Chapter 9: Real Estate Closings

Abstract of Title

A brief, chronological summary of the recorded documents affecting title to real property.

Closing Disclosure Statement

A document that presents detailed accounting for a real estate transaction, listing each party's debits and credits and the amount each will receive or be required to pay at closing. Also called a Closing Statement or Settlement Statement.

Lender

A lender plays an important role in the closing procedure for financed property. By the time the closing takes place, the lender should have already performed a large amount of work in approving the loan. This includes verifying information about the buyer through a credit report, employment records, etc., as well as verifying information about the property through an appraisal, survey, check of the public records, inspections, etc. Once the lender follows its procedure and is comfortable with the property and the buyer, a loan commitment is made. The loan commitment is submitted to the escrow agent, and funds are disbursed after other conditions have been met. These other conditions always include that proper paperwork be signed by the buyer, including the note and mortgage to secure the loan.

Real Estate Attorney

A real estate attorney can perform several functions in a closing. Attorneys can represent either a buyer or seller, so the attorney is responsible for protecting his client's interests by explaining contract details and other important points of law that may affect the transaction or the property. A real estate attorney may also be a neutral party who works for the title company or may be retained to do title examination work. The two main types of attorney-related title evidence are: Abstract of Title An abstract of title is a brief summary of the history of title to a property, listing all recorded documents that affect the title. The bank may accept this instead of a title insurance policy, provided that a satisfactory letter of opinion from an attorney is issued regarding the title. In this letter, the attorney examines the chain of title, also called an abstract, which follows the history of the title and updates any new liens, encumbrances, or other recorded documents that were filed affecting the property since the previous owner bought it. There is no guarantee associated with this type of title evidence, so the homeowner or lender does not have any recourse if title defects are discovered later. Certificate of Title A certificate of title is a document prepared by an attorney stating the attorney's opinion of the status of the title to a property after performing a title search and reviewing the public records. There is no guarantee associated with this type of title evidence, so the homeowner or lender does not have any recourse if title defects are discovered.

Roundtable Closing

A roundtable closing is a closing conducted with all parties present. This could include the seller, listing broker (or subagent of the broker), buyer, and possibly a buyer/broker (or subagent of the buyer/broker). If the property is financed, the lender will also be represented at the closing. In addition, the seller and/or buyer may choose to be represented by legal counsel. A roundtable closing may be conducted by any of these parties, but is usually done by the lender's agent, an attorney, or a title company. At a roundtable closing, the same documents are exchanged as at an escrow closing. The seller is responsible for bringing the executed deed to the closing as well as any inspections or other documents required. The buyer must bring the funds necessary to buy the house or sign a mortgage with the lender, so the lender will release funds to the seller with the buyer supplying the balance. Like the escrow closing, a settlement statement is prepared, but it can be done by the brokerage that listed the property, title company representative, escrow company, or other third party. After everyone is satisfied that the terms of the sales contract have been fulfilled, all funds are disbursed and deed and title to the property change hands. The closing must take place by the stated closing date or within a reasonable amount of time if no date is specified.

Location Survey

A survey that determines if a property's buildings encroach on adjoining property, or if any adjoining property's buildings encroach on the subject property.

Title Company

A title company is responsible for examining and researching titles. Evidence of title is provided through either: Title Report A title report (also called a title guaranty) is a document stating the current title status of a property. This type of report lists all encumbrances, covenants, and defects associated with the title and shown in the public record. A title report, however, does not detail the chain of title to a property like an abstract of title does. Guarantees are limited to mistakes made in reading or interpreting items in the public record. Title Insurance Title insurance is an insurance policy guaranteeing that title to property is good title and insuring the policyholder against loss or damages from defects in the title. The defects could be liens or claims against title, and may be recorded or unrecorded claims. Title insurance offers the most protection to the homeowner or mortgagee.

Marketable Title

A title free and clear of objectionable encumbrances or defects; so, a reasonably prudent person with full knowledge of the fact would not hesitate to buy the land.

