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Consumer Information
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What is an Escrow and Why is it Needed?
An escrow is an arrangement in which a disinterested third party, called
an escrow holder, holds legal documents and funds on behalf of a buyer and
seller, and distributes them according to the buyer's and seller's
instructions.
People buying and selling real estate often open an escrow for their
protection and convenience. The buyer can instruct the escrow holder to
disburse the purchase price only upon the satisfaction of certain
prerequisites and conditions. The seller can instruct the escrow holder to
retain possession of the deed to the buyer until the seller's
requirements, including receipt of the purchase price, are met. Both rely
on the escrow holder to carry out faithfully their mutually consistent
instructions relating to the transaction and to advise them if any of
their instructions are not mutually consistent or cannot be carried out.
An escrow is convenient for the buyer and seller because both can move
forward separately but simultaneously in providing inspections, reports,
loan commitments and funds, deeds, and many other items, using the escrow
holder as the central depositing point. If the instructions from all
parties to an escrow are clearly drafted, fully detailed and mutually
consistent, the escrow holder can take many actions on their behalf
without further consultation. This saves much time and facilitates the
closing of the transaction.
Who May Hold Escrows
The escrow holder may be any disinterested third party (although some
states require that certain escrow holders be licensed).
There are two important reasons for selecting an established, independent
escrow firm, an attorney, or an escrow officer with a bank, S&L or title
insurance company. One is that real estate transactions require a
tremendous amount of technical experience and knowledge to proceed
smoothly. The other is that the escrow holder will generally be
responsible for safeguarding and properly distributing the purchase price.
Escrow officers with established firms generally are experienced and trained in real
estate procedures, title insurance, taxes, deeds and insurance.
Impartiality
An escrow officer must remain completely impartial throughout the entire
escrow process. He or she will normally adopt a courteous but rather
formal manner when dealing with parties to the escrow, keeping
conversation to the matters at hand in the escrow. This formal behavior is
meant for the benefit of all concerned, since the escrow officer must
follow the instructions of both parties without bias.
Escrow Instructions
Escrow instructions are written documents, signed by the parties giving
them, which direct the escrow officer in the specific steps to be
completed so the escrow can be closed.
Typical instructions would include the following:
- The method by which the escrow holder is to receive and hold the purchase
price to be paid by the buyer.
- The conditions under which a lapse of time or breach of purchase contract
provision will terminate the escrow without a closing.
- The instruction and authorization to the escrow holder to disburse funds
for recording fees, title insurance policy, real estate commissions and any
other closing costs incurred through escrow.
- Instructions as to the proration of insurance and taxes.
- Instruction to the escrow holder on the payment of prior liens and charges
against the property and distribution of the net sale proceeds.
Since the escrow holder can only follow the instructions as stated, and
may not exceed them, it is extremely important that the instructions be
stated clearly and be complete in all details.
What Each Party Does in the Escrow Process
The Seller
- Deposits the executed deed to the buyer with the escrow holder.
- Deposits evidence of pest inspection and any required repair work.
- Deposits other required documents such as tax receipts, addresses of
mortgage holders, insurance policies, equipment warranties or home warranty
contracts, etc.
The Buyer
- Deposits the funds required, in addition to any borrowed funds, to pay the
purchase price with the escrow holder.
- Deposits funds sufficient for home and title insurance.
- Arranges for any borrowed funds to be delivered to the escrow holder.
- Deposits any deed of trust or mortgages necessary to secure loans.
- Approves any inspection reports, title insurance commitments, etc. called
for by the purchase and sale agreements.
- Fulfills any other conditions specified in the escrow instructions.
The Lender (if applicable)
- Deposits proceeds of the loan to the purchaser.
- Directs the escrow holder on the conditions under which the loan funds may
be used.
The Escrow Holder
- Opens the order for title insurance.
- Obtains approvals from the buyer on title insurance report, pest and other
inspections.
- Receives funds from the buyer and/or any lender.
- Prorates insurance, taxes, rents, etc.
- Disburses funds for title insurance, recordation fees, real estate
commissions, lien clearance, etc.
- Prepares a final statement for each party indicating amounts to be
disbursed for services and any further amounts necessary to close escrow.
- Records deed and loan documents, and delivers the deed to the buyer, loan
documents to the lender and funds to the seller, thereby closing the escrow.
Closing the Escrow
Once all the terms and conditions of the instructions of both parties have
been fulfilled, and all closing conditions satisfied, the escrow is
closed and the safe and accurate transfer of property and money has been
accomplished.
Division of Charges
The method of dividing the charges for the services performed through
escrow or as a result of escrow varies from place to place. The fees and
service charges to be divided might include, for example, the title
insurance policy premium, escrow fee, any transfer taxes, recordation
fees and cost in connection with any loan being obtained. Unless there is
some special agreement between the buyer and seller as to how these
charges are to be paid, local custom will generally be followed in
drafting the instructions to the escrow holder as to how they are to be
divided.
In Summary
The escrow process was developed to help facilitate the sale or purchase of your
home. The escrow holder accomplishes this by:
- Acting as the impartial "stakeholder," or depository of documents
and funds.
- Processing and coordinating the flow of documents and funds.
- Keeping all parties informed of progress on the escrow.
- Responding to the lender's requirements.
- Securing a title insurance policy.
- Obtaining approvals of reports and documents from the parties as required.
- Prorating and adjusting insurance, taxes, rents, etc.
- Recording the deed and loan documents.
- Maintaining security and accountability of monies owed and owing.
It's Not Always This Simple
The examples and explanations described here are designed to acquaint you with the
escrow process and are based on relatively simple escrows. Every escrow is unique
and most are more complex than explained here. If you have questions about the
escrow process, we suggest you contact an escrow officer or attorney to obtain
detailed advice and further explanation.
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