What is the due diligence period?
If you're a first-time homebuyer, you're likely to come across many terms and phrases that you haven't heard of before. Ensuring you understand the different terms is an important part of the homebuying process.
The due diligence period is the period between the seller accepting an offer and the transaction is completed. This article outlines what the due diligence period is in more detail and offers some tips to help you navigate the process.
What is the due diligence period?
The due diligence period refers to the time after signing a contract and before the money and property change hands. After the seller accepts an offer, there are still a few things that need to be done. This time period gives both parties time to get their affairs in order.
During this time, the buyer needs to finalize their financing and confirm that all is as expected with the property before they commit to buying it. This is when they’ll get an appraisal, inspection, and anything else their lenders need to finance the deal. If there are issues, the buyers and sellers maybe need to renegotiate the terms of the contract.
This time period is designed to allow buyers to make sure they are happy with their decision before they fully commit to purchasing the home. However, the vast majority of offers end up closing - with only about 2-5% of agreements falling through.
What happens during the due diligence period?
There are many important steps that the buyers should take during the due diligence period. Here is what you should do after getting an offer accepted.
1. Market research
Many first-time buyers view just a few properties before putting in an offer. It's wise to get to know the area you're considering and compare the property with a range of options. One way to do this is by driving around the neighborhood and looking at other houses in the area - their upkeep, the type of people who live there, the facilities, etc.
Talking to residents is also a great way to understand whether home values are going up or down. It might also be a good idea to check traffic conditions and crime rates in the area. These factors can significantly influence which areas you’d like to live in.
Most of the time, buyers have already looked at the area before making an offer - but this gives you the opportunity to make sure you’ve made the right decision.
2. Home inspection
Getting a home inspection is a must when buying a home. During the inspection, an inspector will assess the home's overall condition and its essential structures and systems. This helps you understand the condition of the property, and learn about any necessary repairs that need to be done.
A house rarely passes an inspection with zero issues - but that doesn’t mean you shouldn’t buy it. The inspection lets you request repairs or a lower asking price before closing. While most issues are cosmetic, it’s a good idea to request repairs for the large and more expensive defects.
The goal is to protect yourself from overpaying for the house (by paying to repair damages that you didn’t cause). It's important to note that there are many things that home inspectors don't look at during the home inspection, so you should also consider getting additional checks if the inspector recommends it.
3. Finalizing funding
The diligence period is also a time to finalize your funding. (If you already have a pre-approval letter from a lender, this process is much easier). Lenders typically require that you get an appraisal on the home - and a homeowners insurance policy.
During this time, you’ll also need to send your downpayment and closing cost funds to an escrow account. This is also true for cash buyers, but you’ll be sending the entire purchase price to the account instead. Once the transaction is complete, the funds will be dispersed from escrow to the seller (after fees and commissions are deducted).
If you're financing a property, it’s a good idea to compare multiple interest rates and bids to learn which mortgage bankers or lenders offer the best deal. Currently, mortgage rates are near all-time lows, so if you are considering buying a property, it could be a good time.
4. Home appraisal
An appraisal determines the value of a property. If you're planning on taking out a mortgage, lenders will require an appraisal report to ensure the property is worth what you are paying. This is because the property is used as collateral for the mortgage that you take out - so they won’t lend out more than the property is worth.
In a competitive market like today, it is possible that the sale price is higher than the appraised value. The lender will still lend on the property, but the buyer will need to pay the difference out of pocket. It is worth noting that amount extra you pay wouldn’t be considered equity, because you are paying more than it is worth on paper.
An appraiser looks at property size, location, improvements, overall condition, market value, and a variety of other factors to asses value. However, it is not like an inspection that tells you about defects of the house.
Getting insurance is in your best interest (and usually required by mortgage lenders). A property may be ineligible for insurance if it doesn't meet the minimum standards required by the insurance company. There are a variety of policy options -
Additionally, you should pick an insurance policy that works best for you, depending on your needs, the type of residence and assets being insured, and how much protection is required.
For example, if you’re buying a townhouse, some HOA’s cover the roof - which means you’ll only need to pay for ‘walls-in’ insurance (around a $100/month difference).
The most popular types of insurance include homeowner's insurance, dwelling insurance, and empty or vacant property insurance. Insurance is especially important because it impacts the amount lenders are willing to loan you. For example, some townhouses only need walls-in insurance, while others need full coverage (over $100 per month difference on average).
6. Title and ownership history
As part of the closing process, a title company generally conducts a title search on the property to identify outstanding liens and other issues that could complicate the transaction.
For example, if the previous owner had work done on the house but failed to pay the contractor, there may be a lien on to the property that must be paid before it can be sold.
Checking to make sure the current owners have a clean title and no issues is important for your ownership rights. If the title isn’t clean, you’ll want to consult a lawyer before proceeding.
7. Homeowners association
If you're buying a home in certain communities, there are often homeowner associations set in place. HOA's usually have strict requirements and restrictions enforced to protect the neighborhood's appearance and values. You’ll want to make sure you’re comfortable with the HOA before committing to living there.
Additionally, some HOA’s cover utilities such as snow and trash removal. This will impact your monthly expenses - so you’ll want to know what is or isn’t included.
How long is the due diligence period?
Buyers and sellers work together to agree on a defined due diligence period. While a 21-28 day period is typical, the deal can be completed within 15 days (or shorter) if a buyer decides to pay cash.
The buyers paying cash speeds up the process because the lending process usually takes the most time. The due diligence period can be extended if both parties agree, and it is written in the contract when an offer is made.
The due diligence period generally commences within 24 hours of the seller accepting your offer. The seller must disclose any necessary repairs or problems with the property. During the due diligence period, anything that fundamentally alters the buyer's wish to purchase the property qualifies as a reason to pull out of the deal without losing any amount on their deposit.
What happens once the due diligence period expires?
Depending on the agreed-upon duration of your due diligence period, you have many days to complete your evaluation of the property. Once the period ends, you'll lose some of your protection.
If you change your mind and try to back out of the deal after the due diligence period expires, you usually won't be able to recover your earnest money. You may also be subject to legal action by the seller to recover any money that they lose by you canceling the home purchase.
However, if both parties still want the sale to go through and can agree upon terms, you can likely extend the due diligence period.
Make the most of your due diligence period
The purpose of due diligence is to clarify contingencies and allow the seller to make sure that there aren’t any issues. It gives you time to make sure everything is as expected before you commit to buying a home.
We know there is a lot to be done during the due diligence period, but we’re here to help. Inspectify makes home inspections easy. With our platform, you can schedule an inspection with a highly qualified inspector in just a few clicks.
We even provide you with repair cost estimates, giving you data to back up your negotiations. Need an inspection? Schedule one today!
Still have any questions? Feel free to comment below or reach out to us, and we’d be more than happy to help!