Proration: Accrued Items

Accrued expenses are the items on a settlement statement for which the cost has been incurred, but the expense has not yet been paid (e.g., real estate taxes, mortgage interest, unpaid recurring assessments). Accrued items start from the position that nothing has been paid, so the seller's portion must be calculated so she can be debited and the buyer credited for this amount. For Example: A transaction closes on May 31. The neighborhood has a special assessment for sidewalks, and the next assessment payment is due June 30. Since the seller lived in the house for five of the six months covered by the unpaid assessment, that portion will be prorated on the settlement statement as a debit to the seller and a credit to the buyer. The seller owes the money—even though the bill may not have arrived. If the buyer gets credited for that amount, the buyer is responsible for paying the entire amount when the bill comes due because the seller has already taken care of his obligation by giving credit to the buyer.

Settlement Statements

Another important aspect of a closing is the Closing Disclosure (also called a settlement statement), which is a document that presents detailed accounting for a real estate transaction, listing each party's debits and credits and the amount each will receive or be required to pay at closing. A separate statement is prepared for each party. Any cost to a buyer or seller can be listed on a Closing Disclosure. Items on Closing Disclosures can vary from closing to closing because the payment of any item is always negotiable between the buyer and seller. In order to understand the final amount of money paid by the buyer or due to the seller at closing, it is important to understand the concepts of: - Debits - Credits

Escrow Closing

As previously mentioned, an escrow closing is conducted by a disinterested third party referred to as an escrow agent. This person can be an attorney or a representative of a title agency, title company, or the lender. The escrow agent is responsible for performing the closing procedures as detailed in the purchase contract or in a separate set of escrow instructions, signed by both the buyer and seller. The same agent usually performs duties for both the buyer and the seller since there is no conflict of interest when procedures are followed as prescribed. The escrow agent's duties begin when the buyer's earnest money deposit is received and placed in the escrow company's trust account. If there is no earnest money or if the money remains in the broker's trust account, the escrow agent's duties begin upon receipt of a copy of the sales contract or escrow instructions. The seller gives an executed deed for the property to the escrow agent along with any inspections or required documentation. The buyer gives the escrow agent all funds needed for closing. If financing is involved, the buyer's lender gives a loan commitment prior to closing and pays the loan amount at closing. The escrow agent completes the closing after all conditions of the closing have been met, as spelled out in the sales contract or other instructions, including receipt of the executed deed and all required money. The escrow agent prepares the settlement statement and disburses all funds as instructed. The closing must take place within the closing date stated in the sales contract or within a reasonable amount of time if no date is specified. The buyer and seller do not usually attend this type of closing.

Other Expenses

Buyers and sellers sometimes share the costs of items such as: - Surveys, - Inspections, and - Lender fees. These items are easy to prorate because they are either negotiated or are calculated as a percentage of the item used and not based on days of usage.

Closing Procedure

Closing is the transfer of ownership of real property from seller to buyer, according to the terms and conditions in the sales contract or escrow agreement. There are two kinds of closings used in Ohio: - Escrow closings—Conducted by a disinterested third party - Roundtable closings—Conducted with all parties present Note: Escrow closings are common in northeastern Ohio, while roundtable closings are common in the rest of the state.

Debits and Credits

Debits Debits (like debts) are any sum of money that is owed. A debit is charged to a particular party on a balance sheet to represent money that must be paid to the other party. Whatever amount is expected from the transaction is reduced by the debit amount. For Example: Greg was supposed to receive $100,000 from the sale of his house, but he agreed to pay for a termite inspection that cost $500. He is debited $500 and receives only $99,500. The total is reduced by the agreed payment. Credits Credits are any sum of money that is to be received. A credit is given to a particular party on a balance sheet to represent money that should be paid by the other party. Whatever amount is expected from the transaction is increased by the credit amount, or the amount of money an individual was supposed to pay is reduced by the credit amount. For Example: Claire was supposed to pay $100,000 for a house, but the seller agreed to reimburse her the $500 she spent for a termite inspection. She is credited $500 and needs to pay only $99,500. Debits versus Credits Debits and credits work together when figuring the total money owed to each party. When the credits are added on one side, they must equal the total debits on the other side.

