Guide to Settlement Costs | Escrow Accounts | Transferring a Loan
Once your application for a mortgage loan has been approved and you have received a
commitment letter, the final step before you can call the house your own is the closing,
or settlement, of the purchase transaction and mortgage loan. Even though you have signed
purchase agreement and your loan request has been approved, you have no rights to the
property, including access, until the legal title to the property is transferred to you
and the loan is closed. You should have a good understanding of what is involved in the
closing process, because there are a number of things that you can do to make sure that it
goes smoothly and on time.
At closing, you will sign the mortgage loan documents, the seller will execute the deed to the property, funds will be collected and disbursed, and the closing agent will record the necessary instruments to give you legal ownership of the property. Settlement of a mortgage loan is a legal process, so specific procedures and requirements will vary according to state and local laws, but a general description of closing practices can help you through the process.
As soon as you receive firm approval, you should confirm the actual date of the loan closing. An estimated closing date was probably specified in the sale contract, but a firm date needs to be set by you, the seller of the property and your lender. You will want to make sure that settlement will take place before your loan commitment expires and before any rate lock agreement (guaranteed terms of the loan) expires. The settlement date also has to allow adequate time to assemble all of the required documentation. If repairs or maintenance on the property are a part of the lender's commitment, there must be time to complete them. The real estate agents involved in the sale transaction and the lender are often the best people to coordinate the closing arrangements. Most lenders require at least three to five days advance notice of the closing date in order to prepare the loan documents and get them to the closing agent.
There are standard documents and exhibits that are commonly required for a loan closing, regardless of jurisdiction. Some of these will be your responsibility and others will be the responsibility of the seller. The following documents are typically required for closing.
Every lender will require title insurance. The company issuing the title insurance policy will have researched legal records to make sure that you are receiving clear title, or ownership, to the property. Their title search has established that the seller of the property is the legal owner, and that there are no claims, or liens, against the property. The title company offers both a lender's policy and an owner's policy. You will have to pay for a lender's policy, and it is advisable for you to have an owner's policy as well. For a small additional premium, it will protect you up to the full value of the property if fraud, a lien, or faulty title is discovered after closing. Homeowner's Insurance
The lender will require you to have homeowners insurance on the property at least in the amount of the replacement cost of the property. You should make sure the policy covers the value of the property and contents in the event they are destroyed by fire or storm. You must pay for the policy and have it at the closing. You are free to select the insurance carrier, but the lender will require the company to meet rating standards and be rated by a recognized insurance rating agency.
In many areas, the property must be inspected for termites, and the inspection is required in the purchase contract. In some parts of the country, this may be called a "wood infestation" report. The report is required on all FHA and VA loans and many conventional loans.
Your lender may require a survey of the property, showing the property boundaries, the location of the improvements, any easements for utilities or street right-of-way, and any encroachments on the boundaries by fences or buildings. Encroachments can be minor, such as a fence, or may be serious and have to be corrected before closing. In some areas, an addendum to the title policy eliminates the need for a survey.
If the property is not served by public water and sewer facilities, you will need local government certification of the private water source and sanitary sewer facility. Properties with well and septic water sources are usually governed by county codes and standards.
If the lender or the appraiser determines that the property is located within a defined flood plain, you will want, and the lender will require, a flood insurance policy. The policy must remain in force for the life of the loan.
If your home is new construction, you will have to have a Certificate of Occupancy, usually from the city or county, before you can close the loan and move in. The builder will obtain the certificate from the appropriate authority. Many local governments require an inspection when a home is sold to see if the property conforms to local building codes. Code violations may require repairs or replacement of structural or mechanical elements. The responsibility for ordering the inspection and paying for any required repairs should be spelled out in the purchase contract. Other Documentation
Additional documentation required for closing will be set out in the commitment letter from the lender and will depend upon terms of the sale, peculiarities of the property, and local ordinances and custom. Examples would include private road maintenance agreements if the street in front of your property is not maintained by a municipality, or proof of sale of your previous home if that was a condition of approval of your loan. Within 24 hours prior to the actual closing, you and your real estate agent should make a final inspection of the property to make sure any required repairs have been completed, all property described in the sale contract, such as kitchen appliances, carpeting and draperies are present, and that no recent fire or storm damage has occurred. In most cases, the lender will make a similar inspection before closing.
