From Real Estate Closing Deskbook, third edition, Chapter Four
- Learn how to run a real estate closing well
Overview of the Closing Ceremony
The purpose of the closing ceremony is for the lawyer to explain the closing papers, obtain the necessary signatures, and collect and disburse the funds. When this is accomplished, the sale and/or loan will be consummated. If the lawyer is fully prepared, most residential closings will take 30 minutes; the more complex the closing, the longer it will take. Preparation is the key.
Schedule closings one hour apart and inform all the parties about the time and location. Call the buyer and buyer’s agent with the amount of the certified check and any other items the buyer needs to bring to the closing, including photo identification. Call the seller and seller’s agent to notify them of the time and place of closing and any items they need to bring. When the parties arrive, the secretary should make sure that everyone is introduced to one another and photo identification is produced and copied for the file.
At the closing table, ask the buyers to sit on one side and the sellers on the other, and the agents at the end opposite from you. If you choose not to notarize documents, you should have a notary at your side.
You should then collect any papers the parties were to bring to closing, such as wood infestation reports, insurance policies, and so on. If the papers are in proper order, the closing can proceed. If the papers are not in proper order, you must determine whether to proceed with the closing or postpone it until the proper papers are received. If a missing paper is a lender requirement, you should seek written instructions from the lender before proceeding.
You should then proceed with the explanation and signing of the closing documents, collect the necessary funds for deposit into your trust account, and disburse the funds to the various payees from that account. You should require that the funds be paid by certified or cashier’s check or wire-transferred. The dangers of personal checks are obvious. Some lawyers accept cash, but they bear the risk of robbery, and it does take time to count the cash. Remember that should you deposit $10,000 or more, the bank will require you to complete Form 8300.
The file should be prearranged in the order that you want for explanation and execution purposes. Go through the documents in the order of the file, explaining each document as it comes up. By far, the vast majority of buyers and sellers are not interested in hearing the documents read word by word. Instead, a summary of the document is most appropriate. In most cases, a sentence or two can explain an entire paragraph or an entire document. Even though borrowers realize that if they do not sign the documents, they will not get the loan, they appreciate some understanding of what is contained in each document.
This chapter addresses each item in the closing file. Upon completion of the closing ceremony, copies of all documents should be given to all parties signing them. Blank copies can be provided, except for the Housing and Urban Development (HUD) settlement statement (referred to as “HUD-1”). At the very end of the closing ceremony, the seller should give the buyer keys to the property, garage-door remote controls, and security-system information.
Closing Ceremony Documents
The parties to a closing ceremony review, discuss, and execute many documents, some of which were addressed in the previous chapter. The primary ones include the HUD-1 settlement statement, the promissory note, the deed of trust, the certificate of title, the deed, affidavits, title insurance policy, and additional lender documents. Each is discussed in more detail below.
Settlement Statement (HUD-I)
The single piece of paper of most interest to the parties is the HUD-1 settlement statement. The settlement statement summarizes the financial transaction of the parties. The lawyer should make sure to do the following:
1. Verify that the statement is balanced (receipts equal disbursements).
2. Check the limits of seller payments of closing costs.
a. On Federal Housing Administration (FHA) loans, the seller cannot pay more than 6 percent of the loan amount as closing costs.
b. On conventional loans, the seller cannot pay closing costs equal to more than 6 percent of the loan amount on 90 percent loan-to-value ratio (LVR) loans, and 3 percent of the loan amount on 95 percent LVR loans.
3. Check items that a Veteran’s Administration (VA) or FHA borrower cannot pay in the lender’s general closing instructions.
4. Check the four items that generally create the most confusion:
a. Buyer’s prepaid interest.
b. Buyer’s escrow deposit.
c. Seller’s former loan payoff.
d. Seller’s escrow refund (sellers should be given a copy of the payoff so they will know whether the escrow account balance has been subtracted from the payoff amount or whether they will receive a check from the lender for the balance in the escrow account).
5. Check dates on tax prorations.
6. Verify title insurance binder fee and title insurance amount for lender and owner.
7. Check spelling of buyer and seller names.
8. Check closing date and property address.
9. Verify that no changes have been made to the closing instructions by the lender.
The settlement statement is the document that itemizes the financial details of the transaction. In the closing ceremony, the lawyer will be considering all or some of the following items:
- Purchase price
- Earnest money
- Third-party loan amount
- Loan amount from seller
- Loan assumption amount
- Additional items owed by purchaser to seller
- Items owed by seller to purchaser
- Items owed by purchaser to third parties
- Items owed by seller to third parties
The object of the settlement statement is to itemize all the above to show the seller his or her net proceeds, to show the purchaser the total amount of money he or she must bring to closing, and to show the parties how the purchase price and any loan proceeds are disbursed.
