© 2013 rockwell publishing washington real estate practices lesson 11: closing the transaction

© 2013 Rockwell Publishing

Washington Real Estate Practices

Lesson 11:

Closing the Transaction


Introduction

Tasks to be completed before closing: arranging financing obtaining title insurance ordering inspections and repairspreparing legal documents


Escrow

Some tasks completed by lender or parties, but most by escrow agent (closing agent). Escrow used to close most real estate

sales transactions in Washington.

Use closing checklist to keep track of closing process, noting when each item is completed.


EscrowEscrow process

With escrow, parties need not be present at same time to close sale. Each party can deposit funds and sign

documents separately.

Escrow also makes it harder for one party to back out of transaction.


EscrowEscrow agents

Escrow agent: neutral third party that holds funds and legal documents on behalf of buyer and seller.


EscrowEscrow agents

An escrow agent:ensures legal documents are prepared

and executed arranges for documents to be recorded calculates settlement costsprepares settlement statements


EscrowEscrow agents

Escrow may be handled by title insurance companies, independent escrow companies, or the escrow department of the institutional lender.


EscrowEscrow agents

In Washington, escrow agents must be licensed and registered by the Department of Financial Institutions.

Exempt: Attorneys, title companies, banks, savings and loans, credit unions, insurance companies, federally approved lenders, and those acting under court supervision.


EscrowEscrow agents

Also exempt: Real estate licensee providing escrow services for transaction she’s handling. May not charge additional fee for this

service.


EscrowEscrow agents

If you are seller’s agent, would person performing escrow services need to be licensed in following situations?

1. Your designated broker agrees to act as escrow agent for the parties. He charges extra fee for this service.


EscrowEscrow agents

2. Your designated broker arranges for another designated broker with no connection to the parties to act as escrow agent.

3. Your designated broker arranges for attorney that advised the parties on legal problem with transaction to provide escrow services.


The Closing ProcessOpening escrow

Escrow usually opened when buyer’s lender delivers purchase and sale agreement to its escrow department, or when real estate agent delivers agreement to escrow agent parties chose.Escrow agent uses purchase and sale

agreement as basis for preparing escrow instructions.


The Closing Process Escrow instructions

Escrow instructions: tells escrow agent what conditions must be fulfilled before purchase funds can be disbursed to seller and deed can be delivered to buyer.


The Closing ProcessInspections

Any necessary inspections are ordered. If buyer’s lender requires particular

inspection, lender must receive copy of inspection report after it’s approved by buyer.

If report calls for repairs, proof of repairs must also be forwarded to lender.


The Closing ProcessTitle report

Escrow agent will order title report if lender hasn’t already ordered one. Title report is sent to escrow agent, who

forwards a copy to buyer.

Buyer must approve title report. Any problems must be fixed by seller.


The Closing ProcessSeller’s mortgage

If seller has mortgage, it must be paid off at closing with proceeds from sale.Escrow agent will get final payoff figure

from lender, using a “Demand for Payoff” or “Request for Beneficiary’s statement.”


The Closing ProcessLoan documents

Once buyer’s loan is approved, lender sends loan documents to escrow agent to have buyer review and sign them.Signed documents are returned to

lender, who coordinates funding of loan with escrow agent.


The Closing ProcessFunding loan

Once all contingencies have been fulfilled, buyer deposits funds for downpayment and closing costs into escrow account.Lender may then disburse loan funds to

escrow agent.But many lenders wait until new deed

and mortgage or deed of trust are recorded.


The Closing ProcessRecording

Escrow agent sends documents to be recorded to title company.

Title company tells escrow agent how much title insurance policies cost and what recording fees will total.


The Closing ProcessDisbursement of funds

Escrow agent then prepares settlement statements and disburses funds to seller, real estate brokerage, and other parties entitled to payment.

Title company files documents with county clerk for recording.


The Closing ProcessFinal steps

Buyer receives copies of final loan documents, and each party gets settlement statement.

When buyer’s hazard insurance policy is issued, copy must be sent to buyer’s lender.

SummaryEscrow and Closing

EscrowEscrow agentsClosing process




Many real estate transactions are conditioned on one or more satisfactory inspections.May be required by buyer or buyer’s

lender.



Fulfilling inspection contingency:initial inspection must be orderedinspection report must be approved or

rejected by buyer or lender any needed repairs must be completed

and reinspectedparties must be notified of reinspection

results



Order inspections early in escrow process so any needed repairs can be completed and reinspected before closing.


InspectionsTypes of inspections

Structural inspection: inspector identifies materials used, type of construction, and accessibility of areas to be inspected.

Inspector checks for problems in building’s structural systems, such as foundation, floor, wall, and roof framing.



