California Real Estate Chapter 12

Seller's Impound Account

As was mentioned earlier, the seller often has reserves or impounds on deposit with the lender to cover certain expenses connected with the property. These expenses, sometimes referred to as the recurring costs, include: property taxes and insurance, and in some cases assessments, homeowners or condominium association fees, or other periodic charges. (The principal and interest payments on the mortgage aren't considered part of the recurring costs, however.) During the loan term, the lender may require the borrower to make regular payments toward the recurring costs, and these payments are kept in an impound account (also called a reserve account or an escrow account). The lender uses the funds in the impound account to pay the taxes, insurance, and other charges when they come due. When the seller's loan is paid off, the unused balance in the impound account is refunded to the seller. It appears as a credit on the seller's side of the settlement statement. If the buyer is assuming the loan and the impound account, the reserves would appear as a credit for the seller and a debit for the buyer. When the borrower sells the property, there may be some money left over in the reserve account that the lender is required to refund to the borrower/seller. This sum will show up on the settlement statement as a credit for the seller. If the buyer assumes the seller's loan, he may also assume the reserve account. In that case, the reserve balance will be a debit on the buyer's side of the settlement statement, as well as a credit for the seller.

11. A settlement statement: A. is given to the buyer but not the seller B. sets out the charges to be paid by each party C. is given only to the buyer's lender D. is required only in transactions closed by independent escrow companies

B. sets out the charges to be paid by each party

RESPA prohibitions

The Real Estate Settlement Procedures Act prohibits lenders and other settlement service providers from paying or accepting referral fees. They also may not pay or accept unearned fees. In addition, the law prohibits lenders from requiring excessive reserve deposits, and prohibits sellers from requiring buyers to use a particular title company.

Prepaid Interest on Buyer's Loan

"Another expense the escrow agent prorates (one that doesn't concern the seller) is the interest on the buyer's new mortgage loan. As a general rule, the first payment date of a new loan isn't the first day of the month immediately following closing, but rather the first day of the next month after that. Ex. The buyer is financing the purchase with a new institutional loan. Closing takes place on January 23. The buyer isn't required to make a payment on the new loan on February 1. Instead, the first payment isn't due until March 1. Even though the first payment isn't due for an extra month, interest begins accruing on the loan on the closing date. The first regular payment will cover the interest for the preceding month. So if the transaction closes on January 23, the first payment will be due on March 1, and that payment will cover the interest that accrued in February. However, it won't cover the interest accrued between January 23 and January 31. Instead, the lender requires the buyer to pay the interest for those nine days in January at closing. This is called prepaid interest or interim interest. It will appear as a debit for the buyer on the settlement statement. Ex. The buyer is borrowing $430,000 at 7% interest to finance the purchase. The annual interest on the loan during the first year will be $30,100 ($430,000 × 7% = $30,100). The escrow agent divides that annual figure by 365 to determine the per diem interest rate. $30,100 ÷ 365 = $82.47 per diem There are nine days between the closing date (January 23) and the first day of the following month, so the lender will expect the buyer to prepay nine days' worth of interest at closing. $82.47 × 9 days = $742.23 prepaid interest The escrow agent will enter $742.23 as a debit for the buyer on the settlement statement.

Escrow agent

(Closing agent) An escrow agent is a neutral third party who holds money and documents in trust and carries out the closing process. A neutral third party who holds money and documents in trust and carries out the closing process. The escrow agent is a dual agent, representing both the buyer and the seller, with fiduciary duties to both parties An escrow agent is a dual agent, until the escrow instructions have been fully executed. So when a real estate broker provides escrow services, he is representing the buyer as well as the seller. That's true even if the broker was acting only as the seller's agent when negotiating the sale. Once the escrow closes, the escrow agent becomes a separate agent for each principal. It is important for a real estate agent to be familiar with escrow procedures, in order to guide the parties efficiently through the closing process. It's important to remember that the escrow agent is representing the principals (the buyer and the seller), not the real estate agent or anyone else. Escrow instructions may be changed only with the mutual written consent of the buyer and the seller.

Settlement statement

(Closing statement) A statement that sets forth all of the financial aspects of a real estate transaction in detail and indicates how much cash each party will be required to pay or will receive at closing.

Settlement Statements

(Closing statement) (HUD-1) During closing, the escrow officer prepares a statement that sets forth all the financial aspects of a real estate transaction in detail. The statement also indicates how much cash each party will be required to pay or will receive at closing. For each transaction, the escrow agent prepares a settlement statement. A settlement statement (also known as a closing statement) sets forth all of the financial aspects of the transaction in detail. It shows exactly how much the buyer will have to pay at closing, and exactly how much the seller will take away from closing.

Documentary Transfer Tax

(Excise tax) This is a tax imposed on every sale of real property in California. It's also called the excise tax. It's customarily paid by the seller, so it would usually be listed in the seller's debit column. The documentary transfer tax, also called the excise tax, is charged on every sale of real estate in California. The seller customarily pays the tax, so the escrow agent will treat it as a debit for the seller, unless specifically instructed to do otherwise.

FIRPTA

(Foreign Investment in Real Property Tax Act) The Foreign Investment in Real Property Tax Act requires 10% of the net sales proceeds to be withheld if the seller is not a U.S. citizen or resident alien. The Foreign Investment in Real Property Tax Act (FIRPTA) helps prevent foreign investors from evading their U.S. tax liability on income generated from the sale of real estate. It requires a property buyer to determine whether the seller is a "foreign person," defined as someone who is not a U.S. citizen and not a resident alien. If the seller is a foreign person, the buyer must withhold 10% of the sales price and forward that amount to the IRS. Payment must be made within 10 days after the transfer date. (In most cases, the escrow agent handles these requirements on behalf of the buyer.) Note that many residential transactions are exempt from FIRPTA. FIRPTA requires a property buyer to determine whether the seller is a U.S. citizen or resident alien. If not, then the buyer is required to withhold 10% of the sales price. (The escrow agent ordinarily takes care of this on the buyer's behalf.) The withheld funds must be sent to the IRS within ten days after the closing date. Note that many residential transactions are exempt from FIRPTA.

Uniform settlement statement - RESPA requirements

(HUD-1 form) In any transaction subject to RESPA, the escrow agent (or other closing agent) must itemize the parties' closing costs on a uniform settlement statement, also called a HUD-1 form. A copy of the completed settlement statement must be given to the borrower (the buyer), the seller, and the lender on or before the closing date. If the borrower waives the right to receive the settlement statement by closing, the statement must be provided to the parties as soon as practicable after closing. Upon request, the closing agent must allow the borrower to inspect the settlement statement at least one business day before closing. The settlement statement form that closing agents are required to use in transactions covered by RESPA The escrow agent (or other closing agent) must provide completed uniform settlement statement forms to the borrower, the seller, and the lender on or before the closing date. (The borrower may sign a written waiver of the right to receive the statement by closing, in which case the forms must be provided to the parties as soon as practicable after closing.) If the borrower requests it, the escrow agent must allow the borrower to inspect the statement one business day before closing. A copy of the uniform settlement statement form, often called a HUD-1 form. The uniform settlement statement is not in the same four-column format as the simplified statement we used earlier. But it presents the same information, and the first page of the form does have four main sections that correspond to the four columns. Buyer's debits: lines 101 through 120. Buyer's credits: lines 201 through 220. Seller's credits: lines 401 through 420. Seller's debits: lines 501 through 520. The amount of cash the buyer must bring to closing is shown on line 303, and the amount of cash the seller will receive is on line 603. It doesn't have the same format as the simplified settlement statement shown earlier in this chapter (with buyer's credit and debit columns and seller's credit and debit columns side by side), but it presents the same information. On the uniform settlement statement, each party's closing costs are itemized on the second page of the form, with the buyer's costs in the left column and the seller's costs in the right column. Each party's costs are added up, and the total is transferred to the first page of the form. The buyer's total costs are entered on line 103, and the seller's total costs are entered on line 502. On the first page of the uniform settlement statement, lines 101 through 120 correspond to the "Buyer's Debits" column on our simplified version. Lines 201 through 220 correspond to the "Buyer's Credits" column. Lines 401 through 420 are the equivalent of the "Seller's Credits" column, and 501 through 520 represent the "Seller's Debits" column. The amount of cash the buyer must bring to closing is shown on line 303, and the amount of cash the seller will receive at closing is shown on line 603. Closing agent must itemize all closing costs on uniform settlement statement. Notice that the rules concerning the uniform settlement statement apply to whoever handles closing. It doesn't matter if the closing agent is an independent escrow agent, an employee of the lender, a real estate broker, or a lawyer.

