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What is a contingency clause?

You’re thinking of buying a new property and wondering exactly how you need to draw up the contract. A business partner mentions the need for contingency clauses. What are these and why would you want to use them?

These clauses essentially protect you during the purchase. They give you an option to get out of the deal if certain conditions — those laid out in the clause — are not met. It gives you “right to back out of the contract under specified circumstances.”

For instance, one of the most common contingency clauses states that the home or retail property has to pass the inspection before purchase. This gives you the freedom to make an offer, starting a contractual relationship, without worrying that the building will fail the inspection and you’ll be forced to buy it anyway. Despite your prior agreement, you can walk away without penalty if that happens.

Another common contingency is that, if you need a loan to buy the property, you have to get approved for it or you don’t have to go through with the purchase. You are not forced into unaffordable debt simply because you made an offer — perhaps after getting a pre-approval notice — only to find out that you got denied for the loan. Again, you can walk away from the deal.

A properly drafted contract will use contingency clauses to protect both you and the seller. They help the whole process go smoothly. Make sure you understand exactly what the contract says, what it means for the deal and what you can do to put yourself in the best possible position.