Short Sale Seller Beware – Court Holds Lender Approval is Not an Essential Element of Contract

On June 21, 2012, in the case of Cullinane v. Estate of Holly Vene, unpublished, the Michigan Court of Appeals addressed a case where a buyer sued the estate of a seller for specific performance on a short sale when the estate refused to close.  The majority of the court’s opinion dealt with the seller’s legal capacity to enter into a binding contract.  However, there was additional language that could severely limit the rights of sellers to back out of short sale contracts.

It is common practice in many areas for agents to simply add the language “subject to lienholder approval” on a short sale purchase contract.  While this language would protect a seller in the case where a lienholder did not approve the short sale, the Michigan courts now call into question whether this condition is material at all. 

In Cullinane, the court held that the term “subject to lienholder approval” was not an essential element to the contract. Therefore, the prospective buyer had the right to sue for specific performance even though there was no evidence that the lienholders had approved the short sale.   Therefore, even though the Estate attempted to back out of the contract, it was not allowed to do so. 

The best practice for agents is to include specific language that allows the seller to cancel the contract unless the lender’s approval is satisfactory to seller – in seller’s sole discretion – that seller can refuse to close under the contract. If the shorthand language is used, a lender can approve a short sale under whatever terms it wants, and the seller may not be able to cancel the contract.  Proper representation of sellers requires an agent to inform her client of that fact.  Careful drafting of contracts is essential to protect both yourself and your clients.