Contracts are important in all aspects of business, but more so in real estate than in any other field. Technically speaking, a "contract" is not necessarily a formal written document drafted by a real estate broker or attorney - it is any legally binding agreement. You've undoubtedly heard of "oral contracts" in TV courtroom dramas, and in fact, a signed document can be dismissed by a judge if he or she rules that one of the signing parties didn't understand it. In essence, there is no contract without a mutually understood agreement - a "meeting of the minds."
In real estate, there's one additional legal requirement - only what's in writing is enforceable. Did your seller promise he would cut the grass and fix the broken steps on the back porch within 30 days of closing? Unless you got it in writing, you're out of luck. You can't sue for breach of an "oral contract" because such a thing doesn't exist in real estate law. This is why written contracts are so important to real estate investors.
Many best-selling, self-anointed real estate prophets preach fallacy when it comes to contracts. They perpetuate common myths that many novice investors take for gospel, only to have their faith seriously shaken when they venture out into the real world. If you plan on using the following tips and tricks, think again.
Abusing the Inspection Contingency
Some "experts" claim that by inserting an inspection contingency in your contract, you can back out of any deal, unscathed. The reality is that you have a duty of good faith to the seller, and if you violate this trust, you can be held accountable.
An inspection contingency allows the buyer a specified amount of time to inspect the property and ensure that it's in reasonable condition. It also gives him or her the right to hire a professional property inspector who takes note of any and all defects. The buyer can then take these concerns to the seller and renegotiate the price. As the buyer, you should definitely always insist on an inspection contingency. However, if you think you can use it to arbitrarily back out of a deal, you are wrong. For example, you cannot use minor objections or imagined maladies to invalidate a contract. You have an implied responsibility to exercise good faith, and if you fail to do so, you could find yourself on the wrong end of a lawsuit.
Unreasonable Loan Approval Requirements
Even more common is the belief that you can get out of any deal by simply stating that you couldn't find a loan. I once knew an under-skilled worker on unemployment who would only consider jobs that he wasn't qualified for at salaries he could never hope to earn - at least until his unemployment benefits ran out. Similarly, "get rich quick" real estate gurus say that you can void any contract by intentionally failing to find "agreeable" financing. Insisting on zero percent financing with no money down is another violation of implied good faith, and cannot be used to get out of a deal. In fact, this issue can trip up even the most sincere of buyers, and therefore, it is wise to spell out exactly what "acceptable" terms are in the body of your contract. For example, you may write something like "buyer is not required to accept a loan with an interest rate of higher than 8 percent over 30 years and payments exceeding $700 per month, and buyer is not required to accept any loan that requires points, closing, and other fees".
Again, as the buyer, you should certainly have a loan approval contingency in your contract - but don't plan on using it as a silver bullet. Make sure you are sincere before entering a deal. Otherwise, you could end up losing your earnest money, or worse, be sued by a seller who thinks you are trying to reneg on a contract in bad faith.
And, of course, whenever in doubt, seek professional legal assistance when you are uncertain of who to draft or interpret a real estate contract. This may sound obvious, but have your lawyer review the contract BEFORE you sign it, not after - there's no automatic right of rescission for real estate contracts.
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