Title Insurance: Extended Coverage

Extended coverage title insurance policies, coverages, and restrictions are similar to a standard coverage policy with additional protections. The extended coverage policy, for example, covers additional defects in title that may be discovered only through actual inspection of a survey. Extended coverage protects the property owner from unrecorded liens (provided the new property owner did not have actual notice of the liens). American Land Title Association (ALTA) American Land Title Association (ALTA) is a national association of title companies, abstractors, and attorneys. Members agree to promote uniformity, quality, and professional standards in title insurance policies. Policies issued by ALTA members follow specific guidelines.

Real Estate Settlement Procedures Act (RESPA)

Federal law dealing with real estate closings that provides specific procedures and guidelines for the disclosure of settlement costs.

Disclosures: Loan Estimate

For many years, the disclosure requirements of RESPA and TILA associated with a completed loan application have been accomplished with two separate documents: - A Good Faith Estimate that lists the approximate closing costs - A Truth in Lending Statement that indicates the annual percentage rate Under provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 and the TRID Rule, these separate statements have been integrated into a single loan application disclosure document called the Loan Estimate form. It includes: - Estimated closing costs - Projected monthly payments - True cost of credit as an annual percentage rate This disclosure allows consumers to more easily compare terms of different loan options. The loan originator must provide the Loan Estimate within three business days of receiving a completed loan application and at least seven business days before loan consummation. Revised Loan Estimates must be provided at least four business days before loan consummation. On the next page, you can review a sample Loan Estimate, and then, Al will introduce the Closing Disclosure.

Calculating Prorations: Accrued or Prepaid, Buyer or Seller

Here are two simple tricks to help you calculate the problem more easily: 1. Whether a problem asks for accrued or prepaid, buyer or seller, the math is the same! Calculate the seller's portion and the buyer's portion is what remains. 2. Always divide annual dollar amounts by 365 to get a daily rate. We'll walk through some sample calculations next.

Paperwork Required by Lender

Homeowners Insurance A homeowners insurance policy covers loss or damage to the home or property in the event of fire or other disaster. The lender requires that this policy be sufficient to replace the home or reimburse the mortgage amount with the lender being named on the actual policy. Inspections There are a number of inspections that a lender may require, above and beyond what the purchase contract requires. These include inspections for termites, structural integrity, septic systems, and radon gas, among others. If a desired bank inspection is in the purchase contract, the bank will review the report. If an inspection is not part of the contract, the bank will have it done. Either way, the loan will likely be conditioned upon satisfactory results. Escrow/Account Reserve Account An escrow account (also called a reserve account) is not related to an escrow closing. It is an account that the buyer and lender set up as a way of making sure that property taxes, insurance premiums, and other items are covered. The buyer's monthly principal and interest payment for the mortgage is increased by an amount equal to 1/12 of these other payments. This extra money is deposited into a separate account, with money from this account used to pay semi-annual real estate taxes, annual insurance premium, etc., when each comes due. Survey A survey is the process of physically determining the size and/or boundaries of a property. A bank may require this type of survey, but it is expensive. A bank is more likely to request a location survey, which determines whether the property's buildings encroach onto adjoining property, or any adjoining property's buildings encroach on the subject property. The exact boundaries of the property are not certified by a location survey, but it is often required for the secondary mortgage market. Evidence of Marketable Title Marketable title means that a title is free from defects, and a person has the right to transfer ownership of the property. There are generally four ways to show evidence of marketable title: 1. Abstract of title 2. Certificate of title 3. Title report 4. Title insurance Lenders usually require title insurance because of the protection it offers.

Title Insurance

Insurance that indemnifies against losses resulting from undiscovered title defects and encumbrances.

Title Insurance: Other Policies

Mortgagee's Policies Like other types of insurance, the mortgagee (lender) may have a policy drawn in its own name to protect its interests in the property. The mortgagee's policy is for the loan amount that is outstanding at the time a claim would be paid. The owner's policies and the mortgagee's policies typically coincide, so the title insurance issuer is not paying twice on the same claim to the mortgagee and owner. Leasehold Policies A less common type of title insurance is the leasehold policy. Lessees typically obtain this type of insurance when a substantial amount of money has been invested in a property (e.g., a building owned on leased land). Easement Policies Another type of uncommon title insurance is the easement policy, which is used to protect easement owner's interests across another's property.

