Risk Passing on Exchange of Contracts
Risk Passing on Exchange of Contracts
Between Exchange and Completion (where the property is freehold):–
- It is generally the responsibility of the seller to take care of the property and to keep it insured against damage.
- The buyer also has a responsibility to insure the property from the exchange of contracts because of “Risk Passing”.
- There is no obligation on the seller to maintain buildings insurance once exchange has taken place. It is therefore very important that buildings insurance for the property is in place before you proceed to exchange contracts. Where the seller continues to insure the property, there will be “double insurance”.
Between Exchange and Completion (where the property is leasehold):-
- It is generally the responsibility of the Landlord, Managing Agent or Freeholder to keep the building insured against damage (you should ask to inspect the insurance documentation.).
The effect of Risk Passing
When contracts are exchanged, the risks of owning the property (whether it be freehold or leasehold) are transferred to the buyer unless the contract provides otherwise.
The effect of the “Risk Passing” is that if the property is damaged or destroyed between exchange and completion the buyer is still required to complete the purchase.
Consequences of being unable to complete / Breach of contract
Where there is no Mortgage:-
- If you fail to complete on the date of completion, you can be served with a ‘Notice to Complete’ which requires you to pay over the balance of the purchase price together with penalty interest as a result of your failure to complete on the agreed date. If you are unable to secure financing and comply with that Notice within the time given, the Seller can rescind the Contract and you will lose the deposit (this is always 10% of the purchase price even if you have paid a lower deposit).
- You could also face a further claim for compensation from the seller and if you are one of a number of purchasers in a chain of transactions and you have prevented the rest of the chain of transactions from completing.
Where there is a Mortgage:-
- Some lenders may arrange for buildings insurance on your behalf from exchange or have their own set of requirements for the buildings insurance so that their interests may remain protected. Lenders also have the right to withdraw their mortgage offer at any time if there is a change in circumstances.
- However, if the property is damaged or destroyed, the lender will be informed or is likely to ask for the return of the mortgage funds or will cancel the mortgage offer immediately. This means you will not have the mortgage funds in order to complete. Without mortgage funds you will be in breach of contract, unless you have your own funds, which may be unlikely.
Making an Insurance Claim to reinstate the property
You need to establish whether the buildings insurance you obtain will cover the cost of rebuilding the property should it be destroyed between exchange of contracts and completion. If there is existing buildings insurance in place, you must read through the documents provided to ensure that you will be covered should the above occur. It may be that you are covered, but the insurance-payout will not be immediate and may only done in instalments as the property is rebuilt.
Resolving the Issue
In some circumstances it may be preferable for risk to pass on completion rather than exchange of contracts (for example, where you want completion to take place on a date in the distant future). If this is the case, you need to discuss matters with us on the best way to proceed.
As “Risk Passes” on exchange of contracts, if your transaction forms part of a chain of transactions, it is much more difficult to argue for Risk Passing at a different date. This is because the contracts within the chain will have been on the basis of “Risk Passing”.
Where there is a relatively long period between exchange and completion, we would recommend that the contract be amended to that the Risk does not Pass until completion.
By Fatma Mehmet and Annika Tolmay 20/3/24.