Prepaid interest

(Interim interest) "Interest on the buyer's new mortgage loan that the lender requires to be paid at closing, covering the period from the closing date through the last day of the month. Interest that accrued from closing to first payment due. Since first payment is Nov this will cover all of Oct but there are days in Sept if closed sept so from Sept 9-end of month Sept 31 it will be paid at closing "prepaid interest

Prorations

(Prorating an expense) An escrow agent will divide and allocate an expense proportionately, according to time, interest, or benefit, to determine what share of it a particular party is responsible for. There are, of course, various recurring expenses connected with ownership of real estate, including property taxes, hazard insurance premiums, rent, and mortgage interest payments. As a general rule, the seller is responsible for these expenses during his period of ownership, but not beyond. There are three main steps in prorating an expense: 1. Determine the daily rate of the expense (the per diem rate). 2 Determine the number of days for which one party is responsible for the expense. 3 Multiply that number of days by the per diem rate to determine that party's share of the expense. In preparing a settlement statement, the escrow agent checks to see whether the seller will be current, in arrears (late), or paid in advance with respect to these expenses on the closing date. The escrow agent then prorates the expenses, determining what portion the seller is responsible for. To prorate an expense is to divide and allocate it proportionately, according to time, interest, or benefit. If, in regard to a particular expense, the seller will be in arrears on the closing date, the amount that he owes is entered as a debit on the settlement statement. If the seller has paid in advance, he's entitled to a partial refund, which appears as a credit on the statement. If the expense is one that will continue after closing (as in the case of property taxes), the buyer is responsible for it once her period of ownership begins. That will show up on the buyer's side of the settlement statement as a credit (if the seller is in arrears) or as a debit (if the seller has paid in advance). The first step in prorating an expense is to divide it by the number of days it covers to determine the per diem (daily) rate. So an annual expense would be divided by 365 days (366 in a leap year); the per diem rate would be 1/365th of the annual amount. A monthly expense would be divided by the number of days in the month in question (28, 29, 30, or 31).* The next step is to determine the number of days during which a particular party is responsible for the expense. The final step is to multiply that number of days by the per diem rate, to arrive at the share of the expense that party is responsible for. Ex. suppose the homeowners association dues are $108.50 per month. The closing is taking place in August, which has 31 days $108.50 divided by 31 days comes to a per diem rate of $3.50. $108.50 ÷ 31 days = $3.50 Per Diem To simplify proration calculations, escrow agents sometimes divide annual expenses by 360 and monthly expenses by 30 (no matter how many days there actually are in the month). This provides a rough estimate of the per diem rate. Also, for purposes of the real estate license exam, you may need to base your proration calculations on a 360-day year and 30-day months.

RESPA

(Real Estate Settlement Procedures Act) The Real Estate Settlement Procedures Act is a federal law that requires lenders and closing agents to disclose information about closing costs to homebuyers. It applies to federally related loan transactions, a category that includes most residential transactions. A federal law, was passed in 1974. It affects how closing is handled in most residential transactions financed with institutional loans. The law has two main goals: -to provide borrowers with information about their closing costs, to help them become better shoppers for settlement services; and -to eliminate kickbacks and referral fees that unnecessarily increase the costs of settlement RESPA applies to most home loans made by institutional lenders. More specifically, it applies to any federally related loan transaction that is not exempt.

Impound account

(Reserve account) (Escrow account) A reserve account contains funds on deposit with a lender to pay property taxes and insurance premiums when due. A reserve account may also be called an impound account. Funds on deposit with a lender to pay the property taxes, insurance premiums, and other recurring costs when due. Also called a reserve account or an escrow account. During the loan term, the lender may require the borrower to make regular payments toward the recurring costs, and these payments are kept in an impound account. The lender uses the funds in the impound account to pay the taxes, insurance, and other charges when they come due.

Escrow Fee

(Settlement fee) (Closing fee) The escrow fee is the escrow agent's charge for her services. The buyer and the seller commonly agree to split the escrow fee; in that case, half the fee will appear in each party's debit column. Naturally, an escrow agent charges a fee for her services. The purchase agreement should specify who will pay the escrow fee; typically, the buyer and seller agree to split it. Then half the fee is entered as a debit for each party.

Closing

(Settlement) Closing (or settlement) is the final stage of a real estate transaction, in which documents are signed and delivered and funds are transferred. The final stage of a real estate transaction, in which documents are signed and delivered and funds are transferred. Finalizing a real estate transaction

Interim interest

**See Prepaid interest

Attorney's Fees

A buyer or seller who is represented by an attorney in the transaction is responsible for his own attorney's fees. On the settlement statement, the fees will show up as a debit for the appropriate party. In some transactions, the buyer or the seller is represented by a lawyer instead of, or in addition to, a real estate agent. Each party is responsible for his or her own attorney's fees. The escrow agent will enter the fees as a debit for the appropriate party.

Debit

A charge payable by a party, either to the other party or to a third party. A debit is a charge payable by a particular party; the purchase price is a debit for the buyer, for example, and the sales commission is a debit for the seller.

Credit

A charge payable to a party, either by the other party or by a third party Credits are items payable to a party; the buyer is credited for her new loan, and the seller for the purchase price.

Good faith estimate

A disclosure of closing costs that lenders and loan originators are required to give loan applicants within three days after receiving a written application, in transactions covered by the Real Estate Settlement Procedures Act (RESPA)

Assumption Fee

A lender charges an assumption fee when the buyer is assuming the seller's existing loan. The assumption fee is a debit for the buyer. If the buyer is assuming the seller's loan, the lender won't charge an origination fee, but is likely to charge an assumption fee instead. This is ordinarily a debit for the buyer.

Prepayment Penalty

A prepayment penalty is a charge the seller's lender may impose on the seller for paying the loan off before the end of its term. It would be a debit for the seller on the settlement statement. Some lenders charge a prepayment penalty if the borrower pays the loan off before payment is due. The penalty make up for some of the interest the lender expected from the loan but is not going to receive because of the early payoff. If the seller is going to be charged a prepayment penalty, the lender will specify the amount of the penalty in the beneficiary's statement. On the settlement statement, the escrow agent will enter this amount as a debit for the seller.

7. Which of the following is ordinarily one of the seller's closing costs? A. Sales commission B. Credit report fee C. Appraisal fee D. Origination fee

A. Sales commission

3. On a settlement statement, the purchase price will be listed as: A. a debit for the buyer B. a debit for the seller C. Both of the above D. Neither of the above

A. a debit for the buyer

15. For an additional $200, the seller has agreed to include her riding lawn mower in the real property transaction. In addition to the deed, the seller should sign a/an: A. bill of sale B. uniform settlement statement C. appraisal report D. voucher

A. bill of sale

1099-S Reporting

An escrow agent is required to report each sale of real property to the IRS using Form 1099-S. The IRS generally requires an escrow agent to report the gross proceeds from real property sales on Form 1099-S. The form is used to report the seller's name and social security number and the gross proceeds from the sale. However, the form doesn't have to be filed for the sale of a principal residence if: 1) the seller certifies in writing that none of the gain is taxable; and 2) the sale is for $250,000 or less ($500,000 or less for a married couple filing a joint return). The escrow agent has primary responsibility for 1099-S reporting. If the escrow agent fails to report the sale to the IRS, the mortgage lender is required to do so. If the mortgage lender also fails to report the sale, it becomes the real estate broker's responsibility to do so. The IRS imposes primary responsibility for 1099-S reporting on the person who is responsible for closing the transaction. That's usually the escrow agent. If neither the escrow agent nor the mortgage lender takes care of this, it is the responsibility of the seller's real estate broker. Form 1099-S is unnecessary for the sale of a principal residence if the seller certifies in writing that none of the gain is taxable, and the sale is for $250,000 or less ($500,000 for married couples filing jointly).

