that. However, not all jurisdictions allow specific performance as a remedy when a buyer backs out of a purchase and in any case, the builder would have to convince a judge that forcing you to buy a house you no longer want is equitable.

The builder could also sue you for damages, or for the difference between what the builder would have received if you had followed through with the contract and what they ended up with because you breached. Say you’ve agreed to buy the house for $400k but it doesn’t appraise and the builder is only able to sell it for $300k to someone else. You could be on the hook for the $100k in lost profits plus any additional carrying costs.

Really, the above is worst case scenario stuff that’s technically possible (depending on your jurisdiction) but may never actually happen. Going after a buyer for breach of contract is expensive and takes forever and could lead to terrible publicity. Plus, most buyers won’t be able to come up with the financing to buy a house that appraises too low and might not have the cash to cover any damages. The builder might just decide to take the deposit as liquidated damages and avoid the hassle of a lawsuit.

If you’d like to find out more (that may or may not calm your concerns), I’d ask a different lawyer to look into a few things:
• Does your jurisdiction allow for specific performance when a buyer breaches a real estate contract?
• If yes, how likely is it? Has the lawyer ever seen it happen? What do judges require before awarding specific performance in this kind of scenario?
• Has your builder ever sued a buyer in a similar situation (or really, at all)? What were the circumstances? What about other, similar builders in your area?
posted by capsizing at 2:57 PM on April 28, 2018


If your lawyer does not answer your questions to your satisfaction, find another lawyer. That is a basic rule. We are talking hundreds of thousands of your dollars at risk. Make sure that you are protected.
posted by yclipse at 7:57 PM on April 28, 2018


Because the law views real estate as unique, specific performance may be available as a remedy when someone breaches a real estate contract.

Nope. This is true when the seller breaches such a contract, but only rarely when (as here, in theory) the buyer does. I trust the reason becomes evident upon brief consideration.

OP, consider that the damages they would be entitled to are the difference between the market value on the date of breach and the agreed contract price. Suing people costs money; suing a buyer because your shoddy construction means that the property didn't appraise properly will hurt your reputation. The bigger the difference, the bigger the incentive to sue, but also the bigger the likelihood that they may be perceived by future customers as being partially at fault. So suing will not be the most attractive option here for them, as opposed to just taking the earnest money and moving on to the next buyer. The big exception would be if there was a real estate crash in your market between the time of forming the contract and the completion of the project and that took the value down such that the appraisal came in significantly low. Well, someone's got to bear the risk of that happening. There's a reasonable argument that the person who wanted the house built in the first place, that is, you, should be the one.
posted by praemunire at 12:00 AM on April 29, 2018


I am considering building one of their biggest floorplans on a basement, which by itself would make it the most expensive home in the community.

It sounds like you're choosing to have an expensive house built in an area where its resale value will be predictably dragged down by its neighbors. This choice is much more important than any additional lights or power outlets you might add; you're asking the builder to build a specific house in a place he wouldn't rationally build it if he were building speculatively. Unless you find a very foolish and inexperienced builder, the cost of that choice will be yours to bear.
posted by jon1270 at 10:39 AM on April 29, 2018 [4 favorites]


It sounds like you're choosing to have an expensive house built in an area where its resale value will be predictably dragged down by its neighbors. This choice is much more important than any additional lights or power outlets you might add; you're asking the builder to build a specific house in a place he wouldn't rationally build it if he were building speculatively. Unless you find a very foolish and inexperienced builder, the cost of that choice will be yours to bear.

I agree with you on principle. The community is fairly new—not a lot built up yet. A chunk of the lots have been sold as pre-sales and I have no idea who has chosen to build what. They have spec'd this floorplan and bigger as QMIs—just not on a basement. They did spec a house 300 sq feet smaller on a basement, though. It's built and under contract. Do you think that's close enough to not be totally bonkers?

The whole area is basically farmland that has been snatched up by developers. There are neighborhoods surrounding this one on every side being built out by other builders at comparable or higher price points. It's like new construction city. The appraiser shouldn't be completely lacking in comps as long as they venture outside of the one neighborhood itself.

I'm not as worried about the base structural price appraising in 6 months. Maybe I should be? My realtor thinks it's a good value for the area, whatever a realtor's advice is actually worth. Based on my research around the area, I think I'm getting a deal in a market that is just heating up. But that worst case scenario does concern me, as in they sue me to buy the house after a low appraisal. Though a lawsuit sounds unlikely based on other responses unless the market crashes this summer.
posted by ticktickatick at 8:58 PM on April 30, 2018


If your lawyer does not answer your questions to your satisfaction, find another lawyer. That is a basic rule. We are talking hundreds of thousands of your dollars at risk. Make sure that you are protected.

Yeah. I'm trying to balance being cautious with being expedient. I waited over a week for the lawyer to finally read through the contract and consult with me, and I could've sworn the guy barely bothered to read it over his lunch break. This was someone who was highly recommended by another real estate lawyer who seemed like a great guy, but was established enough that he didn't have time for one piddly buyer. And then my realtor thinks I'm being overly picky and safe in a market where I can't afford to be.

I feel like such an outlier in this process. One sales agent, who has been in the business for 10 years, said, "Well, I am learning quite a lot!" from the questions I asked on one walk-through! The local supervisor happened to be on-site and she basically called him over just to answer what I thought were pretty basic questions. Every builder has made comments like, "you know, most people just don't need this kind of detail" or "wow, you already know how to ask all the right questions" and we're not even talking contracts yet, just what is included in the base package and what's not, or hey—is this floor engineered hardwood or laminate?

I'm still waiting for the builder to answer some questions like, can they add in ethernet ports—why isn't that a question you can answer in less than a week? Really, no one has ever asked this question before?

I can't write it off on this builder either, because "2nd choice" builder still hasn't sent me their sales contract and "3rd choice" builder took two weeks to send me their blurry, poorly scanned floorplans.

My agent and lawyer seem torn between commending my attention to detail before I sign a contract and telling me to shut up and stop asking so many questions before I lose the house. The builder just raised their base prices $10k across the board. I try not to be affected by sales strategy, but man...maybe I am futzing around too much waiting for the perfect situation.
posted by ticktickatick at 9:21 PM on April 30, 2018


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