What Does Under Contract Mean in Real Estate?
What Does 'Under Contract' Mean in Real Estate?
You've decided to buy a home, and whether it's your first home or your tenth, you're likely to stumble across homes that are listed as 'under contract' on the real estate listing.
Homes under contract in real estate mean there is a contract on the house, and it is pending sale, OR the home is listed as a contingent real estate listing; you'll see this with homes in Raleigh; it could also mean the property is 'active under contract' as you'll see on Charlotte homes - All have slight differences in their meaning.
At some point during the house-hunting process, you've undoubtedly stumbled upon a listing that, at first glance, seems too good to be true. The photos look amazing. The house meets every last one of your specifications. The school district is excellent, the neighborhood has a lot to offer, and the location is perfect.
Then, you look at the status, and that other shoe finally has a chance to drop: it's "under contract." This is never a great feeling though there is likely a better home waiting for you that you have not come across or is possibly not even listed for sale yet!
As you search for that home of your dreams on various real estate websites, you'll likely encounter various statuses depending on the listing. "Under contract" is one of them, which is exactly what it sounds like: a prospective seller and a buyer have entered into a process where they've agreed to not only the terms of the contract but other important factors like the sale price, the closing date, contingencies and more.
Many things take place once you go under contract on a home.
But what does "under contract" actually mean in a more profound sense, and how will it impact your ability to put in an offer on this particular property? To get answers to those questions, you must first understand how the sales and closing process works.
Let's Break it Down: What Does Under Contract Mean?
When a buyer makes an offer on a prospective house, they typically work directly with their own real estate agent to come up with a reasonable offer and present their preapproval letter showing they are capable of purchasing the home. The agent will create an "offer letter" or "offer to purchase and contract" to send to the seller's agent. There are many things buyers need when buying a house, and anything can go wrong during the purchase process, though 'under contract' all starts with the seller's acceptance of the buyer's offer.
This letter will detail a few key things, including price, which is the most crucial element in any financial transaction as large as this one. If it's currently a buyer's market, the buyer usually submits an offer below the asking price to see if it gets accepted. If it's a seller's market, they may present one higher than the asking price, as the chances that the property has seen multiple offers are high.
This offer letter will also discuss closing costs, which can get complicated depending on the circumstances. Generally speaking, buyers are expected to pay roughly 5% of the full value of the mortgage on things like closing fees and other related services. Sellers typically pay between 6% and 10% of the final sale amount on closing costs, including commissions to their real estate agents.
If it's a seller's market, this is when a buyer may offer to pay for part of the seller's closing costs to make their pitch stand out. If it's a buyer's market, the seller could do the same thing to get their property off the market as quickly as possible.
At this point in the offer letter, a buyer will also include what is referred to as "earnest money," which is just a good faith deposit to let the seller know how serious they are. Overall, it's a good idea to put between 1% and 3% of the final purchase price in earnest money - mainly if the home in question is in a high-value area. Again, it's about making your offer stand out in a crowd and getting someone to seriously consider what you have to say.
Finally, an offer letter will include any contingencies that need to be met BEFORE a home can be sold. So while the house may be under contract, it's still not 'sold,' which means it could come back to the market. In essence, these are opportunities for a buyer to back out of a contract if any of these contingencies fail to be met.
Just a few of the most common forms of contingencies found in real estate include but are not limited to ones like:
- Financial contingencies usually show a seller that a buyer has been pre-approved for the appropriate financing. If, for some reason, the buyer cannot get approved for the desired type of mortgage, their offer can be canceled without any actual penalty.
- Appraisal contingencies demand that the property must be appraised for at least the purchase price, but ideally higher. If the appraisal comes in lower than that amount, the seller can either lower their cost or cancel the offer without penalty.
- Inspection contingencies require a professional home inspector to go over the property with a fine-toothed comb so the buyer can get an idea of any repairs they may be looking at. Depending on what that inspector finds, the buyer can either have the seller take care of specific high ticket issues, can negotiate on the price to make up for the costs, or cancel the contract.