The actual loan closing procedure, including who conducts the closing and who is present, depends upon local law and custom and lender practices. Some states require that you be represented by an attorney, but others do not. Even if it is not required by law, you may want to have an attorney review the closing documents.
Some lenders will close the loan in their offices, some will use title or escrow companies and some will send their instructions and documents to their attorney or yours to conduct the closing. As soon as you receive your commitment letter from the lender, you should determine who is responsible for closing arrangements.
The actual closing is conducted by a closing agent who may be an employee of the lender or the title company, or it may be an attorney representing you or the lender. The lender and seller, or their representatives, and the real estate agents may or may not be at the actual closing. It is not unusual for the parties to the transaction to complete their roles without ever meeting face to face.
The closing agent will have received instructions from the lender on how the loan is to be documented and the funds disbursed, and will have collected all of the necessary exhibits from you, the seller, and the lender. The closing agent will make sure that all necessary papers are signed and recorded, and that funds are properly disbursed and accounted for when the closing is completed.
You typically need to come to the closing with a certified check for the closing costs, including the balance of the down payment. You can get the exact figure a day or two prior to the closing from the lender or the closing agent. You should also bring the homeowners insurance policy and proof of payment, if it has not been delivered earlier.
For the most part, your role at closing is to review and sign the numerous documents associated with a mortgage loan. The closing agent should explain the nature and purpose of each one and give you and/or your attorney an opportunity to check them before signing. A brief description of the major documents may help you understand their purpose and significance.
This form is required by Federal law and is prepared by the closing agent. It provides the details of the sale transaction including the sale price, amount of financing, loan fees and charges, proration of real estate taxes, amounts due to and from buyer and seller, and funds due to third parties such as the selling real estate agent. It must be signed by both buyer and seller and becomes a part of the lender's permanent loan file.
Some of your charges on the HUD-1 may have already been paid, such as credit report and appraisal fees. They will be noted as P.O.C. (paid outside the closing.) You will usually be charged interest on the loan from the date of settlement until the first day of the next month, and your first payment will be due on the first day of the following month. Make sure you know exactly when your first and subsequent payments are due, and what the penalties are for being late.
If your loan is greater than 80 percent of the value of the property, you will probably have to pay for mortgage insurance that protects the lender in case you default. One year's premium will usually run between .5 percent to .75 percent of the loan amount.
In addition to your monthly payments on the loan, most lenders will require you to maintain an "escrow" or "impound" account for real estate taxes and insurance. Current law permits a lender to collect 1/6th (two months) of the estimated annual real estate taxes and insurance payments at closing. Additionally, real estate taxes for the current year will be prorated between you and the seller and paid at closing. After closing, you will remit 1/12 of the annual amount with each monthly payment. Tax and insurance bills should be sent to the lender who will pay them out of the escrow funds collected.
This form is also required by Federal law. You were given an initial TIL shortly after you completed the loan application. If no changes have taken place since that time, the lender need not provide one at closing. If, however there are significant charges, you must receive a corrected TIL no later than the time of the settlement.
The mortgage note is legal evidence of your indebtedness and your formal promise to repay the debt. It sets out the amount and terms of the loan, and also recites the penalties and steps the lender can take if you fail to make your payments on time.
This is the "security instrument" which gives the lender a claim against your house if you fail to live up to the terms of the mortgage note. It recites the legal rights and obligations of both you and the lender, and gives the lender the right to take the property by foreclosure if you default on the loan. The mortgage or deed of trust will be recorded, providing public notice of the lender's claim (lien) on the property.