5. How does the buyer's good faith deposit show up on a settlement statement? A. It's listed as a debit on the buyer's side of the statement, and as a credit on the seller's side B. It's listed as a credit on the buyer's side of the statement, but it isn't listed on the seller's side because it's included in the purchase price C. It's listed as a credit on the seller's side of the statement, but it isn't listed on the buyer's side because it will be refunded at closing D. It's listed as a debit on both the buyer's side and the seller's side of the statement

B. It's listed as a credit on the buyer's side of the statement, but it isn't listed on the seller's side because it's included in the purchase price

8. Which of the following is ordinarily one of the buyer's closing costs? A. Sales commission B. Lender's title insurance premium C. Documentary transfer tax D. None of the above

B. Lender's title insurance premium

14. Under FIRPTA: A. a foreign investor can never buy or sell property without special authorization B. if a seller isn't a U.S. citizen or a resident alien, the escrow agent will have to deduct 10% of the net sale proceeds and send it to the IRS C. escrow agents must notify the real estate broker if the buyer is a foreign investor D. a foreign investor purchasing property in the U.S. must pay an additional 10% over and above the purchase price and submit it to the IRS

B. if a seller isn't a U.S. citizen or a resident alien, the escrow agent will have to deduct 10% of the net sale proceeds and send it to the IRS

12. When an item is prorated it means that: A. it's deleted from the cost of the sale B. it's calculated on the basis of a particular time period C. it isn't paid until closing D. the escrow agent must pay the fee

B. it's calculated on the basis of a particular time period

2. Every debit on the buyer's side of the settlement statement is a charge that: A. will be paid to the buyer at closing B. must be paid by the buyer at closing C. the buyer must pay to the seller at closing D. the seller must pay to the buyer at closing

B. must be paid by the buyer at closing

10. The Matsons are selling their home. They are current on their mortgage payments, having made their most recent payment on May 1. They will be paying off their mortgage when the sale closes on May 17. At closing, the Matsons will probably be: A. entitled to a refund of the mortgage interest accruing in May B. required to pay the mortgage interest accruing in May C. entitled to a refund of the prepayment penalty D. required to pay part of the mortgage interest that accrued in April

B. required to pay the mortgage interest accruing in May

6. When a buyer assumes a mortgage, how does the mortgage balance appear on the settlement statement? A. Only as a credit for the seller B. Only as a debit on the seller's side of the statement C. As a credit for the buyer and a debit for the seller D. As a credit for the seller and a debit for the buyer

C. As a credit for the buyer and a debit for the seller

1. Which of the following wouldn't be prorated at closing in the sale of a rental property? A. Prepaid property taxes B. Interest on seller's existing loan C. Security deposit D. Interest on buyer's new loan

C. Security deposit

California Withholding Law- Income tax aspects of closing

California law requires an escrow agent to withhold 3.33% of the total sales price for state income taxes in some transactions if the seller's address is outside the state or if the seller is a company or organization. California also has a state law that requires buyers to withhold funds for tax purposes in some transactions. To comply with this law, a buyer (or the escrow agent) must withhold 3.33% of the total sales price from the seller and send the funds to the Franchise Tax Board. For an individual seller, this requirement applies if the seller's last known address is outside of California (even if the seller is a U.S. citizen or resident alien). However, the transaction is exempt if the property sold was the seller's principal residence or last used as a principal residence, or if the sales price was $100,000 or less. If the seller is a company or organization rather than an individual, the withholding requirement may apply even if the seller has a California address, unless the seller qualifies for a specific exemption from the withholding law. Alternatively, the seller may choose to have a specified percentage of the gain on the sale withheld. (The percentage is the maximum tax rate that would apply.) For an individual seller, the state withholding requirement applies if the seller's last known address is outside of California (even if the seller is a U.S. citizen). However, the transaction is exempt if the property sold was the seller's principal residence or last used as a principal residence, or if the sales price was $100,000 or less. If the seller is a company or organization rather than an individual, the withholding requirement may apply even if the seller has a California address, unless the seller qualifies for a specific exemption from the withholding law.

Unearned fees

Charges for settlement services that weren't actually provided

Interpleader

Claimant can file for interpleader, asking judge to decide who is entitled to property that is the subject of competing claims.

13. Under RESPA, a loan is considered federally related if: A. it will be used to finance the purchase of real property B. the property has up to four dwelling units C. the lender is federally regulated D. All of the above

D. All of the above

4. The transaction is closing on September 16. The seller has already paid the annual premium for hazard insurance, and the buyer won't be assuming the policy. On the settlement statement, part of the insurance premium will be listed as: A. a debit for the buyer and a credit for the seller B. a debit for the seller and a credit for the buyer C. a credit for the buyer D. a credit for the seller

D. a credit for the seller

9. On a settlement statement, prepaid interest would usually appear as a: A. seller's debit B. buyer's credit C. seller's credit D. buyer's debit

D. buyer's debit

Mortgage servicing disclosure statement

Discloses whether the lender intends to service the loan or transfer it to another lender

Good faith estimate of closing costs

Disclosing the costs that the borrower (the buyer) will be expected to pay in the transaction

Escrow Services

Escrow agents perform a wide variety of services to prepare a transaction for closing. Escrow closings may involve all of the following steps: -ordering a title report from the title insurance company; -ordering inspections; -paying off existing loans secured by the property; -preparing the deed and other documents; -depositing funds from the buyer (and seller if necessary); -requesting the funding of the buyer's loan; -prorating expenses and allocating closing costs; -preparing settlement statements; -obtaining title insurance policies; -arranging to have documents recorded; and -disbursing funds and delivering documents However, the escrow agent's services are usually quite limited in nature. Ex. While an escrow agent will order a title report in accordance with the escrow instructions, the escrow agent won't go over the report with the parties and discuss any unexpected problems that the report might reveal. Reviewing the report and deciding whether to proceed with the transaction is up to the parties. While an escrow agent might contact a pest inspection company to request an inspection required by the purchase agreement, the escrow agent would not discuss the inspection results with the company and would not be authorized to order necessary repairs. Those actions would be the responsibilities of the parties.

Escrow instructions

Escrow instructions are a written document that tells the escrow agent how to proceed and states the conditions that each party must fulfill before the transaction can close. "A bilateral contract between the buyer and the seller that tells the escrow agent how to proceed and states the conditions each party must fulfill before the transaction can close. Determines under what conditions and at what time the agent will distribute the money and documents to the proper parties. The escrow instructions are a bilateral contract between the buyer and the seller. Neither party may choose the escrow agent or set the terms and conditions of escrow without the consent of the other party If there's a conflict between the purchase agreement and the escrow instructions, the escrow agent is generally supposed to comply with the later of the two documents—the escrow instructions. To prevent conflicts, escrow instructions may be incorporated into a purchase agreement form.