- Sales contingencies are pretty standard. This means buyers will only purchase this new home if they can sell their current one. It's not unusual for specific real estate contracts to be contingent on selling two, three, or even more homes.
Once that offer letter has been submitted, there will typically be some back and forth between the buyer and seller agents over things like price and contingencies. At this point, one of two things will happen: the seller will either reject the offer or negotiate with the buyer to the point where the offer has been accepted.
As soon as that happens, the home will officially be listed as "under contract" on sites like Zillow and Redfin.
Moving Forward With a New Home Purchase
The reason why it was essential to understand all of that is to say that just because a home is "under contract" doesn't necessarily mean that the transaction is a done deal.
According to one recent study conducted by the National Association of Realtors, roughly 8% of all real estate contracts are terminated before they ever have a chance to reach their closing date. Note that this is a significant increase from the average of 4% we've seen over the last few years. Yes, part of this has to do with the current economic uncertainty caused by the ongoing COVID-19 pandemic, but the point stands - just because a house is listed as "under contract" does not mean that it's off the market just yet.
For example, let's say that a particular house under contract is contingent on not one but three different sales. The prospective buyer needs to be able to sell their current home. The seller has offered their own new property, and THAT transaction is contingent on selling yet another property. If any of those transactions fall through for whatever reason, the contract you have your eye on is officially terminated, and that house goes back on the market in full force.
Or let's say that a professional home inspector has had a chance to look over the property and find something the prospective buyer isn't too thrilled about. After a back-and-forth negotiation with the seller, they're either unwilling to make the repairs themselves or forced to budge on the property's asking price. At that point, the buyer is free to back out of the contract (and very likely will) - putting the house back on the market again.
This is a big part of why homes usually sit in the "under contract" stage for several weeks before the closing date arrives. During this time, the property will go through home inspections, appraisals, land surveys, deed and title checks, and much more. At any point during this time, a buyer can cancel a contract if any problem arises without incurring a financial penalty - though they will have to forfeit the due diligence fee that they already paid to the seller in the state of North Carolina.
If all of those contingencies have been met and no unexpected issues crop up, the closing day may eventually arrive. Everything went fine with the appraisal and inspection, and both parties are equally enthusiastic about the deal as they were when this process started. All that is left is for a buyer to sign the appropriate closing documents, pay any remaining fees, and enjoy the home of their dreams.
This part of the process is when a home will be listed as "pending" on real estate websites. That status means that all required conditions have been met, and the contract is in the process of being executed. It's much less common for a transaction to fall through at this process stage, to the point where some real estate agents may not even be willing to entertain additional offers while pending. But at the same time, nothing legally prohibits you from making an offer during the pending phase. The worst someone can say is "no," While it's rare for a contract to get canceled here, it does happen.
But until that happens, you shouldn't consider yourself "out" just yet.
If you love a home under contract, remember that there is always a chance that something can go wrong, as outlined above. At the bare minimum, you should submit a backup offer through your real estate agent that essentially says that you're "next in line" should the deal fail to go through for whatever reason.
Of course, there is a high probability that many other people have had this same idea, so you should try to make your backup offer as attractive as possible. If nothing else, take it every bit as seriously as you would if the house were not under contract at all - mainly if it is again in a high-value area.
Final Thoughts on What Under Contract Means in Real Estate
There are few things more disappointing than finding a home you love only to quickly find that it is listed as being under contract. But again, all hope is not lost because there is still a wide range of things that can "go wrong" in your favor.
The buyer must secure financing, which isn't always a foregone conclusion. The home inspection needs to be completed, giving the buyer every opportunity to back out of a contract if something is found that they're uncomfortable with. No, you're not necessarily going to find out what that is - but you'll have a chance to do a home inspection, should your backup offer be accepted.
The point is that if either party in a transaction fails to meet one of the laundry lists of contingencies and conditions, that contract is terminated, and the house is back out on the market. That's why you shouldn't give up hope - in an industry as fast-paced and inherently complicated as real estate, you never know what might happen.
If you find a home under a contract, let us know! We are likely to be able to find you one like it or better. Feel free to connect with any of our Realtors in Raleigh to help you find a great home!