There will be a number of documents or affidavits that you will be asked
to sign at the closing. Some are lender requirements (e.g., a statement that you intend to
occupy the property as your primary residence), or are required by state or Federal law.
These instruments should not be taken lightly. Some provide for criminal penalties for
false information, and some may give the lender the right to "call" your loan,
which means the entire loan amount becomes immediately due and payable. When everything
has been signed and the closing agent is satisfied that all of the instructions for
closing have been complied with in full, you become the owner and are given the keys to
the property.
Of all the steps in buying a home or refinancing a loan, the mortgage closing or settlement probably causes more confusion and uncertainty for the borrower than any other.
A settlement may involve several people and a variety of documents and fees. Once you understand what is involved, you may find the entire closing process far simpler than you might have imagined. While this information focuses on settlements in home purchases, much of the information also will be useful if you are refinancing a mortgage.
Fact number 1: Many buyers may think of settlement as the last step to becoming the legal owners of their new home. But it's a process that begins weeks or even months before, and follows an outline set largely by a buyer's original offer to the seller of the house. That offer becomes the sales contract, once it's signed by the seller, and it covers many of the key elements of the settlement or closing.
Fact number 2: Practices differ from one locality to another regarding who pays what closing costs. Across the country, however, buyers and sellers are free to negotiate certain fees. In some cases, certain costs can be shifted, it may affect the sale price of the property. In most states, costs can also be cut by shopping around among providers of the settlement services.
The point is this: The more you know about the process, the better your chances are for saving money at settlement time.
There are three basic categories of charges and fees in settlement or closing transactions:
When someone buys or sells a car, proving ownership is relatively easy. The owner has a certificate of title issued by the state in which the car is registered. When it comes to houses, providing clear title is not so simple. Moreover, your lending institution will not give you a mortgage loan on a house unless you can prove that the seller owns it. The proof comes in the title search.
How the title search is carried out depends upon where the property is located. In many parts of the country, public records affecting real estate title are spread among several local government offices, including recorders of deeds, county courts, tax assessors, and surveyors. Records of deaths, divorces, court judgments, liens, and contests over wills (all of which can affect ownership rights) also must be examined.
In a few localities, property records are fully computerized and the job can be completed fairly quickly. In the majority of localities, however, a title search must be performed to establish the seller's clear title. This means examining public records, in courthouses and elsewhere, to assure both you and your lender that there are no claims against the property that you are buying.
The title search may be carried out by an escrow or title company, a lawyer, or other specialist.
In addition to a formal title search, your lender is likely to require a title insurance policy. The policy guards the lender against an error by the one who searched the title. (In some cases, the title insurer might arrange for or conduct the title search.) Let's say, for example, that a long-lost relative of the seller turns up with indisputable evidence that the relative, and not the seller, holds legal title to the property. Though it should have been found in the public records, the relative's claim was missed somehow. Errors are rare, but they do occur.
When this happens, the lending institution finds that it has loaned the home buyer thousands of dollars to buy a house from someone who did not own it. To avoid such problems, the lender will insist on title insurance prior to settlement. The cost of the policy (a one-time premium) is usually based on the loan amount and is often paid by the purchaser. There's nothing, however, to keep you from asking the seller, during your negotiations, to pay part or all of the premium.
The title insurance required by the lender protects only the lender. To protect yourself against unforeseen title problems, you may also want to take out an owner's title insurance policy. Normally, the additional premium cost is only a fraction of the lender's policy, but this can vary from area to area.
Some final advice on keeping title insurance costs low: If the house you are buying was owned by the seller for only a few years, check with a title company. If you can obtain a re- issue rate, the premium is likely to be significantly lower than the regular charge for a new policy. If no claims have been made against the title since the previous title search was done, the seller's insurer may consider the property to be a lower insurance risk.
Finally, shop around, not just for the premium (which can vary depending on how much competition there is in a market area), but for coverage as well. Generally, you should look for a policy with as few exclusions from coverage as possible. The exclusions are listed in each policy. Some policies have so many exclusions (situations under which the insurer will not pay for your title problems) that you end up with little coverage for your premium dollar.