Escrow

Escrow is an arrangement in which money and documents are held by a neutral third party on behalf of both buyer and seller. Escrow is an arrangement in which money and documents are held by a neutral third party (the escrow agent) on behalf of the buyer and the seller until the transaction is ready to close. The escrow agent is a dual agent, representing both the buyer and the seller, with fiduciary duties to both parties. The parties usually give the escrow agent written escrow instructions, which determine under what conditions and at what time the agent will distribute the money and documents to the proper parties. The escrow instructions are a bilateral contract between the buyer and the seller. Neither party may choose the escrow agent or set the terms and conditions of escrow without the consent of the other party. The escrow instructions ordinarily reflect the requirements for the transaction that were set forth in the purchase agreement. If there's a conflict between the terms of the purchase agreement and the escrow instructions, the escrow agent is generally supposed to comply with the later of the two contracts—the escrow instructions. To avoid this type of conflict, the escrow instructions can be incorporated into the purchase agreement, as in the CAR purchase agreement form The purpose of escrow is to ensure that the seller receives the purchase price, the buyer receives clear title to the property, and the lender's security interest in the property is perfected. Escrow protects each party from the other's change of mind. Ex. If the seller suddenly doesn't want to sell the property as agreed, she can't just refuse to deliver the deed to the buyer. Once a deed has been given to an escrow agent, if the buyer fulfills all of the conditions specified in the escrow instructions and deposits the purchase price into escrow, the escrow agent is required to deliver the deed to the buyer. An added advantage of escrow is convenience: the parties don't have to be present to close the transaction

Protection - Purpose of Escrow

Escrow protects both the buyer and the seller during the period between the signing of the purchase agreement and closing. In some situations, escrow can prevent one of the parties from breaching the contract, or at least limit the amount of damage caused by a breach of contract.

Termination of Escrow

Escrow terminates when the transaction closes. Alternatively, it will terminate if the terms of the escrow instructions haven't been fulfilled by the scheduled closing date (or if no closing date has been set, within a reasonable time). Because of the way escrow accounts are set up, a party who has placed a sum of money or a document in escrow can't get it back, except under the conditions set forth in the escrow instructions, or with the other party's consent. A deposit into escrow is irrevocable. As a general rule, escrow can be terminated earlier only if the buyer and the seller mutually consent to the termination. Neither party can terminate the escrow unilaterally, without the other's consent. Nor does the death or incapacity of either party terminate the escrow. Example: The seller deposits a properly executed deed into escrow and dies shortly afterward. If the buyer fulfills the terms of the escrow instructions, the transaction will still close, in spite of the death of the seller. When a transaction fails to close, there may be a dispute between the buyer and the seller over which of them is entitled to funds or other items that were placed into escrow. If the parties are unable to resolve the dispute, the escrow agent should file an interpleader action, turning the matter over to a court. The court will decide which party is the rightful owner of the items in escrow. It isn't the escrow agent's role to arbitrate a dispute between the parties. An escrow terminates in any of these circumstances: 1. the transaction closes; 2. the terms of the escrow instructions have not been fulfilled by the scheduled closing date (or within a reasonable time, if no closing date is specified); or 3. the parties mutually agree to the termination. An escrow may not be terminated by one party unilaterally or by a party's agent. Similarly, the death or incapacity of one party does not terminate the escrow.

Settlement Charges

Here is a list of items that will or may appear on the settlement statement for a typical residential transaction.

Title company choice - RESPA requirements

Here's one final RESPA rule: the law prohibits a seller from requiring the buyer to use a particular title company.

Assumed Loan

If the buyer assumes the seller's existing loan, it's part of the money used to finance the transaction, so (like a new loan) it's credited to the buyer. The assumed loan balance is a debit for the seller In a transaction where the buyer is going to assume the seller's existing mortgage, the assumed loan balance will be listed as a credit for the buyer on the settlement statement. It will also be shown as a debit for the seller, because it reduces the amount of cash the seller will receive at closing.

New Loan

If the buyer secures a new loan to finance part or all of the sale, the loan amount is listed as a credit for the buyer. Like the deposit, the buyer's loan is part of the purchase price already credited to the seller, so no entry is made on the seller's side of the statement. The financing for the transaction will always appear as a credit for the buyer on the settlement statement. Whatever the source of the financing, it represents the portion of the purchase price that the buyer will not have to come up with in cash at closing. If the financing is a loan from a third party lender (such as a bank), the loan amount is listed in the buyer's credit column, and no entry is made on the seller's side of the statement. Even though the loan funds will actually be paid to the seller, they're part of the purchase price, which has already been listed.

Seller Financing

If the seller accepts a mortgage or deed of trust from the buyer for part of the purchase price, that shows up in the buyer's credit column, just like an institutional loan. At the same time, a seller financing arrangement reduces the amount of cash the seller will receive at closing, so it's listed as a debit for the seller. If the property is sold under a land contract, the contract price (less the downpayment) is credit extended by the seller. It reduces the seller's net at closing and is used by the buyer to finance the purchase, so it's a debit for the seller and a credit for the buyer. If the seller is financing any part of the purchase, whether with a purchase money mortgage or a land contract, the amount of this seller financing will appear on the settlement statement as a credit for the buyer and a debit for the seller. Like an assumption, seller financing reduces the seller's cash at closing.

Payoff of Seller's Loan

If the seller has a loan to pay off, the escrow agent requests a beneficiary's statement from the seller's lender. This document states the loan's remaining principal balance. The loan payoff is a debit for the seller. No entry is made on the buyer's side of the settlement statement. If the seller is financing any part of the purchase, whether with a purchase money mortgage or a land contract, the amount of this seller financing will appear on the settlement statement as a credit for the buyer and a debit for the seller. Like an assumption, seller financing reduces the seller's cash at closing. In most transactions, the seller has an existing mortgage or deed of trust against the property. If the buyer isn't going to assume or take title subject to this existing loan, the seller will have to pay it off at closing. As we mentioned earlier, the escrow agent will ask the seller's lender for a loan payoff figure. This amount will be listed on the settlement statement as a debit for the seller. It will not appear on the buyer's side of the settlement statement.

Sale of Personal Property

If the seller is selling the buyer some personal property along with the real property, the price of these items should be a credit for the seller and a debit for the buyer. (The seller should sign a bill of sale to be delivered to the buyer at closing along with the deed.) Sometimes a homebuyer purchases some of the seller's furniture along with the house. The seller may charge a separate amount for the personal property, rather than include it in the price of the home. If this is the case, the price should be listed on the settlement statement as a debit for the buyer and a credit for the seller.

Property Taxes - Not yet paid

If the taxes weren't paid in advance: The transaction is closing on January 20. This year's property tax bill was for $1,752. The seller paid the first installment ($876) on October 30. It covered the period from July 1 to December 31. Property taxes: $1,752 1st half: $876 Paid 2nd half: $876 Due The escrow agent calculates the per diem rate ($4.80), then determines the number of days the seller is responsible for. The second half of the tax year began on January 1. Because the seller has not yet paid the second installment of the taxes, he is responsible for January 1 through January 19, the day before closing. Next, the escrow agent multiplies the per diem rate by the number of days the seller is responsible for to find the seller's share. $4.80 Per Diem x 19 Days = $91.20 Seller's share of taxes On the settlement statement, the escrow agent will list $91.20 as a debit for the seller. The same figure will also be listed as a credit for the buyer, since the buyer will have to pay the second tax installment by February 1.

Good Faith Deposit

In most transactions, the buyer gives the seller a good faith deposit when the purchase agreement is signed. If the transaction closes, the deposit is applied to the purchase price. Since the buyer has already paid the deposit, it appears on the settlement statement as a credit for the buyer. And since the full purchase price is already a debit for the buyer and a credit for the seller, no entry is made on the seller's side of the statement. The buyer makes the deposit when the purchase agreement is signed, not at closing. At closing, the deposit is applied toward the purchase price. Therefore, on the settlement statement, the deposit is listed in the buyer's credit column. It is not listed in either of the seller's columns. Ex. If the buyer makes a $9,350 good faith deposit, it will be recorded only as a $9,350 credit to the buyer on the settlement statement.

Owner's Title Insurance Premium

In northern California, the buyer usually pays the premium for the owner's title insurance policy (which protects the buyer). In southern California, the seller usually pays it. A title insurance policy is paid for with a single premium, which is due at closing, when the policy is issued. The owner's title insurance policy is the one that protects the buyer against undiscovered title defects. In southern California, the premium for the owner's policy is customarily paid for by the seller, so it appears as a debit on the seller's side of the settlement statement. However, in northern California, custom dictates that the buyer pays the premium. In this case, it appears as a debit for the buyer.