The gross proceeds due the seller consist of the purchase price plus the amount of any additional items owed by the purchaser to the seller. At closing, the seller will receive net proceeds, which are the gross proceeds reduced by
- earnest money,
- any items owed by the seller to the purchaser,
- any items owed by the seller to third parties,
- the amount of any assumed loan, and
- the amount of any loan from the seller to the purchaser.
The gross amount due from the purchaser consists of the purchase price due the seller, plus items owed by the purchaser to third parties. The net amount, or the total due from the purchaser at closing, is the gross amount reduced by
- earnest money,
- items owed by the seller to the purchaser,
- the amount of any assumed loan,
- the amount of any loan from the seller, and
- the amount of any third-party loan.
In effect, all loan amounts reduce the amount of cash a purchaser needs to bring to closing. This is true of a third-party loan, a loan from the seller, or an assumed loan. When there is a third-party loan, the loan proceeds are part of the total funds to be disbursed at closing. However, when there is a loan from the seller or an assumed loan, the loan amount, for settlement statement purposes, is a mere paper entry and there are no loan funds to disburse.
There are certain formulas that can be used to demonstrate a proper detailing of all the items to be considered by the lawyer:
- Purchase price, less earnest money, less amount of any loan assumed, less amount of any loan from seller, plus any other items owed by purchaser to seller, less any items owed by seller to purchaser, equals the total owed by purchaser to seller at closing.
- Total owed by purchaser to seller at closing, plus costs or expenses owed by purchaser to third parties, less any third-party loan amount, equals the total due from purchaser at closing.
- Total owed by purchaser to seller at closing, less costs or expenses owed by seller to third parties, equals the net proceeds to seller (or “total due from seller at closing,” if costs or expenses exceed total owed by purchaser).
- Total due from purchaser at closing, plus any third-party loan amount, plus total due from seller at closing (if any), equals total to be disbursed.
The proceeds received by the lawyer from the purchaser, the lender, and the seller must equal the amount disbursed by the lawyer. In other words, what comes in should equal what goes out. An understanding of the basic principles stated above should enable a lawyer to devise his or her own settlement statement form or to analyze someone else’s form.
The HUD-1 form is required by institutional lenders. If a lawyer does not understand the basics, then chances are that he or she cannot prepare a settlement statement properly and cannot explain the transaction to the parties. Even if the lawyer uses a computer software program to calculate the settlement statement, he or she still needs to understand how to complete the form manually. If the lawyer makes all computations correctly and inserts the proper figures in the proper places, the settlement statement should balance.
Many problems encountered by a lawyer involve prorated items, like taxes. If the taxes are to be paid by the purchaser after closing, the seller’s share should be shown as a deduction from the purchase price, it being an item owed by the seller to the purchaser. When the taxes are due at closing, the lawyer must disburse the full amount of the taxes to the taxing authority. In such a case, both the seller’s share and the purchaser’s share are paid to a third party. The lawyer should show the purchaser’s share as a cost or expense to be paid by the purchaser to a third party and show the seller’s share as a cost or expense to be paid by the seller to a third party.
Other prorations are treated in the same manner. These could include items such as hazard insurance premiums, mortgage guaranty insurance, and certain other private or governmental assessments.
The importance of the settlement statement cannot be overemphasized. Normally, the parties are more concerned with the financial details of the transaction than any other aspect of the closing, and they pay close attention to all documents related to the finances. Once they are satisfied with the financial details, the rest of the closing usually progresses smoothly. The simpler the settlement statement, the easier it is to explain and understand.
The HUD-1 settlement statement is broken down into several sections. Section A is the title. Section B states the type of loan and relevant identifying numbers. Section C states that certain items were paid outside of closing and they are marked on the settlement statement as “POC” and are not included in the totals. Sections D, E, and F give the names and addresses of the borrower, seller, and lender, respectively, and the social security number of the seller. Section G is the property location. Section H is the name of the settlement agent and place of settlement, and section I is the settlement date. Section J is a summary of the borrower’s transaction and section K is a summary of the seller’s transaction. Section L, the entire second page, is devoted to settlement charges and is divided into two columns, one for the borrower and one for the seller. Section L is broken down into eight series of numbers, 700 through 1400.
1. The materials set out in Chapter 4 are adapted from K. F. Boackle, Mississippi Real Estate Contracts and Closings, and are here reproduced with permission of the copyright owner, The Harrison Company, Norcross, Georgia.