In some parts of the country, the transfer, recordation, and property taxes collected by local and state governments may be among the heftiest charges paid at settlement.
While there is no way to avoid paying these taxes, you may be able to lessen your share of the bill. Try shifting some or all of the cost to the house. But, remember, you must do this when you make your offer to purchase the property.
The costs of getting a mortgage may be imposed by your lender as early as when you apply for your loan. Mortgage related closing costs include:
Depending upon the location and type of property, and extra services you or your lender request, you may also have to pay some of the following at closing:
Settlements are conducted by lending institutions, title insurance companies, escrow companies, real estate brokers, or attorneys. In most cases, whoever conducts the settlement is providing a service to the lender. You may be required to pay for related legal services provided to the lender. You can also retain your own attorney to represent you at all stages of the transaction including settlement.
With such a long list of potential charges at settlement, it is important to know what to expect. To enable you to do that, the Congress passed the Real Estate Settlement Procedures Act (RESPA). Your mortgage lender is required to supply you with "good faith estimates" of all your closing costs within three business days of your application for a loan, together with a special information booklet called "Settlement Costs -- A HUD Guide." In addition, a statement of your actual costs should be given to you at or before settlement. Within the same three days, the lender is required, under the Truth in Lending Act, to provide you with a statement containing "good faith estimates" of the costs of the loan you have applied for, including your total finance charge and the annual percentage rate (APR). The APR expresses the cost of your loan as a yearly rate. This rate is likely to be higher than the stated interest rate on your mortgage, because it takes into account discount points, mortgage insurance, and certain other fees that add to the cost of your loan.
If you are refinancing a loan, the lender is not required to give the "good faith estimates" or the special information booklet. But you will receive the Truth in Lending disclosures before you settle.
This online guide has been prepared to help you make the important
decisions involved in buying and financing your home. Because real estate settlement
practices vary depending upon state law and local custom, this information should not be
viewed as a replacement for professional advice. Talk with mortgage lenders, real estate
agents, attorneys, and other advisors for information about lending practices, mortgage
instruments, and your own interests before you commit to a specific loan.
Mortgage escrow accounts have been in the news lately and seem to be greatly misunderstood by many consumers. The original idea behind escrow accounts was to protect the interests of homeowners, and they have been serving that purpose for more than 50 years.
Mortgage escrow accounts came into being more than 50 years ago. In the 1930's, many Americans were losing their homes in foreclosures because of late tax payments. To help ease the burden on homeowners who had to come up with large, lump sum payments at tax time, lenders agreed to take on the responsibility by collecting smaller monthly sums from homeowners along with their mortgage payment. In 1934, the government mandated that lenders manage escrow accounts on all FHA insured mortgages. This then became the standard practice for all mortgages.
Mortgage escrow accounts ensure that homeowners' property taxes, fire and hazard insurance premiums, mortgage insurance premiums and other escrow items are paid in a timely fashion. They are a guarantee that there is always enough money to pay these bills when they are due, so that the homeowner avoids the risk of lapsed insurance coverage or delinquent taxes.
Escrowing is governed by the Real Estate Settlement Procedures Act of 1974 (RESP.), administered by the U.S. Department of Housing and Urban Development (HUD). Lenders must manage their escrow accounts in compliance with this federal law and with the interpretations set out by HUD.
In addition, the 1990 Housing Bill signed into law by the President, requires lenders to issue itemized statements of escrow accounts to borrowers on an annual basis. While many lenders are already providing homeowners with regular statements of their escrow accounts, the new law should ensure that every lender follows this practice.
The law is very specific in setting limits on the amount that the lender may collect. The lender may require a monthly payment of 1/12 of the total amount of estimated taxes, insurance premiums, and other charges reasonably anticipated to be paid. In addition, the lender may collect an additional balance of not more than 1/6 of the estimated annual payments. If the lender determines there will be or is a deficiency in the escrow accounts, the law permits the lender to require additional monthly deposits to avoid or eliminate the deficiency.