Rent Income - Prorated

In some transactions, there is also income to be prorated at closing. If the property generates rental income and the tenants have paid for some period beyond the closing date, the seller is debited and the buyer credited for the rent paid in advance. If the rent is paid in arrears, the seller will be credited for the amount due up to closing, and the buyer will be debited for the same amount. Note that tenants' security deposits aren't prorated. The seller must transfer all of the deposits to the buyer, since the leases will continue after closing. While most prorations involve expenses, sometimes there is income that has to be prorated between the parties. Ex. If the property to be sold is a rental property, and the tenant has already paid the rent for some period beyond the closing date, the seller is debited and the buyer is credited for the rent paid in advance. Note that security deposits paid by tenants are never prorated. They are simply transferred to the new owner of the rental property.

Mortgage Insurance Premiums

In transactions involving mortgage insurance, the lender may require a certain number of monthly premiums to be paid in advance. These are a debit for the buyer.

Interest on Seller's Loan

Interest on a real estate loan is paid in arrears. In other words, the interest accruing during a given month is paid as part of the next month's payment. Ex. A loan payment due on September 1 includes the interest that accrued during August. If a transaction closes in the middle of the payment period, the seller owes the lender some interest. Ex. The closing date is August 15. Although the seller made a payment on her loan on August 1, that payment didn't include any of the interest that's accruing during August. At closing, the seller will owe the lender interest for the period from August 1 through August 15. The escrow agent prorates the interest, charging the seller only for those days, rather than the whole month's interest. The prorated amount is entered on the settlement statement as a debit for the seller. If the buyer assumes the loan, his first payment will be due September 1, and it will pay all of the interest for August. The seller will be debited for the interest owed up to August 15, and the buyer will be credited for the same amount.

Prorations *

It was once a common practice to simplify proration calculations by using a 360-day year and 30-day months (regardless of how many days there actually were in a particular month or year). But now that calculators and computers are everywhere, most closing agents use the exact number of days in the year or month in question. Also, not that in order for the result of a proration to be completely accurate, the per diem rate must be calculated to an accuracy of at least four decimal places for monthly amounts, and five decimal places for annual amounts. Here again, calculators make this a painless process. It becomes necessary to prorate a monthly or annual expense if one party is responsible for the expense during only part of the month or year in question In preparing a settlement statement, an escrow agent will prorate such an expense, so that only a portion of it is charged to a particular party. Items typically prorated include property taxes, mortgage interest, insurance premiums, and rent. General real estate taxes are levied on an annual basis. The seller is responsible for the taxes up to the day of closing; the buyer is responsible for them on the closing date and thereafter. If the seller has paid the taxes in advance, covering a period beyond the closing date, he is entitled to a partial refund. On the other hand, if the seller hasn't paid the year's taxes yet, he may be required to pay a certain share at closing. In either case, the escrow agent will prorate the taxes, calculating what share of the annual figure the seller is responsible for. A variety of other expenses besides property taxes are also prorated

Income Tax Aspects of Closing

Nearly all real estate transactions have tax implications for the partie and, naturally, it's up to each party to fulfill her own tax obligations. However, there are certain requirements related to income taxes that must be taken care of when a transaction closes. Because a property seller may be required to pay income taxes on the capital gains that accrued from the sale, it is important for the escrow agent (or other closing agent) to follow certain requirements imposed by the federal and state income tax codes. An escrow agent is required to report the sale of real property to the Internal Revenue Service. The agent fills out Form 1099-S with the seller's name and social security number and the gross sale proceeds. The agent is not allowed to charge an extra fee for filling out Form 1099-S.

Cash at Closing

On a settlement statement the sum of one party's credits should equal the sum of that party's debits, so that the final balance in each party's "account" is zero. In order for the statement to work this way, it must list the amount of cash that the buyer will have to bring to closing, and also the amount of cash the seller will take away from closing. Once the escrow officer has done all of the prorating and listed all of the appropriate debits and credits for each party on the settlement statement, the next step is to calculate the balance due from the buyers and the balance owed to the sellers. To find the balance due from the buyer—the amount of cash the buyer will have to bring to closing—the agent performs these steps: 1. Add up all of the buyer's credits. 2. Add up all of the buyer's debits. 3. Subtract the buyer's credits from the buyer's debits to find the balance due. $197,910.18 Buyer's debits -159,231.30 Buyer's credits =$38,678.88 Balance due On the simplified settlement statement, the balance due from the buyer is listed in the buyer's credit column. This may seem a bit confusing, since the balance due is a payment the buyer is required to make. Remember the checkbook analogy, however. It's putting the balance due in the buyer's credit column that makes that column's total equal the total in the buyer's debit column. The buyer's credits (deposits) equal her debits (withdrawals), so that the final account balance is zero. To determine the balance due to the seller (the amount of cash the seller will take away from closing) the escrow agent more or less repeats the process. 1. Add up all of the seller's credits. 2. Add up all of the seller's debits. 3. Subtract the seller's debits from the seller's credits to find the balance due. $188,260.00 Seller's credits -124,166.00 Seller's debits = 64,094.00 Balance due to seller Note that there is one difference between the process used to calculate the balance due from the buyer and the balance due to the seller. In most cases, the seller's debits add up to less than the seller's credits. So instead of subtracting credits from debits (as the agent did in calculating the balance due from the buyer), the agent subtracts debits from credits. The result of that calculation, the balance due to the seller, is listed as a debit for the seller on the simplified settlement statement. Again, this is so the total in the seller's debit column will equal the total in the seller's credit column. Remember that the buyer's column totals do not have to match the seller's column totals. It's as if each party has his or her own checkbook. The buyer's and seller's totals could be the same, by coincidence, but ordinarily they are not.

Specific expenses - Prorations

Once the escrow agent has prorated an expense, the prorated share has to be listed on the settlement statement. How it will be listed depends on the type of expense and whether the seller has paid it in advance or not.

Purchase Price

Paid by the buyer to the seller, the purchase price is listed as a debit for the buyer and a credit for the seller. The purchase price is treated the same way in every transaction. The buyer pays it to the seller, so it is listed in the buyer's debit column and in the seller's credit column. For example, if the price is $187,000, it will appear on the settlement statement

Pre paid interest - Prorated

Prepaid interest is the amount of interest that will accrue from the closing date to the end of the month of closing. The lender requires the borrower to pay that amount of interest on the day of closing. However, interest begins accruing on the loan on the closing date. Since interest is paid in arrears, the first regular mortgage payment will cover the interest that accrued the previous month. But it will not cover the interest accruing between the closing date and the end of the month in which closing takes place. Ex. The transaction closed on September 9th, and the first mortgage payment is due November 1st. This payment covers the interest that accrued in October. It doesn't cover the interest that accrued from September 9th through September 30th. The lender will require the buyer to take care of the interest that is going to accrue during the month of closing by paying it in advance, on the closing date. This advance interest payment is referred to as prepaid interest or interim interest. Suppose the buyer has obtained a $156,000 institutional loan at 9% interest. The transaction is closing on September 9. 1. To determine how much interest the buyer will be required to prepay at closing, first calculate the annual interest figure. $156,000 Institutional loan x 9% Interest = $14,040 Annual Interest 2. Next, divide to find the per diem rate. $14,040 Annual Interest ÷ 365 Days = $38.47 Per Diem rate The prepaid interest will have to cover the period from the closing date (September 9) through the end of the month of closing (September 30).That's 22 days. 3. Multiply 22 days by the per diem rate to find the interest owed for September. $38.47 Per Diem rate x 22 Days =$846.34 Prepaid interest Prepaid interest is listed as a debit on the buyer's side of the settlement statement.

