3 LEARNING OBJECTIVES At the conclusion of this chapter, students will be able to: Understand the key provisions of the Real Estate Settlement Procedures Act. Describe how the good faith estimate is used and delivered in the settlement process. Explain the Truth-in-Lending Act disclosures both prior to loan application during advertising and customer of the Annual Percentage Rate a/k/a (APR). Explain the unique disclosure requirements of the Truth-in-Lending Act, including the right of rescission. Describe the reasons for many of the closing costs listed on the HUD-1.
4 Introduction There are many differences in the methods used to close transactions. It was this area of diverse procedures that Congress began to regulate. The purpose of the legislation was to protect consumers from “unnecessarily high settlement charges caused by certain abusive practices that have developed in some areas of the country.” The result of was the Real Estate Settlement Procedures Act (RESPA). Implementation was assigned to HUD. RESPA does not change any local practices and sets no prices for settlement services. It is primarily directed toward providing better information on the settlement process so that a home buyer can make informed decisions.
5 Preliminary Information Loan Status Report Some call it a mortgagor’s information letter, or a mortgagee’s report. For our purposes, a loan status report is a report on the current status of an existing loan prepared by the mortgagee for the mortgagor. It is a statement giving the remaining balance due, the monthly payments, the reserve held in the escrow account, and the loan payoff. A request for this information must come from the mortgagor, although brokers often use form letters signed by the mortgagor. While this information is very helpful, it is not normally used by the settlement agent in closing a real estate transaction. The agent must call for a current report immediately prior to closing so that it reflects the loan status as of the date of settlement.
6 Preliminary Information Preliminary Title Report A preliminary title report is normally furnished by the title company to both the real estate agent and the mortgage company. Contained is a confirmation of the legal description, names of the owners of the property, any restrictions or liens on the property, any judgments against the owners, and a listing of any requirements the title company may have before issuance of a title insurance policy. The report is for information only; it is not to be confused with a title binder, which legally obligates the title company for specific insurance. Title companies normally make no charge for the preliminary report as it is part of their service in anticipation of writing the title insurance.
7 RESPA Requirements RESPA applies to residential mortgage loans of one- to four-family housing, a condo, a cooperative apartment unit, a lot with a mobile home, or a lot on which a house is to be built or a mobile home located. RESPA requirements can be divided into two general categories: (1) information requirements, and (2) prohibited practices.
8 Information Booklet At the time of a loan application, or not more than three business days later, the lender must give the applicant a copy of the HUD booklet entitled Buying Your Home. Part One of this booklet describes the settlement process and the nature of the charges that are incurred. It suggests questions for the home buyer to ask that might help clarify charges and procedures. It also lists unfair and illegal practices and gives information on the rights and remedies available to home buyers should they encounter a wrongful practice. Part Two is an item-by-item explanation of settlement services and costs. Sample forms and worksheets are included to help guide home buyers in making cost comparisons.
10 Good Faith Estimate (GFE) Within three business days of accepting a loan app, a lender is required to submit a good faith estimate of settlement costs to the borrower. Settlement charges are estimated for each item anticipated, except for prepaid hazard insurance and cash reserves deposited with the lender. The information must be furnished in a clear and concise manner using the HUD-GFE promulgated form.
11 A Fillable GFE and HUD-1 at www.HUD.GOV/RESPA
12 Designated Service Providers If a lender designates settlement service providers, the normal charges for these specific providers must be incorporated into the GFE. The lender must also provide, as part of the GFE, the name, address, and telephone number of each designated provider. Any business relationship between the lender and an affiliated service provider must be fully disclosed. A HUD rule prohibits any fee paid between affiliated companies for a referral, and there can be no condition requiring use of an affiliated company.
13 Disclosure of Settlement Costs Under RESPA, use of form HUD-1, a uniform settlement statement, is mandatory for residential loan closings. Account numbers and terminology are standardized on the form. A copy of the completed form must be delivered by the settlement agent to both the buyer and the seller at or before the closing. Since some of the information may not be available until the time of actual closing, the borrower may waive the right of delivery at closing. However, in such a case, the completed settlement statement must be mailed at the earliest practical date.
14 Borrower’s Right to Disclosure of Costs Prior to Closing A borrower has the right under RESPA to request an inspection of the settlement statement one business day prior to closing. The form is completed by the person who will conduct the settlement. It would be wise to make such request several days prior to closing. The act recognizes that all costs may not be available one day prior, but there is an obligation to show the borrower what is available. With the passage of the Mortgage Disclosure Improvement Act, the 3/7/3 Rule mandates a seven-business-day waiting period once the initial disclosure is provided before closing a home loan. Before a borrower can close on a transaction, he or she must have received the initial GFE and TIL statement seven days prior to closing.