Title Insurance: Owner's Policies

Owner's fee title insurance policies are issued in the name of the property owner. Coverage runs from the time of purchase for as long as the policyholder owns the property. When a new party purchases the property, he will need to buy a new policy and be named as beneficiary to collect on a claim from a title defect. To purchase title insurance, a one-time payment is made when buying property. The maximum exposure for the company issuing the policy is the full value of the property at the time the policy is purchased, unless the policy provides for inflation adjustment. Claims are paid based upon the actual decrease in value caused to the property. The full-face amount of the policy (full value of the property) is rarely paid out unless a serious defect causes the owner to lose title to the property (except, of course, when due to foreclosure). A company issuing title insurance usually reserves the right to pursue third parties to regain any claim money paid (also called subrogation).

Proration: Prepaid Items

Prepaid expenses are the items on a settlement statement that the seller has already paid (e.g., homeowners insurance, association fees, utility bills, some property or special assessment taxes). Since the seller has already paid for these items, he is entitled to a credit for the portion paid but that will not be used by him. For Example: The sale of Bill's home closes on July 31. Property taxes in Ohio are paid twice a year (June 30 and December 31), so Bill is current on his property taxes only through the first half of the year. Since Bill occupied the home for 31 additional days, he is responsible for that portion of the tax bill. At closing Bill, the seller, will be debited a prorated amount for those 31 days. The buyer will be credited that prorated amount and pay the entire tax bill when it comes due on December 31.

Proration

Proration is the division of expenses between buyer and seller in proportion to the actual usage of the item represented by a particular expense. A proration is also known as an adjustment. Proration is an important concept to understand for real estate practice, as well as for the real estate licensing exam. In order to adjust a cost shared by both buyer and seller, it is necessary to determine whether the expense is accrued or prepaid.

v RESPA Provisions Under TRID

RESPA standardizes real estate closings by: - Requiring lenders to provide a Loan Estimate that includes a "good faith" estimate of settlement costs no later than three business days following the date of a completed mortgage loan application. - Requiring lenders to provide a booklet explaining settlement costs. - Requiring the use of a standardized Closing Disclosure form that must be completed and provided to the borrower at least three business days prior to closing. Note: The Consumer Financial Protection Bureau (CFPB) issued a final rule to integrate disclosures and regulations required by the Real Estate Settlement Procedures Act and the Truth in Lending Act. The purpose of the final rule, called TILA-RESPA Integrated Disclosure (TRID Rule), is to improve consumer understanding of the mortgage process, aid in comparison shopping, and help to prevent surprises at the closing table.

Real Estate Settlement and Procedures Act (RESPA)

The Real Estate Settlement Procedures Act (RESPA) is a federal law dealing with real estate closings that sets forth specific procedures and guidelines for disclosure of settlement costs. RESPA laws apply to most sales of one- to four-unit residential properties (including condos, co-ops, and mobile homes) where the purchase loan is secured by a first mortgage on the property. The Act does not apply to: - Loans used to finance the purchase of 25 acres or more, - Loans for the purchase of vacant land, or - Transactions where the buyer assumes, or takes subject to, an existing first lien loan. RESPA rules and compliance are administered by the Consumer Financial Protection Bureau (CFPB). CFPB's purpose is to regulate settlement and closing procedures and practices. RESPA laws call for disclosure of all settlement costs, using standardized settlement statements given to borrowers.

Proration

The division of expenses between the buyer and seller in proportion to the actual usage of the item represented by a particular expense. Also called adjustments.

Closing

The final state in a real estate transaction where ownership of real property is transferred from the seller to the buyer according to the terms and conditions set forth in a sales contract or escrow agreement.

Survey

The process of precisely measuring the boundaries and determining the area of a parcel of land.