When the servicing of your loan transferred to another lender, the new
lender takes on the responsibility of managing your escrow account. At that time, the new
lender may examine your escrow account to make sure that the funds being collected are
sufficient to cover all payments that are to be made. If the new lender feels that the
amount collected must be adjusted, you will be notified of the change in your monthly
payment.
When you take out a mortgage with a mortgage company or a bank, there is always a possibility that the lender will "sell" or "transfer" the servicing of your loan to another institution. "Servicing" means the collection of payments and management of operational procedures related to mortgage. When servicing is sold, it means that another lender will be taking your payments, handling your escrow accounts, paying your insurance and taxes and answering your questions. This may happen right after you close on the loan or several years later.
The practice of selling or "transferring" the servicing of your loan is legal and is very common in the mortgage industry. When the servicing is sold, it is usually packaged in a bundle with lots of other loans. Some mortgage companies only originate loans and sell or transfer the servicing immediately. It is more cost-effective for these companies to do this because servicing is not a part of their business. It is common to get your mortgage from a neighborhood lender and have it transferred to an institution in another state. It is also possible for your mortgage servicing to be transferred more than once during the life of your loan.
Whether or not your servicing is sold, has nothing to do with the quality of your loan or your payment history. It has, in fact, nothing whatsoever to do with you personally.
The company that holds your loan makes the decision to transfer servicing to another institution. The company does not have to ask your permission to transfer the servicing, but it does have to inform you of the transfer.
The transfer of servicing should not affect you or your mortgage adversely. The original terms and conditions of your mortgage will stay the same. Your interest rate and duration of your loan will not change on fixed rate loans. Your payment should stay the same or on the same schedule, except in cases where changes in taxes or insurance requirements increase or decrease the escrow amount.
If you have an adjustable rate mortgage (ARM), the original conditions of the mortgage contract stay in effect, and the rate will change according to the adjustment periods (i.e., every six months, annually, every three years, etc.) This information is contained in your contract, but you are welcome to verify the information with your new servicer. If your original lender agreed to let you refinance to a fixed-rate mortgage (FRM) within a certain time-frame, you should ask whether this agreement would be honored by the new lender.
When your lender decides to transfer servicing, you should receive a "goodbye" letter at least five to 15 days before the date of your next payment is due. The letter should state who your new servicing company will be, where it is located, the name and phone number of a contact person or department, and where and when you should send your next payment. You should also receive a "welcome" letter from the new servicer that outlines the same information. Both letters should give the name of the new institution, a contact, phone number, (toll-free if available), the new servicer's address, and instructions for making your next payment.
It is very important that you receive both letters. If you receive only a letter from the new servicer, be sure to call your original servicer to verify that your loan actually has been transferred. It is extremely important that you keep your servicer informed of your current mailing address, so that you will receive all relevant correspondence.
If you have received both letters or have verified the transfer of your mortgage with your old servicer, be sure to send all payments from that point on to your new servicer. If you send the payment to the old servicer, you run the risk of the payment not getting to the correct lender in time, paying a late charge, or of having the payment being lost. It is your responsibility to send the payment to the new servicer once you are informed of the transfer.
The "welcome" letter from your new servicer will often inform you if you will be receiving new payment coupons. But if your payment is due before the coupons arrive, write your loan number on the check, and send it to the address provided in the welcome letter. If you have coupons from your previous servicer, you may include this with your payment.
You will want to read the "welcome" letter carefully for payment instructions. Your payment date will not change, since it is determined in your original mortgage document. If your mortgage is paid through electronic funds transfer or automatic draft each month, you will need to cancel that arrangement and fill out new forms for the payment to be sent to the servicer. Since this often takes time, you may need to send a check yourself for a payment until your electronic funds transfer is changed over. This is something that you will need to take care of. The new servicer cannot take the payment from your savings or checking account without your signature.