Settlement procedures booklet

Prepared by HUD, which explains RESPA, closing costs, and the settlement statement

Transactions Covered by RESPA

RESPA applies to "federally related" loan transactions. A loan is federally related if: 1. it will be secured by a mortgage or deed of trust against: -property on which there is (or on which the loan proceeds will be used to build) a dwelling with four or fewer units; -a condominium unit or a cooperative apartment; -a lot with (or on which the loan proceeds will be used to place) a mobile home; and 2. the lender: -is federally regulated, -has federally insured accounts, -is assisted by the federal government, -makes loans in connection with a federal program, -sells loans to Fannie Mae, Ginnie Mae, or Freddie Mac, or -makes real estate loans totaling more than $1,000,000 per year. In short, the act applies to most institutional lenders and to most residential loans. Note that RESPA also does not apply to seller-financed transactions, since those are not federally regulated. Few institutional lenders would not fit into at least one of the categories listed under this second criterion. Thus, most institutional mortgage loans secured by one- to four-unit residential property are covered by RESPA. Note that RESPA does not apply to seller-financed transactions, because seller financing is not a federally related loan.

RESPA exemptions

RESPA does not apply to the following loan transactions: -a loan used to purchase 25 acres or more; -a loan used primarily for a business, commercial, or agricultural purpose; -a loan used to purchase vacant land, unless there will be a one- to four-unit dwelling built on it or a mobile home placed on it; -temporary financing, such as a construction loan; or -an assumption for which the lender's approval is neither required nor obtained

Settlement service providers - RESPA requirement

RESPA refers to loan originators, appraisers, real estate agents, title companies, and other entities that provide services during the closing process

Closing costs

Real estate transactions involve a wide variety of costs in addition to the purchase price: inspection fees, title insurance charges, loan fees, and so on. These are known as closing costs. Some of these closing costs are paid by the buyer, and some are paid by the seller. Some are paid by one party to the other; for example, the buyer may have to reimburse the seller for property taxes the seller already paid. Other closing costs are paid by one of the parties to a third party; the seller may be required to pay a pest inspector's fee, for instance. There are also other payments to be made in connection with closing. Ex. The seller often has to pay off an existing mortgage or other liens. Determining who is required to pay how much to whom at closing can be a complicated matter. Title Insurance. Seller authorizes Buyer's lender or Closing Agent, at Seller's expense, to apply for an owner's policy of title insurance to be issued by the Title Insurance Company, insuring Buyer and providing the coverage described in paragraph 15 herein. The purchase agreement form often specifies which party is responsible for paying certain closing costs. If not, the escrow agent will usually allocate the cost according to custom or general practice. Ex. In southern California, the seller customarily pays for the owner's title insurance policy, unless otherwise agreed. Alternatively, the buyer and the seller may negotiate the allocation of particular costs. Neither custom nor agreement between the parties can violate federal, state, or local law, however.

Estimates vs. Actual Charges

Some of the charges listed on the good faith estimate form given to the buyer at the beginning of the loan application process are in fact only estimates, so they won't necessarily match the buyer's actual charges at closing. However, RESPA doesn't allow certain charges on the GFE to be increased, and it limits how much certain others may be increased. There are 3 categories: 1. Charges that cannot increase at closing. This includes all of the lender's or loan originator's points and fees, and also the transfer taxes. 2. Charges for required services, such as the appraisal and title insurance, if the service provider was chosen or recommended by the lender. The total amount of these charges can increase no more than 10%. 3. Charges that can change any amount, because they're difficult to predict at the outset, such as hazard insurance. The categories are explained in more detail on the third page of the good faith estimate form itself. The third page of the uniform settlement statement provides a side-by-side comparison of the estimated and actual charges.

Survey

Sometimes a lender requires a survey as a condition for making the loan. Unless otherwise agreed, the cost of the survey is a debit for the buyer

Property Taxes - Paid in advance

Suppose a transaction is closing on January 20. This year's property tax bill was for $1,752. The seller paid that entire amount on October 30. 1. The first step is to divide, to determine the per diem rate. Divide $1,752 by 365 and you get a per diem rate of $4.80. $1,752 ÷ 365 = $4.80 Per Diem Next, the escrow agent adds up the number of days the buyer is responsible for. 12 Days - January 28 Days - February 31 Days - March 30 Days - April 31 Days - May 30 Days - June = 162 Days Buyer's Responsibility Finally, the agent multiplies the per diem rate by the number of days the buyer is responsible for, to determine the buyer's share of the expense. $4.80 Per Diem x 162 Days = $777.60 Buyer's Share of Taxes Since the seller has already paid the full year's taxes, she is entitled to a refund of the portion that the buyer is responsible for. On the settlement statement, the escrow agent lists $777.60 as a credit for the seller and the same amount as a debit for the buyer.

RESPA Requirements

he Real Estate Settlement Procedures Act requires lenders to give loan applicants a booklet about closing costs; a good faith estimate of closing costs; and a mortgage servicing disclosure. If lenders or settlement service providers require use of a particular service provider or make referrals to an affiliated service provider, that must be disclosed to borrowers. The escrow agent must use the uniform settlement statement (HUD-1) form. RESPA has these requirements for federally related loan transactions: -a copy of a booklet about settlement procedures (Closing information booklet); -a mortgage servicing disclosure statement; -a good faith estimate of closing costs; -service provider disclosures -no kickbacks or unearned fees -uniform settlement statement -no excessive deposits -title company choice 1. Within three days after receiving a written loan application, the lender or loan originator (Ex. A mortgage broker) must give all applicants: -a copy of a booklet about settlement procedures (Closing information booklet that explains RESPA, closing costs, and settlement statements); -a mortgage servicing disclosure statement, which discloses whether the lender intends to service the loan or transfer it to another lender; -a good faith estimate (GFE) of closing costs A lender or loan originator may not charge a loan applicant any fees other than a credit report fee until the good faith estimate (GFE) has been provided. 2. Required providers If the lender or any settlement service provider requires the borrower to use a particular appraiser, title company, or other service provider, that requirement must be disclosed to the borrower when the loan application or service agreement is signed. The same rule applies when one settlement service provider sends borrowers to another provider for additional services. Ex. If a title company will require the use of a particular surveyor, that must be disclosed when the borrower signs a contract for the title company's services. 3. Affiliated business arrangement If any settlement service provider refers a borrower to an affiliated provider, that joint business relationship must be fully disclosed, as well as the fact that the referral is optional. Ex. A real estate broker might have an ownership interest in a home inspection company, or some other ongoing connection with the company. Whenever a settlement service provider refers a borrower to an affiliated service provider (even if use of that provider isn't required), then the affiliated business arrangement and fee estimates must be disclosed to the borrower. Fee estimates for the services in question must also be given. 4. The closing agent (whoever handles closing, whether it's an escrow agent, a loan originator, a real estate broker, a lawyer, etc.) must itemize all loan settlement charges on a uniform settlement statement form. 5. If the borrower will have to make deposits into an impound account (a reserve or escrow account) to cover taxes, insurance, and other recurring costs, the lender cannot require excessive deposits (more than necessary to cover the expenses when they come due, plus a two-month cushion). 6. No kickbacks or unearned fees While referrals to lenders and settlement service providers (affiliated or unaffiliated) are allowed under RESPA, referral fees are not. If a lender or settlement service provider pays anyone for referring customers to them, that's an illegal kickback. Either paying or accepting a referral fee in connection with settlement services violates RESPA. At one time, a lender or title company might have paid a real estate broker a referral fee for steering homebuyers to it for financing or settlement services. Under RESPA, however, this practice is illegal in federally related loan transactions. In addition to prohibiting referral fees, RESPA prohibits paying or accepting unearned fees—charges for settlement services that weren't actually provided. It's also illegal to charge a fee for preparation of an escrow account statement, the disclosure form required by the Truth in Lending Act, or the uniform settlement statement required by RESPA itself. A lender, a loan originator, a real estate agent, a title company, or any other provider of settlement services may not: -pay or receive kickbacks or referral fees for referring customers; -pay or receive unearned fees—that is, fees for settlement services that were not actually provided; or -charge a fee for the preparation of the uniform settlement statement, an impound account statement, or the disclosure statement required by the Truth in Lending Act. 7. The seller may not require the buyer to use a particular title company.