Disclosures: Closing Disclosure Statement

The standardized settlement statement, known as the Closing Disclosure, is a five-page document that must be used in all RESPA-related transactions, i.e., any one- to four-family residential properties that are financed by federally regulated lenders. The Closing Disclosure, which is defined under the TILA-RESPA Integrated Disclosure (TRID) rule of the Consumer Financial Protection Bureau, replaces the HUD-1 Settlement Statement that was standard for real estate transactions for decades. Generally speaking, the settlement officer and the lender will collaborate to gather the data and calculations necessary to prepare the Closing Disclosure. Either the settlement officer or the lender may prepare the final Closing Disclosure, but it is the lender who is ultimately responsible for ensuring that the Closing Disclosure is available for the borrower's inspection at least three business days prior to loan consummation. The lender must also obtain proof that the borrower received the Closing Disclosure. Although most costs appear on the Closing Disclosure, some do not. If an item is paid outside of closing, then the party paid the cost personally and it may not appear (e.g., fee for a professional home inspection, fee for an attorney to represent one of the parties to the transaction). In these cases, the party paid the professionals directly. The escrow deposits that lenders require a buyer to pay in order to cover future property taxes or homeowners insurance are required to appear on the Closing Disclosure. On the next page, you can review a sample Closing Disclosure.

Real Estate Closings

The word "closing" has several meanings in the real estate field. When getting a listing or making a sale, closing means the ability of the agent to convince or persuade people that listing their property or buying a particular property with the agent is in their best interests. After the sale is made, closing is the date of ownership. Closing can also refer to the act of transferring ownership. The ability of agents to sell and advise people to list property with them, or make a sale, is important, but knowing the mechanics of the closing process is also critical. Brokers may give their agents the task of closing the deal and buyers and sellers may have questions and concerns, especially if it is their first time through the process. At first, the broker may need to help, but an agents' knowledge of the closing process will grow from experience.

Types of Title Insurance Policies

There are two broad categories of title insurance policies: - Standard coverage - Extended coverage They can be further divided into four classes: - Mortgagee's policies - Owner's policies - Leasehold policies - Easement policies The typical procedure is the same for each type of policy: The title searcher prepares a report; the title company's attorney reviews the report and then draws up a letter of opinion; the title insurance policy is then written based on the report and opinion letter.

Third Party Involvement in Closings

There may be many other parties involved in a closing besides the buyer and seller. Typically, a buyer and seller will have their representatives involved in the closing (e.g., real estate agent, attorney, escrow agent). Other parties that have an important function in a real estate closing are the: - Lender - Real estate attorney - Title company

Calculating Prorations

When performing proration calculations, it is important to know the factor on which to base the adjustment. Expenses may be prorated using a: - 360-day year with 12 months of 30 days each. - 365-day year, counting the exact number of days in each month (taking leap years into account). Note: If the problem does not specify which one to use, use the 365-day year. Either way, the steps to calculate the adjustment are similar: 1. Determine if the expense is accrued or prepaid. 2. Divide the expense by the appropriate period to find a monthly/daily rate. 3. Determine how many months/days are affected by the expense. 4. Multiply the monthly/daily rate by the number of affected months/days. 5. Determine which party is credited and which is debited. Also note that the seller always pays for the day of closing. There are additional proration rules that deal with rents and deposits when buying or selling rental properties, but these are not relevant to the state exam. Agents should discuss these with their broker if they choose to go into commercial real estate.

Title Insurance: Standard Coverage

With standard coverage title insurance, the title insurance policy states all possible clouds or problems with the title, like liens or unpaid taxes. These, along with any other defects discovered in the public records (or by other means), are listed in the actual title insurance policy. Listed problems become exceptions to the title insurance policy coverage. In other words, the title insurance company writes the policy to exclude these known items from the coverage. If there is a claim against the title by a lienholder that was disclosed to the new buyer in the title search results and stated in the title insurance policy, the title insurance company might not have to pay compensation for this claim. It would be the new homeowner's responsibility, since he was made aware of this possible claimant. Title insurance protects the homeowner from claimants not stated in the insurance policy, including defects in the public records such as forged documents, improper deeds, and other mistakes.