If you accidentally send your payment to your old servicer, the company will usually forward the first payment to new servicer, but they will not continue to do this. By not sending your payment to the correct office, you risk your payment being lost. There are some cases where the old servicer no longer exists due to a merger or take over. In that case, the payment may be returned to you by the postal service after several weeks, which may cause a late charge to be assessed to your account.
It is always best to follow the payment instructions received in the "welcome" letter or ask your new servicer about alternate payment locations.
It is your old servicer's responsibility to inform the insurance company and your tax authority of the change in servicer. A follow-up call from you the insurance company or tax authority can help ensure that the tax or insurance bill is not sent to the wrong servicer. You should be able to find their number on your original insurance documents. When you call the insurance company or tax authority, make sure they have your current address and phone number in case they need to contact you.
If your escrow account is interest bearing, all interest due should be credited to your account by the old servicer before the transfer takes place. Your old servicer is responsible for handling these items prior to the transfer.
Some time after your servicing is transferred, your new lender will make an analysis of your escrow. During an analysis the lender reviews your escrow amount and determines if it is adequate to cover the fees for your insurance, taxes and any other premiums paid through escrow. If the amount is found to be insufficient, the lender may ask you to increase your regular monthly payment. If it is your new servicer's policy to review escrow accounts as soon as the servicing is transferred your payment may change immediately. You should receive an explanation regarding any change.
If you receive a notice that either your insurance or taxes are due, call your new servicer and make sure that company has on file that funds have been escrowed for the premium. If the new company has not received a copy of that bill, it will probably direct you to send in the bill for payment. If you have a question after the transfer has taken place, you should contact your new servicer, even if your old servicer was the one that collected the funds for your insurance or tax payment.
Some mortgage companies offer to escrow for life or disability insurance (insurance that would pay off the mortgage in case of death, or make payments in case of disability). In these policies the lender who originally made your loan is named as the beneficiary. If you have these policies, your old servicer should inform you of what effect the transfer of servicing will have on this insurance coverage and what action you may need to take to maintain coverage.
On flood and hazard insurance, it is the responsibility of the old servicer to provide the insurance agent or company with a notice of transfer. The beneficiary may be able to be transferred from one company to the other, but it is wise to make sure this occurs. You should make sure to transfer the beneficiary to ensure that, in case of a claim, the check is written and sent to the appropriate servicer.
Make sure that you find out which lender will be reporting your interest paid for income tax purposes. Sometimes, both lenders will report on the time that they had the loan. Quite often, the new lender will compile the information and send you one tax statement at the end of the year that covers the entire year. You should find out about this at the time of the transfer, so that you know if you should look for one statement or two at the end of the year.
Usually your old servicer will make sure everything is taken care of prior to the transfer, but is in your best interest to check on all details. It is best to ask questions at the time of the transfer to make sure everything is handled before your old servicing company purges your records from its files. It is much more difficult to get information from an institution that has not handled your loan for the last six months.
If you have questions regarding you specific transfer, it is always best to contact your new servicer in writing. At times of mortgage transfers, most companies are flooded with phone calls, so you may get faster and clearer information through the mail.
Always keep your servicer informed
of any changes in your address and phone number. Provide this information in writing and
forward it to the address indicated in your "welcome" letter. This address is
usually different from the one that you would send payments.
When your servicing is
transferred, make sure you receive both a "goodbye" letter and a
"welcome" letter. If you don't receive both letters, call your old servicer to
verify the transfer.
When you receive the letters,
read them carefully making note of the new servicer's name, address, phone number, contact
name and payment information.
When making your payments after
your servicing has been transferred, follow the instructions in the "welcome"
letter.
Make sure that your insurance
companies (homeowners, flood/hazard, life/disability) and your tax authorities have been
notified of the transfer.
Find out which company will be
reporting on your interest paid for income tax purposes.
Ask questions at the time of the transfer. If there is a problem, it is
easier to handle it as soon as it arises. If you have questions after the transfer is
completed, contact your new servicer.
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