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Washington Real Estate PracticesLesson 11: Closing the Transaction © 2013 Rockwell Publishing
Introduction Tasks to be completed before closing: arranging financingobtaining title insurance ordering inspections and repairs preparing legal documents © 2013 Rockwell Publishing
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. © 2013 Rockwell Publishing
Escrow Escrow 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. © 2013 Rockwell Publishing
Escrow Escrow agents Escrow agent: neutral third party that holds funds and legal documents on behalf of buyer and seller. © 2013 Rockwell Publishing
Escrow Escrow agents An escrow agent:ensures legal documents are prepared and executed arranges for documents to be recorded calculates settlement costs prepares settlement statements © 2013 Rockwell Publishing
Escrow Escrow agents Escrow may be handled by title insurance companies, independent escrow companies, or the escrow department of the institutional lender. © 2013 Rockwell Publishing
Escrow Escrow 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. © 2013 Rockwell Publishing
Escrow Escrow agents Also exempt: Real estate licensee providing escrow services for transaction she’s handling. May not charge additional fee for this service. © 2013 Rockwell Publishing
Escrow Escrow agents If you are seller’s agent, would person performing escrow services need to be licensed in following situations? Your designated broker agrees to act as escrow agent for the parties. He charges extra fee for this service. © 2013 Rockwell Publishing
Escrow Escrow agents Your designated broker arranges for another designated broker with no connection to the parties to act as escrow agent. Your designated broker arranges for attorney that advised the parties on legal problem with transaction to provide escrow services. © 2013 Rockwell Publishing
The Closing Process Opening escrowEscrow 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. © 2013 Rockwell Publishing
The Closing Process Escrow instructionsEscrow instructions: tells escrow agent what conditions must be fulfilled before purchase funds can be disbursed to seller and deed can be delivered to buyer. © 2013 Rockwell Publishing
The Closing Process InspectionsAny 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. © 2013 Rockwell Publishing
The Closing Process Title reportEscrow 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. © 2013 Rockwell Publishing
The Closing Process Seller’s mortgageIf 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.” © 2013 Rockwell Publishing
The Closing Process Loan documentsOnce 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. © 2013 Rockwell Publishing
The Closing Process Funding loanOnce 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. © 2013 Rockwell Publishing
The Closing Process RecordingEscrow 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. © 2013 Rockwell Publishing
The Closing Process Disbursement of fundsEscrow 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. © 2013 Rockwell Publishing
The Closing Process Final stepsBuyer 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. © 2013 Rockwell Publishing
Summary Escrow and ClosingEscrow agents Closing process © 2013 Rockwell Publishing
The Closing Process InspectionsMany real estate transactions are conditioned on one or more satisfactory inspections. May be required by buyer or buyer’s lender. © 2013 Rockwell Publishing
The Closing Process InspectionsFulfilling inspection contingency: initial inspection must be ordered inspection report must be approved or rejected by buyer or lender any needed repairs must be completed and reinspected parties must be notified of reinspection results © 2013 Rockwell Publishing
The Closing Process InspectionsOrder inspections early in escrow process so any needed repairs can be completed and reinspected before closing. © 2013 Rockwell Publishing
Inspections Types of inspectionsStructural 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. © 2013 Rockwell Publishing
Inspections Types of inspectionsElectrical 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. © 2013 Rockwell Publishing
Inspections Types of inspectionsInterior 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. © 2013 Rockwell Publishing
Inspections Types of inspectionsPest 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. © 2013 Rockwell Publishing
Inspections Types of inspectionsEnvironmental inspection: addresses concerns about radon, urea formaldehyde, asbestos, lead-based paint, underground storage tanks, and contaminated water. © 2013 Rockwell Publishing
Inspections Choosing an inspectorBrokerage 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. © 2013 Rockwell Publishing
Inspections Choosing an inspectorInspections that buyer requires are usually ordered and paid for by buyer. Questions buyer can ask home inspector: How long has firm or individual inspector been in business? (Check license with Dept. of Licensing.) Is firm member of American Society of Home Inspectors? © 2013 Rockwell Publishing