Appraisal Fee

The appraisal is usually required by the buyer's lender, so the fee is ordinarily a debit for the buyer. Thus, loan approval involves an appraiser's fee, a credit report fee, and possibly a surveyor's fee. As a general rule, the buyer pays these fees. The escrow agent will treat all of them as debits for the buyer, unless the purchase agreement specifies that the seller will pay for one or more of them.

Balance Due from Buyer

The balance due from the buyer is the amount of cash the buyer has to bring to closing. That figure is calculated by adding up the buyer's credits, adding up the buyer's debits, and then subtracting the buyer's total credits from the buyer's total debits. Add up all of the buyer's credits, then add up all of the buyer's debits. Subtract the buyer's credits from the buyer's debits to find the balance due, which is the amount of cash the buyer will have to pay at closing. Enter this amount as a credit for the buyer. Now the buyer's credits column should add up to exactly the same amount as the buyer's debits column.

Balance Due to Seller

The balance due to the seller is the amount of cash the seller will take away from the transaction at closing. That figure is calculated by adding up the seller's credits, adding up the seller's debits, and then subtracting the seller's total debits from the seller's total credits. Add up all of the seller's credits, then add up all of the seller's debits. Subtract the seller's debits from the seller's credits. The result is the amount of cash the seller will receive at closing (if any). Enter this amount as a debit if credits exceed debits, but as a credit if debits exceed credits. Now the seller's credits column should add up to exactly the same amount as the seller's debits column. Note that the buyer's two column totals must match each other, and the seller's two column totals must match each other. However, the buyer's column totals don't have to match the seller's column totals. Although there's a remote possibility that the buyer's totals could match the seller's totals in a particular transaction, they ordinarily do not.

Credit Report

The buyer's lender charges the buyer for the credit investigation, so this is also a debit for the buyer.

Inspection Fees

The cost of an inspection is allocated by agreement between the parties. Many transactions are contingent on the results of one or more inspections or tests—pest inspections, geological inspections, soil or percolation tests, and so on. EX. The buyer might agree to pay for the cost of a pest inspection, while the seller agrees to pay for repairs if the inspection shows that any are necessary The purchase agreement should specify which party is responsible for the cost of each required inspection. On the settlement statement, the escrow agent will list the cost of each inspection as a debit for the party who agreed to pay for it.

Discount Points

The discount points are a debit for the buyer, unless the seller has agreed to pay for a buydown. In that case, the points are a debit for the seller. The lender may also charge discount points at closing to increase the yield on the loan. The buyer may pay the points, in which case they're a debit for the buyer. But if the seller agreed to pay the points to help the buyer obtain a loan, the points are listed as a debit for the seller.

Recording Fees

The fees for recording the various documents involved in the transaction are usually charged to the party who benefits from the recording. The fee that the recorder's office charges for recording a document is usually supposed to be paid by the party who directly benefits from the recording. In most transactions, both the buyer and the seller will have to pay certain recording fees. Ex. The fees for recording the deed and the new mortgage or deed of trust are debits for the buyer; the fee for recording a satisfaction of the old mortgage is a debit for the seller. For instance, recording a release of lien enables the seller to transfer marketable title. This allows the seller to fulfill his contractual obligations to the buyer. On the other hand, the deed is recorded to protect the buyer, so the fee charged for recording the deed is entered as a debit for the buyer.

Rate x days - Prorations

The final step is multiplying the per diem rate by the number of days for which one party is responsible for the expense. This will give you that party's prorated share. For instance, the per diem rate for the August homeowners association dues is $3.50, and the buyer is responsible for 12 days in August. As you can see, the buyer's share of the August dues is $42. $3.50 per diem rate x 12 days =$42.00 Buyer's share of August dues

Preparing a Settlement Statement

The items listed on the settlement statement are either debits or credits. Preparing a settlement statement involves little more than determining what charges and credits apply to a given transaction and making sure each one is allocated to the right party. When allocating expenses, an escrow agent is generally guided by the terms of the purchase agreement or the escrow instructions. The allocation can also be determined by custom (local or general), provided the custom doesn't conflict with the terms of the parties' contract. Ex. In most places the buyer usually pays the cost of an appraisal, so that cost would ordinarily be charged to the buyer. But if the seller agreed in the purchase agreement to pay the appraisal fee, the agreement would take precedence over custom and the expense would be a debit for the seller on the settlement statement. Of course, neither custom nor the agreement between the parties will be honored if they are contrary to local, state, or federal law. Although a real estate agent typically won't ever be called upon to prepare a formal settlement statement, agents should know what closing costs are likely to be involved in a transaction and how they're customarily allocated. The buyer and the seller may want to negotiate the allocation of particular costs, and in any case they should have a good idea of their costs before signing a contract. A real estate agent should be able to prepare a preliminary estimate of closing costs for each party.

Hazard Insurance Policy

The lender generally requires the buyer to pay for one to three years of hazard insurance coverage in advance. The buyer's lender wants to make sure that the property serving as security for the loan is kept insured. So the lender will require the buyer to obtain a hazard insurance policy. The lender will usually require the buyer to pay at least one year's premium at closing, and two or three years' premiums are required in some cases. The hazard insurance premium is a debit on the buyer's side of the settlement statement. This is a debit for the buyer.

Lender's Title Insurance Premium

The lender requires the buyer to provide an extended coverage policy to protect the lender's lien priority. The premium for this policy is a debit for the buyer, unless otherwise agreed. In a transaction financed with an institutional loan, the lender will require the buyer to pay for a lender's title policy (or mortgagee's policy), which protects the lender against undiscovered liens. The premium for the lender's policy is a debit for the buyer, unless the seller has specifically agreed to pay for it.

Per diem rate - Prorations

The per diem rate of an expense is the daily rate of that expense. The per diem rate of an annual expense is calculated by dividing the expense by 365. The per diem rate of a monthly expense is calculated by dividing the expense by the number of days in that particular month. The first step, determining the per diem rate, is a matter of division. If the expense in question is an annual expense, divide the annual figure by 365 days (or 366 days in a leap year) to find the per diem rate. Annual Expense ÷ 365 Days = Per Diem Ex. If the annual property taxes are $1,752, then the per diem rate is $4.80.

Hazard Insurance - Prorated

The premiums for hazard insurance (homeowner's insurance) are paid in advance. At closing, the seller is entitled to a refund for the unused portion of the policy. Ex. If the seller has paid the premium for the year, and there are three months left in the year, the seller is entitled to a refund of one-fourth of the premium. This would show up as a credit for the seller on the settlement statement. If the buyer is going to assume the policy, the seller will be credited and the buyer will be debited for the appropriate amount. If the annual premium for the property's hazard insurance has been paid in advance, the seller my be entitled to a refund of a prorated share of the premium at closing. Ex. Suppose the annual hazard insurance premium is $310.24. It was paid in advance, on March 1 of this year, for coverage through February 28 of next year. Now the property is being sold, and the closing date is November 22 of this year. The escrow agent divides the premium by 365 to find the per diem rate for the hazard insurance, and ends up with a per diem rate of 85 cents. $310.24 Annual Insurance ÷ 365 Days = 85¢ Per Diem Next, the escrow agent adds up the days from November 22 (the closing date) through February 28 of next year (the final day of insurance coverage). This is the period for which the seller is entitled to a refund. 9 day Nov 22 -30 31 days Dec 31 days Jan + 28 days Feb = 99 days The escrow agent multiplies the per diem rate by the number of days to find the refund amount. 1. $310.24 Annual Insurance ÷ 365 Days = 85¢ Per Diem 2. 99 days (Nov 22 - Feb 28) 3. 85¢ Per Diem x 99 days = $84.15 Seller's Refund The seller is entitled to a refund of $84.15, which the escrow agent will list as a credit for the seller on the settlement statement. The seller's hazard insurance refund will not be entered on the buyer's side of the settlement statement unless the buyer is assuming the seller's hazard insurance policy. In that case, the refund will be a credit for the seller and a debit for the buyer.

