When purchasing your first home, dream home or rental property, you'll have to sign a lot of paperwork. Understanding what you're signing is essential. A purchase and sale agreement is a crucial document that is a legally binding contract between buyer and seller, which you'll sign when the seller accepts your offer. Read on to understand the key elements of a purchase and sale agreement you'll commonly see and why they're important.
Understanding Purchase and Sale Agreements (PSAs)
A purchase sale and agreement (PSA) is signed after the buyer has submitted an offer and the seller accepts it. When the buyer and seller agree on the price and set the terms and contingencies of a real estate sale, the first document signed is the PSA. Sometimes, PSAs are also called sale and purchase agreements and abbreviated SPAs.
State laws vary on PSAs. In some states, a real estate agent will prepare the PSA, while other states require a real estate attorney to prepare it. The document outlines the purchase price, earnest money, closing date, title company, escrow company, title insurance, warranties, contingencies and other details necessary for the real estate transaction.
Signing a purchase and sale agreement sets the real estate transaction in motion. The next step is depositing the earnest money when signing the PSA. Then, it's time to start organizing inspections and appraisals and preparing to close.
While a purchase and sale agreement sounds similar to a purchase agreement, they are two distinct legal documents with different purposes. This agreement doesn't close the real estate transaction or finalize the sale. Instead, it's signed to initiate the real estate transaction.
At that point, with the deposit of the earnest money, the seller takes the home off the market. The buyer and seller still must meet all contingencies before finalizing the sale. A purchase agreement, in contrast, is signed at closing. It finalizes the real estate transaction and the home changes ownership.
Why Do You Need a Purchase and Sale Agreement?
A purchase sale and agreement is essential in real estate transactions. It outlines both parties' intentions and agreement on price and closing date and all other terms governing the transaction. In the purchase and sale agreement, you can include contingencies and specific terms for the property or delivery. You'll also want to include information on the title company, title insurance, warranties, penalties, dispute resolution and details about the earnest money.
This contract protects both the buyer and the seller to ensure a smooth and fair transaction according to the agreed-upon terms.
What Are the Elements Included in a Purchase and Sale Agreement?
There are many common elements included in a purchase and sale agreement. Familiarizing yourself with these terms can make understanding a purchase and sale agreement easier. Here's what you can expect to see.
1. Identity of the Parties
This will include the full legal name and address of each party, along with a government-issued ID number such as a passport, driver's license or state-issued ID card. This is essential to make the purchase and sale agreement valid.
2. Description of the Property or Products
The property description will draw on information from the title. It will include the address, property size and other identifying details, such as the land or home bedrooms and bathrooms, plus any outbuildings. Correctly identifying the property is important to ensure a valid transaction and sale.
3. Purchase Price
Including the agreed-upon purchase price in the purchase and sale agreement ensures that both parties agree on the price and there's no misunderstanding on terms.
4. Earnest Money Details
Earnest money demonstrates to the seller that the buyer is serious and protects the seller if the buyer backs out of the transaction for no reason. In the purchase and sale agreement, you'll typically include the earnest money amount and where it is deposited in escrow, such as with an escrow company.
5. Closing Date
The closing date provides a deadline for all other contingencies, including inspections, title searches and mortgage underwriting approvals. As all these steps must be completed by the closing date, it’s essential to a purchase sale and agreement.
6. Title Insurance Company Details
A PSA also includes the name, address and registration details of the title company you're using. The title company typically holds the earnest money in escrow and will perform the title search. In some states, you will also go to the title insurance company to close on the home.
7. Title Condition
The title condition states whether the property title has any liens or encumbrances. It also notes who will pay for the title policy, information on title insurance and how the title will be conveyed to the new owner. It will usually include information essential for purchase, like how the house title is transferred, which is why it's included in a PSA.
8. Escrow Company
If different from the title insurance company, the escrow company is also listed in the PSA. Unless the PSA specifies a different escrow agent, the title insurance company will usually fulfill this role. APSA may have a separate section for escrow that states the name of the escrow agent, who pays the escrow agent fees and other details related to the escrow.
9. Warranties
A purchase and sale agreement will also outline what insurance requirements should cover the home through the sale, what warranties will continue to exist and certify the exclusivity of the asset being sold. In real estate transactions, this may be a general warranty deed included as an addendum to the purchase and sale agreement, which is the seller's guarantee that the home’s title is free and clear and that the buyer will have no future title issues.
10. Contingencies
Contingencies are one of the most important aspects of a purchase and sale agreement they protect both the buyer's and seller's interests. These state why the buyer or seller can legally withdraw from the transaction without losing money. Common contingencies include:
- Mortgage contingency
- Title contingency
- Home inspection contingency
- Sale of a prior home contingency
- Appraisal contingency
- Homeowners insurance contingency
11. Penalty
A penalty clause in a purchase and sale agreement requires the counterparty responsible for breaching the contract to pay a large sum of money or meet other criteria. Most commonly, if a buyer breaches the this agreement, they will lose their earnest money.
12. Dispute Resolution
A dispute resolution clause is common in a purchase and sale agreement. Often, it will state the jurisdiction in which any disputes will be resolved, usually the courts of the state where the transaction will occur. It may also include a clause that the parties must first attempt to resolve any dispute through alternative dispute resolution, such as mediation or negotiations.
13. Addendum
Addendums, or riders, are additional documents added to a standard PSA. The buyer can include requests to the seller as addendums to speed up the sale. Or, the buyer may require a specific inspection, such as a chimney, pool or septic inspection. Many addendums are optional, but some are required by law. Your real estate agent or real estate attorney can guide you on necessary addendums and possible additional addendums to consider.
Final Tips on a Purchase and Sale Agreement
A purchase and sale agreement protects your interests when making one of the biggest purchases of your life. It's important to work with a trusted, experienced real estate agent or real estate attorney to ensure the contingencies and addendums protect your interests. Ready for the next steps? Learn how to buy a rental property with no money or how to buy a house in cash here.
Frequently Asked Questions
Are purchase and sale agreements legally binding?
Yes, purchase and sale agreements are legally binding according to the terms stated in the agreement.
Can I modify the purchase and sale agreement after it's been signed?
Once a purchase and sale agreement is signed, it’s legally binding. Both parties must agree and sign an amendment or extension to change or modify it.
Do I need a lawyer to draft a purchase and sale agreement?
Whether you need a lawyer to draft a purchase and sale agreement depends on the state where you reside. In some states, you need a real estate attorney, while in other states, a real estate agent can draft a PSA.
About Alison Plaut
Alison Plaut is a personal finance and investing writer with a sustainable MBA, passionate about helping people learn more about wealth building and responsible debt for financial freedom. She has more than 17 years of writing experience, focused on real estate and mortgages, business, personal finance, and investing. Her work has been published in The Motley Fool, MoneyLion, and she regularly contributes to Benzinga.