Home buyers in Toledo or Temperance area may be confused by the terms CLOSING, POSSESSION, and CLOSING COSTS. There are many web sites with complicated or legal explanations but this page tries to explain things in simple, conversational terms for easy understanding - especially for first time home buyers. This page is not meant to be an exhaustive legal reference but is an informal explanation.
WHAT IS A REAL ESTATE CLOSING
A CLOSING is an event where the sale is COMPLETED.
BEFORE CLOSING
Buyer and seller agree to terms, spell it all out on paper, in a document called a PURCHASE AGREEMENT. Buyer will have completed inspections and appraisal if desired. There should be nothing left to chance. A Government required HUD1 Settlement Statement should be prepared 24 hours in advance by the title company. This deadline is ideal but is not always practical. This HUD statment is supplied to all parties (buyers, lenders, sellers, attorneys, etc) to explain the distribution of funds, and show how much money is to be brought to the closing by the buyer or seller as well as how much money will be paid to various authorities, banks, and the seller, when the sale is completed or CLOSED.
AT CLOSING
Real Estate Closings are events when all the financial and legal issues in a Real Estate transaction are completed. All the promises made are PERFORMED or COMPLETED. This is when the moneys are paid, and the house legally becomes the buyer's house. The performance of all the duties is documented, and all funds are collected and distributed to all the right people and places. Keys are usually given to buyers at this time if POSSESSION is AT CLOSING. Sometimes sellers provide owners manuals or receipts for things in the house, like furnaces, air conditioner repair, appliances, etc.
POSSESSION:
CLOSING and POSSESSION may take place at the same time, or they may not. The buyer is the owner after closing, but may not take POSSESSION or have the right to enter at will, or move in, until the date of Possession. This is a date specified in the purchase agreement. If POSSESSION is AFTER CLOSING, such as 30 DAYS AFTER CLOSING (Very normal in our area but unusual elsewhere) then the seller is considered to be living RENT FREE in the buyer's home for those 30 days.
LOCATION:
This CLOSING usually takes place as a meeting in a CLOSING ROOM or conference room at a TITLE COMPANY, though they sometimes take place in a lawyers office, or in a real estate office.
TITLE COMPANY:
The title company makes sure that the seller has the legal right to sell the house. This is called title research, or examination of title. Once the sellers title is confirmed as good title, then a title insurance company guarantees it's work by issuing what is called TITLE INSURANCE. If a dispute arises later, the title company will defend the buyer's interests. There are different kinds of title insurance, with different terms. An OWNERS POLICY protects and defends the buyer. A MORTGAGE POLICY or LENDER'S POLICY protects and defends the lender that finances the deal.
WHY YOU NEED TITLE INSURANCE
Perhaps a long lost child shows up and claims he should have inherited the property instead of the younger brother who actually took over and sold it. If true this could mean the sale was invalid... The Title Insurance protects the buyer from this claim, defends the buyer, and mortgage company in court, even pays the claimant if the claim is true, so that the buyer can remain in the house they paid for.
TYPES OF CLOSINGS: ROUND TABLE, SPLIT, OR ESCROW CLOSING
If buyers and sellers meet at the same place and time, around a conference table, it is called a ROUND TABLE closing, but the table probably won't be round : )
Sometimes the buyers meet in one place while the sellers meet in another. Or sometimes they meet at different times at the same place. This is called an ESCROW CLOSING or SPLIT CLOSING. The Closing funds and documents are all held in ESCROW or suspended animation until all documents are signed and all funds paid.
CLOSING COSTS:
Many costs and taxes have to be paid before a home changes hands. Sellers pay some closing costs and buyers pay some closing costs. These costs average 1 to 1.5% of price of the house, for sellers, and 2 to 5% of the cost of the house for buyers if there will be a loan used to buy the house. Buyers who pay cash will have very low closing costs, perhaps only a few hundred dollars, but this depends on home price, and tax escrow methods, etc. The seller can pay some of the buyer closing costs. There is a limit, usually UP TO 3% of purchase price that seller can pay toward buyer closing costs, but some loans allow a limit of up to 6% of purchase price. Seller can also pay for a home warranty in addition to this limit. The limit is for ACTUAL closing costs, as the lender will not generally approve a deal that does not use up the closing costs and supplies cash back to the buyer.
WHY ARE THESE COSTS PAID AT CLOSING
The seller might not have to pay some of these bills at all, or not for some time, except for there being a change of ownership. Sellers would not want to pay these bills before closing, only to have something go wrong and they buyer does not complete the sale. Likewise, the buyer would not want to pay some of these bills in advance, and then have the seller decide not to sell at the last minute.
PRO-RATED EXPENSES AND ESCROWS
Some bills, like water bills and taxes, can only be charged, by law, to the actual owner of a house. The new buyer (or lender) will get the whole bill next time it comes due, even if they have only owned the house for a few weeks or months. Obviously this would not be fair. For this reason, the seller may be required to pay some of these bills, for the days they owned the house, at the closing. This distribution of costs to buyer and seller is called PRO-RATIONING the expenses. The term PRO-RATED is also used. Calculations depend on the exact charges and the exact date of change of ownership. The title company makes the calculations and distributes the funds.
