Post settlement occupancy agreements: A useful tool, but beware of potential pitfalls
A post settlement occupancy agreement allows a seller to continue to live in his home after settlement, under an arrangement where the seller is essentially renting the home back from the new purchaser.
This type of arrangement can be a life-saver for a seller who is purchasing another home but won’t be able to close on that purchase until a few days or weeks after he sells his current home. Joe wrote a very informative blog post about post settlement occupancy agreements and how they can be a solution to settlement timing issues.
I thought I would take a look at things from a different perspective and point out some potential pitfalls of such arrangements. In order to be protected, both purchasers and sellers need to prepare for the worst.
What do I mean by the worst? Imagine a case where a seller who is renting back catches the house on fire, and the house burns down to the ground. There are a lot of tricky issues in such a situation.
One thing we know for sure is that the purchaser now has no home to move into, which is obviously a problem, no matter how the liability issues get resolved.
In the normal case of a house fire, there is a homeowner’s insurance policy that would provide coverage. Here, presumably the purchaser obtained a homeowner’s policy with an effective date of the date of the settlement.
The GCAAR standard post settlement occupancy form states: "From the date of settlement the Buyer shall obtain and maintain insurance on the Property with the Buyer’s policy being primary in the event of other available insurance." (Form #1309, paragraph 6.)
The trouble is that despite this provision, the purchaser’s insurance company might have a different opinion.
For example, it is possible that the purchaser’s insurance would not cover the fire, under an exclusion based on the fact that the policy holder was not living in the property at the time of the fire?
Even if the purchaser thought ahead and got coverage for someone renting property, the typical post settlement occupancy agreement will say that the arrangement is not a landlord/tenant relationship, which might cause complications for insurance coverage.
For example, the GCAAR form states, "Nothing in this Agreement shall constitute a Landlord/Tenant relationship between Buyer and Seller." (Form #1309, paragraph 8.)
It also may be that the seller continued his/her homeowner’s policy through the rent-back period, but it is possible that this insurance would not cover the fire damage, due to the fact that the seller no longer owned the home at the time of the fire. The seller may have also gotten renter’s insurance for the rent-back period (the GCAAR form requires it), but typically that will cover only belongings, not damage to the house itself.
Even something less extreme than a whole house burning down can pose some tricky questions in a post settlement occupancy situation.
The buyer now owns the house, along with the appliances, HVAC, etc. If the seller negligently breaks the door off of the refrigerator during the rent-back period, one would think that the seller should be held responsible, and, normally, that would be the case, at least under the GCAAR standard form, which provides for a deposit by the seller to be applied to any damages to the property caused by the seller in excess of ordinary wear and tear. (Form #1309, paragraph 2.)
But what if the refrigerator simply stops working 2 weeks after the closing, during the rent-back period? Whose responsibility would that be?
Since the refrigerator is now the buyer’s, generally one might think the buyer would be responsible, but paragraph 3 of the GCAAR form provides that the seller is to deliver the property (i.e., deliver it at the end of the rent-back period) in the condition specified in the sales contract. The sales contract provides that the condition of the property at delivery is to be in substantially the same condition as of the date of the contract, the home inspection or some other date to be specified. If the refrigerator was working at the specified date, then the seller is responsible if it is not working at the end of the rent-back.
The bottom line is that both buyers and sellers should carefully review any post settlement occupancy agreement to see what the agreement provides concerning liability for issues that arise during the rent-back period and concerning the responsibility for obtaining insurance.
They then should make any revisions to that agreement that are necessary to protect their interests, in consultation with an attorney, if possible. They should also contact their insurance agent to discuss insurance coverage for the rent-back period.
One other thing that a buyer should do before agreeing to allow the seller to rent back after closing is to check with his lender to see whether the lender will permit it.
Typically lenders will allow a short rent back. For anything longer, the buyer could be in violation of the covenant in the loan documents that states that the property will be owner-occupied.
If the seller is paying a security deposit and/or "rent" at closing, these numbers will appear on the closing statement, which the lender needs to review and sign off on.
You don’t want the lender learning about the rent-back for the first time when they receive the draft closing statement from the title company and see those numbers.