Electrical and plumbing inspection: inspector checks electrical and plumbing systems for capacity, safety, life expectancy, and unsanitary conditions.

If water source is a private well, quality and quantity may be checked.



Interior inspection: inspector checks walls, floors, and ceilings for signs of water damage, fire hazards, or other problems.

Ventilation/energy conservation issues are noted, and appliances are checked for operation.



Pest inspection: inspector checks for damage from wood-eating insects such as termites, wood-boring beetles, and carpenter ants.

Soil inspection: inspector examines soil conditions for existing or potential settling or drainage problems.



Environmental inspection: addresses concerns about radon, urea formaldehyde, asbestos, lead-based paint, underground storage tanks, and contaminated water.


InspectionsChoosing an inspector

Brokerage firm must have written policy on referring home inspectors.Agent must disclose in writing any

relationship that exists with inspector before buyer or seller hires inspector.

Agent must check the state licensing database to make sure any home inspector recommended is licensed.



Inspections that buyer requires are usually ordered and paid for by buyer.

Questions buyer can ask home inspector:1. How long has firm or individual inspector

been in business? (Check license with Dept. of Licensing.)

2. Is firm member of American Society of Home Inspectors?



3. Has firm changed name recently?

4. What type of report does firm use? How long to complete report and get it to client?

5. How many inspectors in firm? Full-time or part-time?



6. Does firm engage in other business in addition to inspections?

7. Does firm also offer to make any repairs recommended by inspection?

8. Does firm provide references?


InspectionsInspection reports

After completing inspection, inspector prepares and issues report.



Inspection report should:

1. Summarize any major concerns or areas needing repair. Include info about substandard

workmanship and problems such as rot, pest damage, faulty electrical systems, or lead plumbing materials.



2. Put condition of home into perspective by comparing to homes of similar style and age.

3. Project a five-year budget for any anticipated repair work and identify potential remodeling problems.



Party who requested report will approve or disapprove it. If disapproved, repairs may be required

before transaction can close.


The Closing ProcessFinancing

Most buyers get preapproved for financing before seriously looking for home. Preapproval like applying for loan:

choose lender, submit loan application, and undergo analysis of income, net worth, and credit reputation.


The Closing ProcessAppraisal

Lender won’t fund loan unless appraisal shows property is adequate security for loan.Lender orders appraisal as part of the

loan underwriting process.

Residential appraisal very similar to competitive market analysis, but with more selective data and a more detailed report.


The Closing ProcessHazard insurance

Lenders require security property to be insured up to replacement cost.

Usually minimum insurance policy is HO-3 policy, which covers against most common hazards.


The Closing ProcessHazard insurance

However, policy typically doesn’t cover floods or earthquakes.

Does cover personal property on premises, and provides limited coverage for personal injury and property damage caused by policy holder.


The Closing ProcessTitle insurance

Either escrow agent or lender orders title report from title company.Title report shows condition of seller’s

title. Order early enough to address title

problems before closing.


The Closing ProcessTitle insurance

Seller must pay off any outstanding liens to deliver clear title to buyer. Clearing liens can usually be arranged

through escrow.


Title InsuranceLender’s policy

Lender will require buyer to purchase lender’s title insurance policy.Also referred to as mortgagee’s policy.

Lender’s policy protects lender’s security interest against loss due to title defects that were not discovered at time of sale.


Title InsuranceOwner’s policy

Usually seller buys owner’s title insurance policy for buyer.

Owner’s policy protects buyer against undiscovered title problems that arose during seller’s period of ownership or earlier.



The type of owner’s policy commonly purchased also protects against encroachments and unrecorded liens.



If claim covered by policy is asserted against buyer’s title, title company will pay legal fees to defend buyer’s title. If necessary, title company will pay off

claim, up to face amount of policy.


Title InsuranceStandard coverage

Standard coverage title insurance: protects policy holder against problems that concern matters of record (deeds, liens, and other interests that appear in public record).


Title InsuranceExtended coverage

Extended coverage title insurance: protects against same things as standard coverage policy, plus matters discoverable through actual inspection.Examples: encroachments or adverse

possession.


Title InsuranceExtended coverage

Lender will usually require lender’s policy to be extended coverage policy.


Title InsuranceHomeowner’s coverage

Homeowner’s coverage title insurance: similar to extended coverage policy, but also covers additional issues such as violations of restrictive covenants.Available only in 1- to 4-unit residential

transactions. In WA, owner’s title insurance policy is

usually homeowner’s coverage.

SummaryThe Closing Process

InspectionsFinancingAppraisalHazard insuranceTitle insurance



Closing Costs

Incidental expenses of closing include inspection fees, title insurance fees, recording fees, escrow fees, and loan fees. Some fees are paid by buyer, some by

seller, and some are shared.