Sales Commission

The real estate broker's commission is normally paid by the seller, so it's entered as a debit for the seller. In nearly all residential transactions, the real estate broker's commission is paid by the seller. On the settlement statement, it is listed in the seller's debit column, and it is not entered on the buyer's side of the statement.

Number of days - Prorations

The second step in prorating an expense is determining the number of days during which a particular party is responsible for the expense. This usually involves counting the number of days before or after the closing date. It's better to use the exact number of days Determine per diem rate Count the days Ex. The sale is closing August 20, and the seller has already paid the homeowners association dues for August. The buyer is responsible for the dues from the closing date to the end of the month—from August 20 through August 31, for a total of 12 days.

Property Taxes - Prorated

The seller is responsible for property taxes up to the day of closing; the buyer is responsible for them on the day of closing and thereafter. If the seller has already paid the property taxes for the year, she's entitled to a prorated refund at closing. On the settlement statement, this will appear as a credit for the seller and a debit for the buyer. (Note: In California, the property tax year runs from July 1 to June 30.) Ex. Sharon is selling her house to Ben, with closing set for January 2. This year's property taxes are $4,380. The escrow agent calculates the per diem rate by dividing the property tax figure by 365, the number of days in the year. $4,380 ÷ 365 = $12.00 per diem Sharon, the seller, is responsible for the property taxes through January 1—in other words, for the first 185 days of the year. The buyer, Ben, is responsible for the taxes from January 2 forward—the remaining 180 days in the year. Sharon has already paid the full year's taxes, so at closing she'll be entitled to a credit for the share that is Ben's responsibility. The escrow agent multiplies the number of days for which Ben is responsible by the per diem rate to determine the amount Ben will owe Sharon at closing. $12.00 × 180 = $2,160 This $2,160 will appear as a credit on the seller's side of the settlement statement, and as a debit on the buyer's side of the statement. If the taxes are in arrears, the amount the seller should have paid for the period before closing will be a debit for the seller on the settlement statement. General real estate taxes are the seller's responsibility up to the closing date, and the buyer's responsibility from the closing date forward. In California, property taxes are levied annually. The property tax year runs from July 1 to June 30. Property owners may pay their taxes in two installments, one due by November 1—covering the period from July through December, and one due by February 1—covering the period from January to June. How a prorated share of the taxes is treated on the settlement statement depends on whether the taxes have been paid in advance or will be paid in arrears.

Recurring costs

The seller often has reserves or impounds on deposit with the lender to cover certain expenses connected with the property. These expenses, sometimes referred to as the recurring costs, include property taxes and insurance, and in some cases assessments, homeowners or condominium association fees, or other periodic charges.

Seller' final interest payment - Prorated

The seller's final interest payment may also be prorated. That's because on a mortgage loan, the interest is generally paid in arrears, after it accrues. Ex. The mortgage payment due on May 1 covers the interest that accrued during April. Because the interest is paid in arrears, at closing the seller usually has to pay the lender a prorated share of the interest for the final month of the loan. Let's assume that a transaction is closing on May 7. The seller made her May 1 mortgage payment as usual, but that payment included only the interest that accrued during April. It didn't include any of the interest accruing in May. The loan balance is $98,550, and the interest rate on the loan is 10%, so the annual interest figure is approximately $9,855. This is divided by 365 to determine a per diem amount. 1. $98,550 Loan Balance x 10% Interest rate = $9,855 Annual Interest 2. $9,855 Annual Interest ÷ 365 Days = $27 Per Diem At closing, the seller will owe the lender interest for May 1 through May 7. 3. $27 Per Diem x 7 Days = $189 Interest owed on seller's loan This final loan interest payment will be listed as a debit for the seller on the settlement statement. For a new loan, the buyer's prepaid interest is also prorated. An institutional lender usually doesn't require a homebuyer to make a mortgage payment on the first day of the month following closing. The initial mortgage payment is not due until the first day of the month after that. This gives the buyer a chance to recover from the financial strain of closing the transaction. For instance, assume a transaction closed on September 9th. The buyer is not required to make a mortgage payment until November 1st.

Guide to Settlement Statements

The simplified settlement statement uses the double entry accounting method, so each party has a credit column and a debit column. The sum of the buyer's credits must equal the sum of the buyer's debits. The sum of the seller's credits must equal the sum of the seller's debits. Think of the settlement statement as a check register for a bank account. Debits are like checks written against the account, and credits are the equivalent of deposits into the account. When the transaction closes, the balance in each party's account should be zero. When an item is payable by one party to the other, it will appear on the settlement statement as a debit for the paying party and as a credit for the party paid. An obvious example is the purchase price, which is a debit for the buyer and a credit for the seller. If an item is paid by one of the parties to a third party, it appears on the settlement statement in the paying party's debit column, and it doesn't appear in the other party's columns at all. Ex. The seller is customarily charged for the documentary transfer tax, which is paid to the county treasurer. The tax is a debit for the seller, but it isn't a credit for the buyer. Similarly, certain items are shown as a credit for one party, but not as a debit for the other. The impound account for the seller's loan is an example. If the sale calls for the payoff of the seller's existing mortgage, any property tax, insurance, or other reserves held by the seller's lender are refunded. They are a credit for the seller, but not a debit for the buyer.

Beneficiary's statement

This document states the loan's remaining principal balance. Demand for payoff

Origination Fee

This is the lender's one-time charge to the borrower for setting up the loan. It's a debit for the buyer. For a new loan, the lender charges the borrower an origination fee to cover the administrative costs of making the loan. The origination fee is almost always listed as a debit for the buyer on the settlement statement.

No excessive deposits - RESPA requirement

Under RESPA, a lender may not require excessive deposits into an escrow account (a reserve or impound account). The borrower can only be required to deposit the amount necessary to cover the recurring costs when they come due, plus a two-month cushion.

Escrow Agents

Title companies are the most common escrow agents in northern California. In the southern part of the state, independent escrow companies also close a large number of transactions. Many institutional lenders have their own escrow departments, to close their own loan transactions. California's Escrow Law requires all escrow companies to be licensed by the state Department of Corporations. Only corporations may be licensed as escrow companies; individuals aren't eligible. Banks, savings and loans, insurance companies, title companies, attorneys, and real estate brokers are exempt from this licensing requirement, because they're regulated by other agencies. Note that the exemption from the escrow licensing requirement for real estate brokers doesn't cover every situation a broker could be involved in. The exemption is limited to activities that require a real estate license and that occur in the course of a real estate transaction in which the broker is either representing one of the parties or is herself one of the parties. This exemption allows brokers to provide escrow services to their clients, and they may charge a fee for these services. The exemption doesn't permit real estate brokers to operate as escrow agents for transactions in which they have no bona fide interest other than that of providing escrow services.

Prorate

To divide and allocate an expense proportionately, according to time, interest, or benefit, determining what share of it a particular party is responsible for.

Prorates

To prorate an expense is to divide and allocate it proportionately, according to time, interest, or benefit.

Purpose of Escrow

What's the point of closing a sale through escrow? There are two main benefits: 1. During the closing process, all parties are protected against the possibility that the other parties may have a change of heart. 2. It isn't necessary for the parties to attend the closing in person. Escrow is also convenient, because it makes it unnecessary for the parties to meet face to face in order to close the transaction. The closing is handled by the escrow officer in accordance with the escrow instructions, even if one or more of the parties is out of town.

Loan Assumption - Seller' final interest payment - Prorated

When a loan is assumed, the seller typically owes some interest for the month in which the closing takes place. Because interest is paid in arrears, this interest owed by the seller will be paid by the buyer as part of the first payment she makes on the assumed loan after closing. Thus, for an assumed loan, a prorated share of the interest should appear on the settlement statement as a debit for the seller and as a credit for the buyer.