15 Prohibited Practices Kickbacks The law specifically prohibits any arrangement in which a fee is charged, or accepted, when no services have actually been performed. The prohibition does not prevent agents for the lender, attorneys, or others from actually performing services connected to a closing. Nor prohibits cooperative arrangements between real estate brokers. The target for the prohibition is the arrangement wherein one party returns a part of the fee to obtain business from the referring party. Title Companies A seller is not permitted to require the use of a specified title insurance company as a condition of sale. Buyer has the right to compare services & charges of title companies. Lenders retain the right to reject title insurance companies.
16 Truth-In-Lending Act TILA is a federal law and part of the Consumer Credit Protection Act. It is implemented by the Federal Reserve Board’s Regulation Z. The purpose of the law is to require lenders to give meaningful information to borrowers on the cost of consumer credit. The credit covered must involve a finance charge or be payable in more than four installments. Credit extended for business purposes, which includes dwelling units containing more than four families, is not covered by this law.
17 Finance Charge The finance charge is the total of all costs that the consumer must pay for obtaining credit. These include interest, the loan fee, a loan-finder’s fee, time-price differentials, discount points, and the cost of credit life insurance. Costs that would be paid regardless of whether or not credit is extended are not included in the finance charge, provided these charges are reasonable and not included to circumvent the law. Excluded purchase costs are legal fees, taxes not included in the cash price, recording fees, title insurance, and credit report charges. Such charges must be itemized and disclosed to the customer. In the case of first mortgages on residential dwellings, the total dollar finance charge need not be stated, but the APR must be disclosed.
18 Annual Percentage Rate (APR) The APR as determined under Regulation Z is not an “interest rate.” Interest is one of the costs included in the finance charge. The APR is the relationship of the total finance charge to the total amount to be financed. The APR must be computed to the nearest one-quarter percent.
19 Right of Rescission For certain transactions secured by a consumer’s principal dwelling, the consumer has three business days after becoming obligated on the debt to rescind the transaction. The right of rescission allows the consumer time to reexamine the credit agreement and to reconsider whether he or she wants to place his or her home at risk by offering it as security for the credit. Transactions exempt from the right of rescission include residential mortgage transactions such as purchase money transactions. To rescind, the consumer must notify the creditor in writing by midnight of the third business day after the latest of three events: (1) Consummation of the transaction, (2) delivery of material TILA disclosures, or (3) receipt of the required notice of the right to rescind. For purposes of rescission, “business day” means every calendar day except Sundays and legal public holidays.
20 Settlement Practices and Costs The design of the HUD-1 places all costs chargeable to the buyer, or the seller, on the first page, and a detail of these costs on the second page. The first section, A through I, contains information concerning the loan and the parties involved. Section J lists the amounts due from, or paid by, the borrower. Section I details the same for the seller. The bottom line in each column indicates the cash due by the buyer on the left-hand side and that due by the seller on the right-hand side. Whatever money must change hands is the result of the two figures. Section L on the second page of the form lists various settlement services, with some blank lines for any separate entries not otherwise clearly identified.
21 The HUD-1 Uniform Settlement Statement Sales/Broker’s Commission (Item 700) The sales commission is usually paid by the seller and is listed on the settlement in the total dollar amount, then divided between participating brokers as the sales agreement may provide. The amount is negotiable and may be a flat fee for the sale or a percentage of the sales amount. Items Payable in Connection with Loan (Item 800) As identified by RESPA, the costs of the loan are the fees charged by the lenders to process, approve, and make the mortgage loan. Loan Origination Fee (801) This is the fee charged by the primary lender to assemble information necessary to evaluate a loan application, to determine its acceptability, and to prepare the completed loan package. The charge is negotiable and varies from 1 to 1.5 percent of the loan amount. (Should Match New GFE Box #1)
22 The HUD-1 Uniform Settlement Statement Loan Discount (802) Another cost of borrowed money similar to interest. The discount is expressed as a percentage of the loan amount, normally measured in points. As a cost of borrowed money paid at the time of loan settlement, a loan discount becomes one of the items payable for obtaining a loan. (Should Match New GFE Box #2) Appraisal Fee (804) An appraisal of the property is necessary to establish the value basis for a mortgage loan. Since an appraisal is of value to both the buyer and seller of property, it may be paid for by either. Often, the cost of an appraisal is included as part of the initial application fee. (Should Match New GFE Box #3) Credit Report Fee (805) Applicants for mortgage loans are required to submit credit reports, usually from both a local credit bureau and a national repository of credit data. Payment for the report is most often made by the borrower. (Should Match New GFE Box #3)
