What to Know About Due Diligence in Real Estate
There are a lot of terms you have to be aware of in real estate, and it can be a bit of a complex process to navigate buying a home. One term you may hear is due diligence and due diligence money. Due diligence isn’t a term exclusive to real estate, however.
In the general sense, it means that you do your research so that you’re well-informed, especially before making a big purchase. Due diligence in real estate can be like doing your homework.
If you’re buying a house, you want to learn more about the area surrounding it, the school district, the home’s history, the distance to any shopping areas, and of course, the terms of your particular mortgage loan.
When you research a home, you learn about the situation you’re getting into. For example, you don’t want to assume you’re buying a home that’s move-in ready and then have a big repair or renovation on your hands.
When you’re under contract on a house, there is typically a period of due diligence that’s usually a particular time frame. It can be until closing, depending on your state.
During the due diligence period, it’s up to you to learn what’s important about the house and the neighborhood. If any surprises come up during the due diligence period, you should have the option to cancel the contract.
Due Diligence During Your Home Search
Your entire home search is unofficially due diligence. When you’re looking for a house, you’ll take steps to make sure you’re informed throughout the search. You’ll typically want to work with a real estate agent who is willing to listen to you and knows what you need.
Before you ever submit an offer on a home, you want to learn everything you can about the current housing market where you’re searching.
Your real estate agent can especially help you in this area. They can point out current property values, the average list price, and home sale trends.
From there, you might start to narrow down neighborhoods.
During the pre-offer due diligence period, you’ll compare mortgage loans and lenders, and you’ll think about what you’ll need to do to insure the home.
Once you’re ready, you make a competitive offer.
Due Diligence Before You Close
The steps of due diligence required before you close include a home inspection and appraisal, which you’ll want to request as a buyer. You might also need to request a land survey review.
These are three things that can help you make sure there aren’t any surprises.
You might also want to talk to your real estate agent about a home warranty.
If you have contingencies in your contract, you can back out of your transaction. Most sellers, however, won’t let you back out after you make an offer if you don’t have a good reason.
The official period for due diligence starts when a seller accepts your offer and you both sign the sale contract. That’s when you’re under contract.
From the seller’s perspective, the due diligence period is risky for them. If they accept your offer, they legally can’t show the home to anyone else. Then, if you get to the end of a 30-day due diligence period and a buyer decides they don’t want the house, it goes back on the market. The issue is that the longer a house is on the market, the less desirable it’ll seem. The seller loses a month they could have used to show their home to other buyers.
That’s why a due diligence fee may be helpful.
A due diligence fee makes it worth the seller’s time to accept your offer and take on the risk of removing their home from the market during your due diligence period.
You don’t usually have to pay a due diligence fee, but it’s a way to improve your deal and increase the chances of it being accepted. If you end up buying the house, the fee is credited to the money you need to close. If you don’t buy the house, the seller gets to keep your due diligence money as compensation for the time they lost.
If you cancel a sales contract, your due diligence fees aren’t refundable. A seller only refunds due diligence money if they back out of the sale.
Real estate laws vary significantly between states, so due diligence fees may not be needed or even allowed in all markets. If you are in a place that allows for them and it’s a competitive market, it might be something to consider.
Finally, earnest money isn’t the same as due diligence money. Earnest money is telling the seller that as a buyer, you’re operating in good faith and that you’re not going to be in breach of contract. If you pay earnest money and breach a contract, then the seller gets the keep the money. Unlike due diligence money, earnest money can be refunded if you back out of a sale unless your contract specifically says otherwise.