Closing CostsSettlement statements

Each party’s closing costs are listed in settlement statement prepared by escrow agent.Buyer’s settlement statement shows how

much buyer will have to pay at closing. Seller’s statement shows how much cash

seller will take away from closing.


Closing CostsProration

Some expenses are prorated between buyer and seller.

Proration: dividing and allocating expense proportionately, according to time, interest, or benefit.



Three steps in prorating costs:

1. Divide expense by number of days to determine per diem (daily) rate. Annual expense usually divided by 365

days; monthly expense divided by number of days in specific month.



2. Determine how many days one party is responsible for expense.

3. Multiply number of days by per diem rate to calculate that party’s share of expense.



Example: Property’s annual property tax bill is $1,200. Seller has already paid taxes through end of property tax year (Jan 31 in WA).

Closing is on July 14. If buyer is responsible for day of closing, how much will buyer owe seller for taxes at closing?



Determine per diem rate by dividing $1,200 by 365 to get $3.29.

Next, find number of days that are buyer’s responsibility—from July 14 forward, there are 171 days until the end of the year.

Finally, multiply $3.29 by 171 days. Buyer must pay seller $562.59 for property taxes.


Buyer’s Net Cost

Buyer’s costs include:purchase priceloan costsprepaid interestrecording and escrow feesproperty taxes

Use worksheet to list items and calculate buyer’s net cost.


Buyer’s Net CostPurchase price and financing

Buyer’s largest cost is purchase price.

Buyer usually gives seller earnest money deposit when purchase agreement is signed. So the deposit is subtracted from

purchase price on worksheet.


Buyer’s Net CostPurchase price and financing

Buyer’s loan amount (including seller financing or assumed seller’s loan) is also subtracted from purchase price on worksheet.

Financing in any form is credit for buyer, offsetting purchase price.


Buyer’s Net CostLoan costs

Loan costs (appraisal, credit report, origination fee, and discount points) are usually paid by buyer.


Buyer’s Net CostPrepaid interest

Real estate loan interest is paid in arrears—interest that accrues each month is paid at end of month.

Buyer’s first mortgage payment isn’t due until first day of second month following closing. Gives buyers chance to recover from

closing costs.


Buyer’s Net CostPrepaid interest

So if transaction closes on March 15, first payment is due on May 1, covering interest that accrued in April (but not for March 15–March 31).

Lender requires buyer to pay interest for those 17 days in March at closing. Called prepaid interest or interim interest.


Buyer’s Net CostOther closing costs

Buyer may also pay for lender’s title insurance policy, inspection fees, and hazard insurance policy.


Buyer’s Net CostRecording and escrow fees

Recording fee is usually paid by party benefiting from recording. Fees for recording deed and new

mortgage or deed of trust normally paid by buyer.

Parties typically split escrow fee.


Other Closing CostsProperty taxes

Seller responsible for property taxes up to day of closing; buyer responsible for day of closing and thereafter. If seller has already paid that year’s

taxes, he gets prorated refund from buyer at closing.


Buyer’s Net CostTotal

Once worksheet is completely filled out, calculate buyer’s net cost—amount needed to close sale.

Tell buyer type of check required at closing—probably certified check or cashier’s check. Personal checks usually not acceptable.


Seller’s Net Proceeds

Use worksheet to list items and calculate seller’s net proceeds. Seller’s largest credit is sales price.Seller’s proceeds may be increased by

refunds, such as for prorated property taxes.


Seller’s Net ProceedsReserves

Most lenders make borrower pay portion of property taxes and hazard insurance every month. Payments go into reserve account.

When seller’s loan is paid off, unused balance in reserve account is refunded to seller.


Seller’s Net ProceedsLoan payoff

Finally, add up seller’s credits to get seller’s proceeds. Then deduct costs seller must pay at closing.

Seller usually pays off existing loan. Payoff amount = current unpaid principal

balance, plus any unpaid interest.


Seller’s Net ProceedsLoan payoff

Escrow agent obtains payoff figure from seller’s lender.


Seller’s Net ProceedsUnpaid interest

If transaction closes in middle of month, seller will owe lender some interest.

Example: Transaction closes on March 15. Seller’s March 1 payment covers interest from February, but seller owes lender interest for March 1–March 15.


Seller’s Net ProceedsUnpaid interest

Some loan programs—such as FHA—require seller to pay full month’s interest at closing, regardless of closing date.


Seller’s Net ProceedsPrepayment penalty

Seller may have to pay prepayment penalty for paying loan off before end of term.


Seller’s Net ProceedsCommission

Seller pays real estate brokerage firm’s commission, which is calculated by multiplying purchase price by commission rate.