23 The HUD-1 Uniform Settlement Statement Lender’s Inspection Fee (808) The lender is permitted to assess a charge for an inspection of the property offered as collateral. The inspection can be made by the lender’s personnel or by an independent inspector. It is used primarily on construction loans. (Should Match New GFE Box #3) Mortgage Insurance Application Fee (809) Private mortgage insurance companies charge fees for the processing of a loan application. This fee sometimes covers both an appraisal fee and an application fee. (Should Match New GFE Box #3). Assumption Fee (810) An assumption fee is essentially a paper-processing fee charged in transactions in which the buyer takes title to the property and assumes liability for payments on a prior obligation of the seller. (Should Match New GFE Box #3)
24 The HUD-1 Uniform Settlement Statement Document Preparation (811) The charge for preparing legal documents may be listed separately or may be included with other service fees, such as the attorney’s fee. Notary Fee (812) Instruments that are to be recorded in the public records usually require that all signatures be acknowledged by a notary public or properly witnessed. Settlement agents are often licensed for this purpose and may ask a separate charge for their official services. Attorney’s Fees (813) Few lenders will permit a loan to be closed without the assurance of a qualified attorney that all instruments have been properly prepared and executed. In the handling of residential loans, the title company or settlement agent involved may employ an attorney to handle the legal requirements and, if both parties agree, the charges are allocated equally between buyer and seller.
25 The HUD-1 Uniform Settlement Statement Items Required by Lender to Be Paid in Advance (Item 900) There are certain items that must be prepaid in advance at the closing. Interest (901) To adjust the monthly payment to a date other than that of loan closing, the interest charge is computed for the time period from the date of closing to the beginning of the period covered by the first monthly payment. (Should Match New GFE Box #10) Mortgage Insurance Premium (902) Almost all lenders now require private mortgage insurance on loans in excess of 80 percent of the property value. And the FHA has reinstated its annual mortgage insurance premium payable as a part of each monthly payment. (Should Match New GFE Box #3)
26 The HUD-1 Uniform Settlement Statement Hazard Insurance Premium (903) Most lenders require a full first year’s premium of hazard insurance paid at the time of closing. Often, the paid-up policy is delivered at the closing table as proof of insurance. In addition to the first year’s premium, lenders may require a reserve of up to two months of annual premiums deposited with them at closing. (Should Match New GFE Box #11) Reserves Deposited with Lenders (Item 1000) To be used for future payment of recurring annual charges such as taxes, insurance, and maintenance assessments. In some parts of the country, taxes are paid a year in advance; in others, they are paid at the end of the tax year. Initial Deposit for the Escrow Account (1001) A sum sufficient to pay taxes, insurance premiums, or other charges that would have been paid up to the due date of the first full monthly payment. In addition, the lender is permitted to require a cushion of up to one-sixth of the annual charges for the escrowed expenses. (Should Match New GFE Box #9)
27 The HUD-1 Uniform Settlement Statement Hazard Insurance (1002) The normal lender requirement, approved as being in compliance with RESPA restrictions, is for a one-year premium paid in advance, plus a deposit to a reserve account in an amount not exceeding two months’ worth of the annual premium. Mortgage Insurance (l003) The premium reserve requirement for mortgage insurance is negotiable with the lender. It may be required that a part of the total annual premium be placed in a reserve account, but no more than one-sixth of the annual premium may be held as a cushion by the lender. City/County Property Taxes (1004–1005) A reserve is required so as to have sufficient cash on hand to make timely payment of property taxes when they come due. The reserve is determined by the time between the date of closing a transaction and the date the next payment of taxes becomes due.
28 The HUD-1 Uniform Settlement Statement Annual Assessments (1006) The reserve that may be required for assessments covers such charges as a homeowners’ association fee, a condominium maintenance charge, or a municipal improvement assessment. The same previously described RESPA reserve limitations apply. Title Charges (Item 1100) These include searching records, preparing documents, and acquiring insurance against title failure. While practices and terminology differ in some areas, the services referenced are basically the same. Title Services and Lender’s Title Insurance (1101) This is the sum of all 1100 charges less the owner’s premium and endorsements and attorney representation for the borrower. This line item includes all administrative and processing charges related to title insurance. This line item does not include premium charges for any owner’s title insurance that will be provided; it does include the charge for lender’s title insurance. (Should Match New GFE Box #4)
29 The HUD-1 Uniform Settlement Statement Settlement or Closing Fee (1102) These are the charges made by the person or company for the service of handling the settlement procedures. Payment of the fee is negotiable between buyer and seller and is often divided equally between them. Abstract or Title Search, Title Examination, Title Insurance Binder (1103) In a real estate transaction, it is reasonable to expect a seller to offer some solid proof of his or her right to convey the property with good title to the buyer. This proof can be obtained through a search of all the recorded documents affecting the land title (an abstract of title). In some cases, an attorney will review the abstract and issue a title opinion. More commonly, proof of title is handled through title insurance. Lender’s Title Policy (1104) The lender’s policy runs with the mortgage. Its value declines as the mortgage is paid down and it transfers to whomever holds the mortgage note. Furthermore, a payoff of the loan automatically cancels the lender’s insurance coverage.
