In the days before the real estate bubble burst in 2008, most purchasers of coop and condo apartments in NY were willing to sign contracts that obligated them to move forward with the purchase regardless of whether they were able to obtain financing. That was just fine with purchasers, because banks were giving away loans like candy on Halloween. If you had a pulse, you could get a loan. So, it didn't really matter to most purchasers whether or not they had a financing contingency.
Oh how the times have changed! Since the crash, lenders have done a 180 degree turn when it comes to the scrutiny that they apply to mortgage and coop loan applications. Whereas in the pre-crash world contingencies were the exception, today, in most instances, purchasers will insist that their ability to consummate the purchase is made contingent on their ability to obtain a loan. (For purposes of this discussion, the Purchaser will be referred to as "her" or "she".) The terms of this contingency are often misunderstood by the parties to the transaction and by their attorneys. Given the prevalence of contingencies in today's marketplace, it is particularly important to break down the various components of these contingencies so that the parties are fully aware of their rights and responsibilities before they become a problem.
So, What is a "Commitment"?
The offer provided by a financial institution to make a loan to a borrower in connection with a coop or condo purchase is commonly referred to as a "commitment". This should really be called an "almost commitment". The financing contingency clauses in the standard form coop contract (the 2001 form) and condo contract (the 1998 form) each state that an "almost commitment” is not a Loan Commitment (Capital “C”) Letter as defined by the Contract if it is conditioned on the completion of a satisfactory appraisal. This means that if an "almost commitment" is issued within the time period required by the Contract (usually 30-45 days), but the completion of a satisfactory appraisal is a condition to that "almost commitment" and the appraisal is not completed within that time frame, this does NOT qualify as a Loan Commitment Letter under the terms of the Contract of Sale.
In the event the appraisal condition is not met within the required time period, the impact on the Purchaser could be devastating. If the period to obtain a Commitment expires and she has not obtained a Commitment, she runs the risk of losing the financing contingency, meaning that she forfeits her ability to walk away from the deal with her 10% Contract Deposit if the Commitment is not subsequently issued. This could cost her the full amount of the Contract Deposit if she is unable to obtain financing for any reason, including a problem with the building, the unit or the coop or condo's finances, even if it has nothing to do with her.
So what can a Purchaser do to get the necessary protection? When the end of the loan Commitment period is approaching, the Purchaser’s attorney should request an extension of the Commitment period from the Seller’s attorney. In most cases, the Seller will agree, because after waiting several weeks with the apartment off the market, the Seller is fully invested in completing the transaction with the Purchaser. If the Seller rejects the request for an extension and the Purchaser has a financing contingency, then the Purchaser can either cancel the Contract (and receive a full refund of the Contract Deposit) or move forward without the loan contingency. The latter option is like walking on a tightrope without a net, because if the lender refuses to give the Purchaser a loan, once again for any reason whatsoever, she will be forced to either pay cash for the apartment (which she likely is unable to do) or forfeit her 10% Contract Deposit. This is why it is crucial not to let the time to get a loan Commitment expire.
OK, so you've got a Commitment. Now what??
Of course, coop purchasers have the arduous Board approval process and condo purchasers must obtain a waiver of the right of first refusal from the condo's Board of Managers. Assuming those hurdles have been met, most purchasers and sellers believe that the issuance of the Commitment is the last hurdle to clear along the road to closing. Is that actually true? The answer is "that depends".
Financing Contingency in Standard Form Coop Contract
Much to the chagrin of sellers, the standard form coop contract provides purchasers with the ability to cancel the contract after the Commitment has been issued, sometimes on the eve of Closing. This language is found in paragraph 126.96.36.199, which states as follows:
"If Par. 1.20.1 [the financing contingency paragraph] applies, provided Purchaser has complied with all applicable provisions of Par. 18.2 and this 18.3, Purchaser may cancel this Contract as set forth below, if any requirement of the Loan Commitment Letter other than one concerning Purchaser is not met (e.g. failure of the Corporation to execute and deliver the Institutional Lender's recognition agreement or other document, financial condition of the Corporation, owner occupancy quota, etc.)" (emphasis added).
What does this mean? Most Commitments include conditions that go well beyond the appraisal. For instance, a recent Commitment letter given to one of my clients by a major lender included the following as a reason why the lender might cancel the Commitment letter:
"Any change in the property or in our information about the property, including its value or factors affecting value at or after time of appraisal."
It further went on to include "Project Approval" as a condition to the Commitment:
"The cooperative corporation and project must meet all of Lender's requirements, including but not limited to those related to financial condition, legal status and insurance coverages."
What are the Lender's requirements? This question has perplexed borrowers and practitioners alike for some time. Lenders do not have standard requirements. In fact, the same lender may change its requirements from one loan to the next, often depending upon who at the lender is underwriting the loan. Sometimes, the requirements change during the course of the loan processing, meaning that one set of standards could be applied at the start of the process, and those requirements could change before closing. "Project Approval" is a condition included in virtually every loan Commitment. As the Commitment referred to above indicates, the Commitment could be canceled based on information obtained by the lender after the appraisal. This could happen on the day before the closing, leading the lender to walk away, leaving buyer and seller without a deal. Paragraph 188.8.131.52 allows the purchaser to cancel the contract in this situation. The Seller, who has done nothing wrong, and the purchaser, who has done nothing wrong, are now left without a deal. At least the purchaser gets to walk away with her Contract Deposit.
Contingency in Standard Form Condo Contract
In the standard form condo contract, the Purchaser with a financing contingency is not provided with the same level of protection as she is in the coop contract. In the condo contract, once the Commitment is issued, the Purchaser is on the hook, regardless of whether the lender refuses to fund the loan, even if that refusal is based on reasons that have nothing to do with the Purchaser. By way of example, let's say the lender issues a Commitment, and includes as a condition the ever-popular and frighteningly vague "Project Approval". Everything is going swimmingly until three days before the scheduled closing date, at which time the lender withdraws its Commitment because the condo's owner occupancy percentage is too low. Therefore, the "Project Approval" condition has not been met. In the coop contract, the Purchaser would be permitted to cancel the Contract and get her Contract Deposit back. In the condo contract? No such luck, as there is no such provision allowing the Purchaser to cancel after the Commitment has been issued.
The Purchaser is left with three unattractive choices: 1) Plead with the Seller to get an extension of time to obtain financing from another lender. While this request may be granted, the Seller will be unlikely to make the contract contingent on Purchaser's ability to get this replacement financing; 2) move forward with the transaction, paying cash or obtaining the funds from some other source. Most purchasers are not in a position to come up with this amount of cash; or 3) face the cancellation of the Contract and forfeiture of her down payment.
How can this potentially devastating situation be addressed? At the time the contract is being negotiated, the Purchaser's attorney should include a provision in a Rider to the contract that provides the Purchaser the same protection to which she would be entitled under paragraph 18.1.3 of the coop contract, namely the ability to cancel and get her Contract Deposit back even after the Commitment has been issued based on reasons that do not relate to the Purchaser. If the Seller balks at the inclusion of this provision, then it is up to the Purchaser to decide whether to move forward. In any event, it is up to the attorney to bring this potential scenario to the Purchaser's attention, so that the Purchaser can make a fully informed decision about whether to proceed with the transaction.
No contract can address every potential scenario. When a lender withdraws a Commitment, someone is going to get hurt. It is up to the parties and their attorneys to decide who takes on the risk in these situations.