Seller’s Net ProceedsTitle insurance

The seller usually pays the premium for owner’s title insurance policy.


Seller’s Net ProceedsExcise tax

Washington imposes excise tax on sale of real property.Excise tax typically paid by seller.

Tax rate varies depending on location of property.


Seller’s Net ProceedsRecording and escrow fees

Seller pays his share of recording fees and half of escrow fee.


Seller’s Net ProceedsTotals

Subtracting the seller’s loan payoff and closing costs from seller’s total proceeds results in seller’s net proceeds—the amount he can expect to take away from closing.

SummaryClosing Costs

Settlement statementProrationPurchase price and financingPrepaid interestProperty taxesExcise tax



Federal Laws and Closing

Three federal income tax laws that affect closing: Form 1099 reportingForm 8300 reportingForeign Investment in Real Property Tax

Act


Federal Laws and ClosingForm 1099 reporting

Escrow agents generally must report sales of real property to IRS (exemptions exist).

Form 1099-S used to report seller’s name and social security number and sale’s gross proceeds.Escrow agent can’t charge separate fee

for filling out 1099-S form.


Federal Laws and ClosingForm 8300 reporting

Closing agent must file IRS Form 8300 if she receives more than $10,000 in cash.

Form due within 15 days of receiving the cash. Copy should be kept five years.


Federal Laws and ClosingFIRPTA

Foreign Investment in Real Property Tax Act (FIRPTA): requires escrow agent to determine whether seller is U.S. citizen or resident alien. If seller not citizen or resident alien,

escrow agent must withhold 10% of amount realized (generally, the sales price) and give to IRS.


Federal Laws and ClosingFIRPTA

Residential sales exempt if:buyers will occupy property as their

home, and sales price is $300,000 or less.


Federal Laws and ClosingRESPA

Real Estate Settlement Procedures Act (RESPA): helps provide borrowers with closing cost information, and eliminate kickbacks and referral fees. RESPA applies to most residential

mortgage loans made by institutional lenders.


Federal Laws and ClosingRESPA

Exceptions: Loan for business, agricultural, or

commercial purposes.Loan used to purchase 25 acres or more.Loan used to purchase vacant land for

investment purposes, construction loan when borrower already owns lot, or assumption of existing mortgage that does not require lender’s approval.


RESPA Requirements

HUD booklet: lender must give HUD-approved booklet to loan applicant within 3 days of receiving written loan application. Booklet explains RESPA, closing costs, and the uniform settlement statement.


RESPA Requirements

Good faith estimate: lender must give applicant good faith estimate (GFE) of closing costs within 3 days of receiving application.


RESPA Requirements

Mortgage servicing disclosure: lender must inform borrower of likelihood that lender will service loan or sell it to another investor.


RESPA Requirements

Required provider: if lender or other settlement provider requires use of particular appraiser, title company, or other service provider, this must be disclosed at time of application or agreement.


RESPA Requirements

Referral: if any service provider is in position to refer borrower to “affiliated” provider, joint business relationship must be fully disclosed.Must also disclose fee estimates and

language that referral is optional.


RESPA Requirements

Uniform settlement statement: escrow agent must itemize all closing costs on uniform settlement statement form, given to parties at closing. Escrow agent must allow borrower to

inspect uniform settlement statement one business day before closing, if borrower asks to do so.


RESPA Requirements

No excessive deposits: if borrower must make impound account deposits for taxes, insurance, and other recurring costs, lender can’t require larger deposits than necessary.


RESPA Requirements

No kickbacks or referral fees: if loan is covered by RESPA, lenders and other settlement services providers can’t pay kickbacks or referral fees, accept unearned fees for services not actually provided, or charge fee for preparing uniform settlement statement.


RESPA Requirements

No title company requirements: seller can’t require buyer to use particular title company.


RESPA RequirementsGood Faith Estimate form

Lenders and mortgage brokers must provide the required good faith estimate of closing costs on a GFE form published by HUD.



The GFE form provides consumers with detailed information about their loan and closing costs, making it easier for borrowers to shop around. Lenders and mortgage brokers should

give borrowers the GFE form early in the lending process so borrowers have time to obtain multiple GFEs and compare costs.



HUD limits how much certain good faith cost estimates can increase by the closing date. Loan originators can avoid penalties for

excessive cost increases by amending the GFE form and issuing refunds to borrowers within 30 days of closing (if excessive costs were paid).

SummaryFederal Laws and Closing

1099 reporting8300 reportingFIRPTARESPARESPA requirementsUniform settlement statement

formGFE form


© 2013 rockwell publishing washington real estate practices lesson 11: closing the transaction

Documents

escrow services

escrow department

escrow account

independent escrow companies

agent parties

transaction slide

closing process loan

sellers agent