30 The HUD-1 Uniform Settlement Statement Title Insurance (1106) Premiums can be set uniformly by the state, limiting competition to the kind of service that different companies may offer. Title insurance is available in two separate types: (1) an owner’s policy, which protects the landowner, and (2) a mortgagee’s policy, which protects the lender. Owner’s Title Insurance (1106) An owner’s policy protects against adverse claims up to a specified amount. It cannot be transferred to another owner. The owner’s policy is purchased at closing with a one-time premium charge. The time period for title insurance coverage is determined by each state’s limitation statutes. Government Recording and Transfer Charges (Item 1200) Recording fees and transfer fees are those charged by city, county, or state governments for recording services, or as a tax on the transaction. Payment of these charges is negotiable between buyer and seller, but they are usually paid by the buyer.
31 The HUD-1 Uniform Settlement Statement Additional Settlement Charges (Item 1300) Charges that are not easily classified appear in this section. Survey (1301) Almost all lenders require that a survey of the property offered as collateral be included in the loan package. Payment for the survey is negotiable; the seller has an obligation to prove exactly what land is to be conveyed, while the buyer needs the survey to complete the loan. Pest and Other Inspections (1302) Where termites or other insects infest buildings and create damage, it is normal to require a separate pest inspection. The lender may require one. The cost may be paid by the buyer as part of the loan requirements. Total Settlement Charges (Item 1400) At the bottom of the page listing the various settlement charges, the totals for the borrower’s and seller’s charges are listed and transferred to the summary section of the first page.
32 Mortgagee’s Closing Instructions The mortgage company prepares a sheet of instructions for delivery to the settlement agent handling closing procedures. It details such items as the correct legal name for the mortgage instruments, the name of the trustee, and terms of the mortgage note. Any special requirements to be included in the mortgage or deed of trust are itemized. The lender will ask that specific instructions on monthly payments be given to the borrower, along with details of the escrow requirements and details of disbursement procedures. The mortgage company will send affidavits as may be required, which certify the actual down payment and the use of the loan proceeds. Some mortgage companies require certifications of occupancy for purposes of homestead information.
33 Setting the Closing It is usually the responsibility of the real estate agent, or agents, involved to arrange a mutually agreeable closing time. Practices vary in different parts of the country: in some areas all parties meet for the settlement procedures; in other parts, no actual meeting is required, the necessary instruments are delivered. Whenever the local practices require a meeting of the parties involved, it is usually held in the offices of the company or person designated to handle the settlement procedures. This may be a title company, an attorney, a real estate agent, an escrow agent, or the lender itself. Whoever handles the loan closing must have the approval of the lender, as it is its money that is generally most involved. Closings can be accomplished with separate meetings, the buyer at one time and the seller at another.
34 Disbursement of Funds In many parts of the country instruments are signed and funds are disbursed before anyone leaves the closing table. In some areas, it is more common to execute and acknowledge the instruments at the closing but delay disbursement of funds until later. The actual disbursement of funds at or following the settlement procedures is usually made to several different individuals and companies. One of the reasons an escrow agent is employed in the closing process is to make sure that all parties with claims in the settlement are paid. After all required payments have been made, the necessary instruments are filed in the county records, the balance due to the seller is disbursed, and the transaction is considered closed.
35 Questions for Discussion 1.Discuss the purpose of the Real Estate Settlement Procedures Act (RESPA) and its key provisions. 2.Why should a listing agent obtain a preliminary title report on the listed property? 3.Discuss the importance of a survey in the settlement procedure. 4.Describe the essential elements of a HUD-1 settlement statement. 5.What is the reason for a prepayment of interest at the time of settlement procedures? 6.Where are loan closings normally held in your community? 7.What information is normally furnished to the settlement agent (closer) by the mortgage lender just prior to closing? 8.Describe at least three RESPA requirements that call for disclosure of information to a borrower. 9.Discuss requirements of the Truth-in-Lending Act as it relates to finance charges for mortgage loans. 10.What are the limitations on reserve deposits that may be held by a lender for a residential mortgage loan?