Some payments are to a HOLDING ACCOUNT or ESCROW ACCOUNT at the title company and some can be to the buyer's lender. The buyer may have chosen a loan where the lender pays taxes and insurance bills when they come due. If so, each monthly payment includes a small amount toward those future bills. These extra payments are to a HOLDING ACCOUNT or ESCROW ACCOUNT. In this way the buyer has a 'forced savings account' at the lender, and does not have to pay the annual or semi-annual tax bill or insurance bill when it comes because the lender takes care of it. This practice is especially helpful for younger buyers or those on tight budgets when large lump sums could be hard to pay when billed once per year.
Sometimes money is held back from the seller "IN ESCROW" by the title company, to pay the final seller water bill. About $200 is normal. Once the seller pays the final bill, and sends the receipt to the title company, their escrowed funds are returned. If the seller never pays their final water bill, the title company pays it for them. Nothing is left to chance because nobody wants surprises later. The Title Company takes care of collecting all the money and paying the bills.
SELLER CLOSING COSTS
Sellers pay state transfer taxes (like a sales tax on the sale of real estate), uncollected back taxes if any, tax pro rations for the time they owned the home (depending on local tax methods), Title Research to prove their right to sell, seller’s mortgage (if any), seller owed utilities, seller contribution to buyer closing costs, and etc. These costs will usually be 1 to 1.5% of the price of the home, in addition to the Realtor Commission.
BUYER CLOSING COSTS
Buyer costs are higher, primarily due to lender fees. The mortgage lender takes a big risk, provides a lot of service, and has fees for these things. Buyer Closing Costs may include Loan Origination Fees (Points, Document Fees), buyer portion of tax pro-rations (depending on local tax methods), buyers portion of title insurance, and etc. The buyer will also bring other funds to closing, perhaps for PRE-PAIDS, or a Down Payment if required. A PRE-PAID cost might be 1 year of prepaid homeowners insurance, or escrow account startup funds, and etc.
HOME WARRANTY
A home warranty is not a ‘required closing cost’ but most sales include home warranties because they are a good idea for the buyer. Home warranties are usually paid from the closing table by sellers. The home warranty will pay to repair something that goes wrong in the house, such as the furnace fails, or the hot water heater boils over and ruins the floor. Buyers usually have a small deductible, such as $75 per incident. If a repair costs $500 the buyer pays only the $75 deductible and the Home Warranty company pays the rest. Policies and coverage vary by provider, but the basic idea is that the buyer will be insured against large unexpected expenses during the first year of home ownership. Many home warranties also cover appliances that come with the house.
HOME INSPECTIONS
Home Inspections are not closing costs or pre-paids, but are the smart thing for buyers to do to make sure the house is structurally and mechanically free of defects. Inspections are paid for by the buyer because they protect the buyer.
HOW A CLOSING REALLY WORKS:
Buyers and Sellers sign documents stating that all terms of the purchase agreement have been completed, that there are no disagreements as to this fact. Buyers sign all the loan documents needed to secure the loan. Sellers then sign legal documents to transfer ownership. All tax and financial matters are handled by the title company. When the sale is completed, or CLOSED, then funds are disbursed. The last step is the recording of the deed, which provides public record and legal notice of the change of ownership. The title company usually causes the deed to be recorded with the courthouse or auditor's office.
FUNDING OR DISBURSEMENT
A closing is a very complex financial process. Once it is done in paper, then it happens in the financial world.
Maybe it helps to picture it this way: Closing bills get paid according to custom, law, and details in the purchase agreement contract. All the money brought to closing by each side, based on estimate supplied by title company in advance, is placed in an imaginary pile on the closing table. The title company creates a Settlement Statement that keeps track of the amount paid by and for each side.
Moneys used at closing could be from the buyer’s mortgage loan, earnest money deposit, down payment, and any checks brought to closing by the buyer or sellers. If seller agreed to pay a certain amount of the buyer’s closing costs, then those costs are paid first. It is like moving those funds from a seller’s pile to a buyer’s pile. There are laws and limits as to how much can be moved from the seller’s side to the buyer’s side. Generally, the limit is 3% but sometimes it can be 6%. This can depend on the kind of loan the buyer chose.
Remaining buyer costs are paid from buyer contributed funds. If not enough, then buyer needs to contribute a little more to the closing. Then sellers costs are paid. If there is not enough money to pay off the seller costs, or current mortgage, the seller has to pay more money to closing. When closing is over, the seller gets what is left in the pile – if anything, as profit on the sale. When estimates are well done, it all works well. If a mistake was made somewhere in the estimates, then either the buyer or seller may have to contribute a little more, depending on what kind of mistake was made. Sometimes the buyer gets a small amount back from closing. Lender’s don’t like buyers to get money back unless it was their own earnest money. The bank does not want to send more money to closing than is needed because that ‘pays the buyer to buy the house’ or indicates that the loan was for more than the house was really worth.
The job of calculating exact costs for each side, making sure all the moneys go to all the right places when we are done, is the specific job of the Title Company. We are supposed to get a HUD Settlement Statement 24 hours in advance but we don’t always get it that far in advance. Sometimes there is a last minute change at the closing. Perhaps the title company left off the home warranty, and a buyer or seller may need to write a personal check for a few dollars or a few hundred dollars at most.
Once all the documents are signed, approving the DISBURSEMENTS, the HUD statement is generally faxed to the buyer's lender for final approval. When approved, the lender wires the funds to the title company. The title company writes checks to tax authorities, realtors, banks, sellers, all the parties, and then there are handshakes and smiles (one hopes) as the parties go their own way!
That's it, this deal is CLOSED! |