Many REALTORS® and even attorneys have fallen to the mistaken belief that the FAR-9 contains a contingency that permits the Buyer to unilaterally terminate the transaction in the event the Property appraises below the Purchase Price.
The reference to the Property's appraised value appears in the Financing paragraph of the FAR-9 as provided below.
FAR-9 Residential Sale and Purchase Contract
Paragraph 3: FINANCING: .... Once Buyer provides the Commitment to Seller, the financing contingency is waived and Seller will be entitled to retain the deposits if the transaction does not close by the Closing Date unless (1) the Property appraises below the purchase price and either the parties cannot agree on a new purchase price or Buyer elects not to proceed, (2) the property related conditions of the Commitment have not been met (except when such conditions are waived by other provisions of this Contract), or (3) another provision of this Contract provides for cancellation.
This is strictly a financing contingency, not to be confused with an appraisal contingency. In order for the Buyer to terminate the transaction using this provision two things must occur: 1) the Buyer must have provided a Loan Commitment during the defined Loan Commitment Period; 2) the appraisal must impact the financing so as to prevent the Buyer from obtaining financing. The simple fact that the appraised value was less than the Purchase Price is not sufficient grounds to terminate the transaction and successfully recover the Buyer's escrowed funds.
Let me provide an example:
- Purchase Price $250,000.00
- Total Financing $50,000.00
- The Buyer provided the Seller with a Loan Commitment during the Loan Commitment Period
In this example the Property appraises for $200,000.00 vs. the Purchase Price of $250,000.00. The question is now: Can the Buyer obtain a denial letter from the Lender based on the appraised value not being able to support the loan with only a 25% LTV ratio? In this example, it would be highly suspect if the Lender would provide such a denial. As such, the Buyer must proceed with the transaction or face the potential of a Buyer's default.
Should the appraised value cause an increase in the LTV ratio that would exceed the allowable limits of the mortgage (ie. LTV increased from 78% to 81%) and the Buyer or the Property does not qualify for the higher LTV financing then the Buyer should be able to terminate upon presentation of the mortgage denial letter.
Obviously, if the appraisal was done prior to the Loan Commitment and it prevented the mortgage approval because of the low value; the Loan Commitment would never be issued and a denial letter should be provided stating the denial was based on the insufficient collateralization of the mortgage loan.
The biggest question should now be how Buyers protect themselves from low appraisal valuations, especially in light of the affects of the HVCC. One might suggest that the Purchase Contract restate the appraisal language in the Special Clause section. Thus, such language outside of the Financing paragraph should create a true independent financing contingency. Example:
"Should the subject property appraise below the Purchase Price and either of the parties cannot agree on a new Purchase Price or the Buyer elects not to proceed this Purchase Contract shall be terminated and Buyer's Deposits will be immediately refunded."
This Special Clause would not be necessary in Purchase Contracts using FHA or VA financing. The FHA/VA Addendums address the issue of low appraisal valuations.
This information is not intended to be considered as legal advice. You should always consult, and suggest that the customers consult, with a competent attorney for a proper legal opinion.
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