Traditionally when you buy a house using a loan you get pre-approved by your banker or mortgage broker up front, based on some preliminary information about your financial profile, like credit scores, income and assets, and existing debt. Then once you get in contract on a home the lender underwrites the loan during the loan contingency period, typically a 10-17 day window after the offer is accepted. During that time the underwriter verifies employment and income, receives and reviews the appraisal, and gets other information and paperwork he needs so the bank can issue a firm approval. Once that approval is given then you can remove the contingency and proceed with the sale. But that waiting period puts you at a disadvantage when up against a cash buyer in a multiple offer situation.
In extremely competitive markets like Marin County and San Francisco we’re seeing a new trend. In an effort to compete with cash buyers some home purchasers are getting full credit approval in advance, where their mortgage banker actually sends their file through underwriting up front, so the loan contingency can be shorter or even in some cases waived altogether. With cash buyers often coming out on top in multiple offer situations it’s natural for those using financing to look for ways to be more competitive, so this may become more and more common as the hot market continues.
This more aggressive approach to financing brings up a couple of important questions. Is this method riskier than the traditional way of doing it, where a buyer has a contingency period during which she has an out if the financing doesn’t come together? And at some point will this become the new model for buyers getting loans? To this point this has been somewhat under the radar but the word is getting out, as the New York Times recently discussed the trend in a piece titled A New Weapon for Bidding Wars.
Also, even if you have no loan contingency, offers with financing are traditionally written with an appraisal contingency. If the property appraises for less than the purchase price the buyer can cancel the contract. Buyers have the option of waiving that contingency, but the bank will only lend based on the appraised value. So buyers who are at the limit of the loan to value ratio (for example 80% in a typical situation) have to bring more down payment money to make the loan happen. But some buyers who have enough money down, or the flexibility to increase their down payment if needed, are going in with no loan or appraisal contingencies, and thus being basically the same as an all cash offer. That’s a huge advantage and we hear from one mortgage banker we work with a lot that the majority of the deals he’s doing lately in San Francisco are structured this way, and it’s becoming more common in Marin as well.
It’s an interesting twist and the way things are going in this super competitive market it could become the new normal for many buyers. Considering you could forfeit your deposit if you make an offer with no contingencies and for some reason are unable to get financing, it’s not an approach to be taken lightly, and you need to be fully aware of all the risks before considering it. But if you’re writing offers in this crazy market it’s important to know that it’s happening, whether or not it’s an approach that would make sense for you.