22 Aug Escrow Process Basics: Definitions You Should Know
Introduction to the
Real estate escrow sounds complicated because of all the terms that are thrown at you during the process. What we need is to break down the most important concepts to short definitions so the process starts to make sense.
Is it a Contract, Offer,
or Purchase Agreement?
The contract guides the whole process, but it goes by many names.
When you see the house of your dreams and decide to buy it, your real estate agent will recommend that you make a written offer.
The actual form might say Purchase Agreement or Purchase Contract, or it might even say Purchase Agreement & Escrow Instructions.
All of these names refer to the same document. Your realtor® will create your written offer using a blank contract form, filling in all the required information about you and your proposed agreement. You will sign this document, but it is not officially a contract until the seller accepts the deal by also signing the document.
The contract contains escrow instructions so the escrow agent knows what you and the seller have agreed to. The word agreement is a nice way of saying contract, so all of these terms are ok to use because they all refer to the single document that becomes the contract.
Earnest money is a deposit the buyer gives the seller to show they are serious about buying the property. It may be referred to as the earnest money or the deposit – they mean the same thing.
The seller usually receives the earnest money along with the written offer. When the seller accepts the offer they will sign the offer – making it a contract – and the earnest money goes into the escrow account.
The escrow account is created for one, specific purpose – coordinating all of the moving parts of a real estate transaction according to one, specific contract. The account is opened with the buyer’s earnest money, where it is held until the deal is final. Earnest money is usually refundable but in a few circumstances, the seller can keep the earnest money even if the deal falls through.
Toward the end of the deal, the buyer and the seller pay closing costs, which are deposited in the escrow account. When the lending institution – the source of the buyer’s mortgage loan – takes the amount of the buyer’s loan and deposits it into the escrow account, the money in the account can be paid out according to the contract’s escrow instructions and the account closed.
In a real estate contract, contingency is a fancy word for each thing the buyer and seller require from each other. Most contingencies have to do with the condition of the property and the buyer’s right to walk away from the deal under certain circumstances.
We will go through more detail below, but let’s be clear: Everything either party expects must be specified in the contract, and the ways either party could back out of the deal must also be specified. Otherwise, both parties are committed to the deal.
Contingencies are important because they show good faith that the buyer and the seller intend to seal the deal, but they also spell out the situations in which either party may withdraw from the deal without penalty.
Your Realtor® can help you to navigate through the purchase negotiations and the escrow closing process.
One of the contract contingencies routinely added by the seller is an option period. It is called an option period because the buyer still has an option to walk away from the deal until the option period expires.
This is a great time for a buyer when they get to “kick the tires” and see if they really want to buy this house. For the seller, it is a nerve-wracking time when they are desperately hoping the buyer doesn’t find a reason to pull out of the agreement.
During the option period, the buyer typically gets a property inspection to verify that the condition of the house is roughly the same as the seller has led the buyer to believe. If there are potential issues beyond the general inspector’s scope, the buyer may get specialists to inspect areas such as the foundation, drainage, and swimming pools. If the home is older, a termite inspection will also probably be included.
The buyer can request that the seller make repairs. The request must be submitted before the option period expires; if the buyer does not meet this deadline, they are essentially forfeiting their right to walk away from the deal and are fully locked into buying the property.
Once the buyer’s option period expires it is the seller’s turn to drive the process by responding to the buyer’s requests for repairs. Usually, the buyer’s real estate agent will advise them to list more repairs than they really need, as a starting point for the negotiation.
The seller is not obligated to make any of the repairs requested, although refusing repair requests might be a deal-breaker for the buyer. The seller is expected to make repairs that involve health and safety – such as a faulty roof or malfunctioning heating system – but is not expected to make cosmetic repairs.
Once both parties have agreed on the repairs to be made, the seller has a limited time period to address them; when repairs are complete the buyer inspects the repairs and approves the work. At this point, both parties are locked into the contract and the sale goes forward.
The term lender is very general. It refers to the source of the mortgage loan needed by the buyer in a real estate deal. Most banks are lenders, as are credit unions. Some lenders are online only and don’t provide traditional banking services – just mortgage loans.
Then there are a lot of sub-categories of lenders, such as correspondent lenders, direct lenders, portfolio lenders… on and on. The main thing to know is that lenders may differ slightly from each other in terms of interest rate, requirements to qualify for the loan, repayment terms, and more.
It pays to shop around before you commit to a lender, and – even better – it pays to shop around, select your lender, and get a letter of credit from them before you get serious about house-hunting.
There are basically two categories of closing costs: those the lender requires from the buyer, and the miscellaneous costs incurred by third parties in the process of completing the transaction.
Lender fees are paid only by the buyer, while third-party fees may be paid entirely by the seller or shared between buyer and seller. The responsibility for third-party fees is usually spelled out by the buyer when they make the written offer to purchase, and negotiated with the seller.
Third-party fees include such things as the cost of the escrow agent’s time and the title company’s services – down to courier fees, notary public fees, and other practical aspects of getting the deal done.
This is the most exciting milestone in the whole transaction – the moment when the buyer’s bank actually deposits the loan money in the escrow account! Both buyer and seller breathe a sigh of relief, their real estate agents start chilling down the champagne, and the escrow agent and title company see their hard work pay off.
HUD Settlement &
The escrow account is closed when the deal is completed, and all of the money in the account is paid out according to the contract. The seller is paid in full and the buyer gets the keys and takes possession. This is what most people refer to as the escrow closing, or simply as the closing.
All of the details of the closing are contained in a US Government form, typically called the HUD Settlement. This form is officially called the HUD-1 form and comes from the Department of Housing & Urban Development (HUD).
The HUD settlement shows that the amount of the money that has been deposited to the escrow account is exactly the same – to the penny – as the total amount paid out (distributed) to all of the appropriate parties.
Armed with a good understanding of the jargon – along with the advice and guidance of your realtor® – you can move through the escrow process with confidence. A little bit of knowledge can head off surprises at escrow closing.
Your realtor® should have experience with the inspection process and the leadership to get you through the negotiating process and on to the closing. That’s what I call…
Click below to get a feel for the current San Antonio real estate market, but keep in mind that searching for the perfect house is a big deal.
Step up your game by having me monitor the Multiple Listing Service (MLS) for you, so you can react quickly when a great property becomes available.
Reach out to me to challenge my commitment to be your mentor and partner every step of the way. See what it really means to have…
Call, text, or send a message – I’m happy to help!
2241 NW Military Hwy STE 302
San Antonio, TX 78213
Sources & Links
Housing & Urban Development https://www.hud.gov/sites/documents/1.PDF
Title One https://www.titleonecorp.com/BuyerSeller/whatisescrow.aspx