Inspections Choosing an inspectorHas firm changed name recently? What type of report does firm use? How long to complete report and get it to client? How many inspectors in firm? Full-time or part-time? © 2013 Rockwell Publishing
Inspections Choosing an inspectorDoes firm engage in other business in addition to inspections? Does firm also offer to make any repairs recommended by inspection? Does firm provide references? © 2013 Rockwell Publishing
Inspections Inspection reportsAfter completing inspection, inspector prepares and issues report. © 2013 Rockwell Publishing
Inspections Inspection reportsInspection report should: 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. © 2013 Rockwell Publishing
Inspections Inspection reportsPut condition of home into perspective by comparing to homes of similar style and age. Project a five-year budget for any anticipated repair work and identify potential remodeling problems. © 2013 Rockwell Publishing
Inspections Inspection reportsParty who requested report will approve or disapprove it. If disapproved, repairs may be required before transaction can close. © 2013 Rockwell Publishing
The Closing Process FinancingMost 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. © 2013 Rockwell Publishing
The Closing Process AppraisalLender 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. © 2013 Rockwell Publishing
The Closing Process Hazard insuranceLenders require security property to be insured up to replacement cost. Usually minimum insurance policy is HO-3 policy, which covers against most common hazards. © 2013 Rockwell Publishing
The Closing Process Hazard insuranceHowever, 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. © 2013 Rockwell Publishing
The Closing Process Title insuranceEither 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. © 2013 Rockwell Publishing
The Closing Process Title insuranceSeller must pay off any outstanding liens to deliver clear title to buyer. Clearing liens can usually be arranged through escrow. © 2013 Rockwell Publishing
Title Insurance Lender’s policyLender 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. © 2013 Rockwell Publishing
Title Insurance Owner’s policyUsually 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. © 2013 Rockwell Publishing
Title Insurance Owner’s policyThe type of owner’s policy commonly purchased also protects against encroachments and unrecorded liens. © 2013 Rockwell Publishing
Title Insurance Owner’s policyIf 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. © 2013 Rockwell Publishing
Title Insurance Standard coverageStandard coverage title insurance: protects policy holder against problems that concern matters of record (deeds, liens, and other interests that appear in public record). © 2013 Rockwell Publishing
Title Insurance Extended coverageExtended coverage title insurance: protects against same things as standard coverage policy, plus matters discoverable through actual inspection. Examples: encroachments or adverse possession. © 2013 Rockwell Publishing
Title Insurance Extended coverageLender will usually require lender’s policy to be extended coverage policy. © 2013 Rockwell Publishing
Title Insurance Homeowner’s coverageHomeowner’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. © 2013 Rockwell Publishing
Summary The Closing ProcessInspections Financing Appraisal Hazard insurance Title insurance © 2013 Rockwell Publishing
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. © 2013 Rockwell Publishing
Closing Costs Settlement statementsEach 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. © 2013 Rockwell Publishing
Closing Costs ProrationSome expenses are prorated between buyer and seller. Proration: dividing and allocating expense proportionately, according to time, interest, or benefit. © 2013 Rockwell Publishing
Closing Costs ProrationThree steps in prorating costs: 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. © 2013 Rockwell Publishing
Closing Costs ProrationDetermine how many days one party is responsible for expense. Multiply number of days by per diem rate to calculate that party’s share of expense. © 2013 Rockwell Publishing
Closing Costs ProrationExample: 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? © 2013 Rockwell Publishing
Closing Costs ProrationDetermine 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 $ for property taxes. © 2013 Rockwell Publishing
Buyer’s Net Cost Buyer’s costs include: purchase price loan costsprepaid interest recording and escrow fees property taxes Use worksheet to list items and calculate buyer’s net cost. © 2013 Rockwell Publishing
Buyer’s Net Cost Purchase price and financingBuyer’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. © 2013 Rockwell Publishing
Buyer’s Net Cost Purchase price and financingBuyer’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. © 2013 Rockwell Publishing
Buyer’s Net Cost Loan costsLoan costs (appraisal, credit report, origination fee, and discount points) are usually paid by buyer. © 2013 Rockwell Publishing
Buyer’s Net Cost Prepaid interestReal 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. © 2013 Rockwell Publishing
