When buyer’s changed financial status scuttles settlement

In 2011, in response to a tightened mortgage market, the Pennsylvania Association of Realtors® (PAR) added a new paragraph to the standard agreement (ASR) that requires a buyer to notify a seller in the event of change in the buyer’s financial status that affects his ability to purchase. The last thing a seller needs is for a buyer to lose a mortgage commitment because the buyer decided to buy a tricked-out bass boat (financed, of course).

The provision is found at Paragraph 9 and states:

In the event of a change in Buyer’s financial status affecting Buyer’s ability to purchase, Buyer shall promptly notify Seller and lender(s) to whom Buyer submitted mortgage application, if any, a change in financial status includes, but is not limited to, loss or a change in employment; failure or loss of sale of Buyer’s home; Buyer’s having incurred a new financial obligation; entry of a judgment against Buyer. Buyer understands that applying for and/or incurring an additional financial obligation may affect Buyer’s ability to purchase.

So what does this clause mean for the buyer who decides to finance that extravagant boat purchase?  If the buyer’s real estate contract is subject to financing and, because of the boat purchase, the buyer is not able to obtain a mortgage, has he defaulted?

While Paragraph 9 mandates that the buyer inform the seller of the purchase, it does not expressly provide the seller with a right of termination or a right to keep the buyer’s deposit if the change in financial status causes the buyer to lose his mortgage.

That this paragraph does not specifically provide remedies is not an oversight by the Standard Forms Committee. We might all agree that a buyer’s frivolous foray in to the marine world (I am talking about the boat purchase now) should not penalize the seller.  If the mortgage is denied, the buyer should be subject to a loss of deposit or damages. We might also agree that a buyer who is struck down by a drunk driver and who suffers devastating financial consequences in addition to the loss of a mortgage commitment should not be penalized. But there are untold possibilities that lie between these extremes, and for any standard form to dictate the consequences would be a daunting task.

After much debate, the Standard Forms Committee settled on the language of Paragraph 9 requiring the buyer simply to notify the seller of changes in buyer’s financial status. At least the seller is provided with information upon which he can seek to protect his interests. The following example is provided by one of the members of the committee. The buyer lost her job but failed to tell anyone, including the seller, her agent and the mortgage company who had provided the commitment. She was hoping the “lender would not notice,” believing that she could still get a mortgage. You undoubtedly know the rest of the story. When the lender called for a last minute verification of employment and discovered the job loss, the commitment was pulled.

The buyer’s failure to notify the seller put her in default and will likely lead to the loss of her deposit. Had the seller learned of the job loss earlier, he could have stopped his packing and placed the property back on the market.

Paragraph 9 does not expressly provide that a change in financial conditions constitutes a breach, but there is room to argue that such a volitional change might. Pennsylvania common law imposes a good-faith obligation on buyers who purchase real property subject to a mortgage contingency.  The obligation is to make every reasonable effort to obtain that mortgage. This clause provides an opportunity for the selling agent to review with the buyers their obligations and to remind buyers that a change in financial circumstances might prevent them from buying the property.