Buyer’s Net Cost Prepaid interestSo 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. © 2013 Rockwell Publishing
Buyer’s Net Cost Other closing costsBuyer may also pay for lender’s title insurance policy, inspection fees, and hazard insurance policy. © 2013 Rockwell Publishing
Buyer’s Net Cost Recording and escrow feesRecording 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. © 2013 Rockwell Publishing
Other Closing Costs Property taxesSeller 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. © 2013 Rockwell Publishing
Buyer’s Net Cost Total 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. © 2013 Rockwell Publishing
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. © 2013 Rockwell Publishing
Seller’s Net Proceeds ReservesMost 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. © 2013 Rockwell Publishing
Seller’s Net Proceeds Loan payoffFinally, 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. © 2013 Rockwell Publishing
Seller’s Net Proceeds Loan payoffEscrow agent obtains payoff figure from seller’s lender. © 2013 Rockwell Publishing
Seller’s Net Proceeds Unpaid interestIf 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. © 2013 Rockwell Publishing
Seller’s Net Proceeds Unpaid interestSome loan programs—such as FHA—require seller to pay full month’s interest at closing, regardless of closing date. © 2013 Rockwell Publishing
Seller’s Net Proceeds Prepayment penaltySeller may have to pay prepayment penalty for paying loan off before end of term. © 2013 Rockwell Publishing
Seller’s Net Proceeds CommissionSeller pays real estate brokerage firm’s commission, which is calculated by multiplying purchase price by commission rate. © 2013 Rockwell Publishing
Seller’s Net Proceeds Title insuranceThe seller usually pays the premium for owner’s title insurance policy. © 2013 Rockwell Publishing
Seller’s Net Proceeds Excise taxWashington imposes excise tax on sale of real property. Excise tax typically paid by seller. Tax rate varies depending on location of property. © 2013 Rockwell Publishing
Seller’s Net Proceeds Recording and escrow feesSeller pays his share of recording fees and half of escrow fee. © 2013 Rockwell Publishing
Seller’s Net Proceeds TotalsSubtracting 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. © 2013 Rockwell Publishing
Summary Closing Costs Settlement statement ProrationPurchase price and financing Prepaid interest Property taxes Excise tax © 2013 Rockwell Publishing
Federal Laws and ClosingThree federal income tax laws that affect closing: Form 1099 reporting Form 8300 reporting Foreign Investment in Real Property Tax Act © 2013 Rockwell Publishing
Federal Laws and Closing Form 1099 reportingEscrow 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. © 2013 Rockwell Publishing
Federal Laws and Closing Form 8300 reportingClosing 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. © 2013 Rockwell Publishing
Federal Laws and Closing FIRPTAForeign 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. © 2013 Rockwell Publishing
Federal Laws and Closing FIRPTAResidential sales exempt if: buyers will occupy property as their home, and sales price is $300,000 or less. © 2013 Rockwell Publishing
Federal Laws and Closing RESPAReal 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. © 2013 Rockwell Publishing
Federal Laws and Closing RESPAExceptions: 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. © 2013 Rockwell Publishing
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. © 2013 Rockwell Publishing
RESPA Requirements Good faith estimate: lender must give applicant good faith estimate (GFE) of closing costs within 3 days of receiving application. © 2013 Rockwell Publishing
RESPA Requirements Mortgage servicing disclosure: lender must inform borrower of likelihood that lender will service loan or sell it to another investor. © 2013 Rockwell Publishing
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. © 2013 Rockwell Publishing
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. © 2013 Rockwell Publishing
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. © 2013 Rockwell Publishing
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. © 2013 Rockwell Publishing
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. © 2013 Rockwell Publishing
RESPA Requirements No title company requirements: seller can’t require buyer to use particular title company. © 2013 Rockwell Publishing
RESPA Requirements Good Faith Estimate formLenders and mortgage brokers must provide the required good faith estimate of closing costs on a GFE form published by HUD. © 2013 Rockwell Publishing
RESPA Requirements Good Faith Estimate formThe 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. © 2013 Rockwell Publishing
RESPA Requirements Good Faith Estimate formHUD 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). © 2013 Rockwell Publishing
Summary Federal Laws and Closing1099 reporting 8300 reporting FIRPTA RESPA RESPA requirements Uniform settlement statement form GFE form © 2013 Rockwell Publishing
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