SHORT
INTRODUCTION TO CALIFORNIA REAL ESTATE PRINCIPLES,
© 1994 by Home Study, Inc. dba American Schools
Chapter IX: Real Property Acquisition and Transfer
of Rights
Educational Objectives: Learn about Types of Transfer, Principal Instruments of Transfer, Types of Deeds, RESPA, Trust Funds, Escrows, R. E. TERMS GLOSSARY, INDEX.
ACQUISITION OF RIGHTS
Sovereign nations acquire original title to land by discovery, occupancy, conquest, or cession. The grant of title by a governmental body to individual persons is known as a patent.
Subsequent transfer of legal title to real property occurs by alienation, whereby the ownership, title or interest in real estate is conveyed to an alienee who receives the same legal rights, obligations, and remedies as the grantor. Usually, the transfer occurs by voluntary alienation (execution), normally by a deed or by will. The transfer may also come from involuntary alienation (against the will of the owner), such as transfer by a tax sale or nonpayment of taxes, by adverse possession, or by eminent domain.
Contracts representing agreements between two or more parties to sell or buy real estate are, in essence, gap fillers. Legal title or ownership of rights to land is not transferred until the transaction is actually closed. The purpose of a sales contract is to provide the rules governing the rights and duties of the parties between the time the contract is signed and the transaction is completed. A contract for sale does, however, serve to transfer equitable title, an interest held by the contract buyer allowing the buyer to sue for specific performance if the seller refuses to sell after the contract is signed and the buyer tenders performance.
In the acquisition of rights to real property, the most commonly encountered voluntary conveyance is a deed. Accession may also be by will, by descent should the owner die without a will, and by the direction or action of a court.
A deed is a written legal instrument which, when properly executed and delivered, conveys all rights, title, and interest in realty from the grantor to the grantee. It is a form of contract and the requirements relating to contracts apply. There are many types of deeds. The difference among the several types of deeds is the variation of guarantee of ownership and the quality of title assured.
In order for a valid deed to be called a grant deed, the word "grant" must be included in its text. The inclusion of this word is an implied warranty from the part of the conveyor that he or she has not conveyed the same property to any other person and that the property is free and clear of encumbrances, including taxes, assessments or any liens made and suffered by the grantor or any other person claiming under the grantor's rights.
This is an instrument which conveys back title from the trustee to the trustor upon the termination of a trust. This is the case when the mortgage under a deed of trust has been paid in full.
A gift deed is just another name for any type of deed when the property conveyed is given as a gift to the grantee.
Upon foreclosure of property, levied under a judgment of foreclosure, the sheriff executes a deed to the buyer in foreclosure. The state or the sheriff conveys only the title acquired and thus the deed is devoid of any warranties or representations.
The grantor in a general warranty deed warrants or guarantees the title against defects existing before the grantor acquired title or arising during the grantor's ownership. Besides receiving title to the real property, the grantee receives the grantor's personal covenant that the grantor will defend the grantee and the grantee's heirs, personal representatives, and assigns against any claim to the title, no matter how far back in the chain of title. The general warranty deed is the most extensively used form of deed and, because there are more assurances, is the safest deed that can be received.
A warranty deed made in substantial compliance
with the statutory form conveys the whole interest of the grantors and makes
the following covenants or promises which are binding upon the grantors, their
heirs, and personal representative. ,
The grantors covenant or promise that they hold
good right, full power, and absolute authority to convey title to the real
property, as specified in and by the deed. (They are legally seized. )
The grantors warrant that the property being conveyed is free of all liens and encumbrances, except for those specifically stated in the deed.
The grantors promise quiet and peaceable possession of the property by the grantees. The grantor warrants that the grantees acquired title is good, not only as against the grantor, but also as against all third parties.
The grantors agree to perform such acts as may be necessary to perfect title in the grantees.
The grantors promise to defend the title against all persons who may lawfully claim the same title.
Special Warranty Deed
A special warranty deed is one in which the grantors warrant or guarantee the title only against defects arising during the period of their tenure and ownership of the property, and not against defects existing before that time. No statutory form exists for special warranty deeds which are most often used by a person holding title for someone else, such as a trustee or guardian. In recent years, such deeds have been given by employers who have purchased the home of a transferred employee.
A quitclaim deed warrants nothing. It conveys only the present interest, if
any, of the grantor in the land. Although it transfers in full whatever interest the grantor
may have, it is normally used to clear technical defects in the chain of title
or to release lien claims against the property.
In California most real estate transfers are made by a trust deed (deed of trust), in which title to real property is conveyed to a trustee who holds the land for those named as beneficiaries. As in the case of a bank trust, the trustee holds title on behalf of the beneficiaries until certain conditions are met, such as a contract for deed. A trustee's deed is one given by a trustee conveying property under trust. A sheriff's deed is given by court order in connection with the sale of property to satisfy a judgment.
Essential elements of
a deed
To convey legal title, a valid deed must be
delivered to and accepted by the grantee during the lifetime of the grantor. The usual elements of a deed are:
1. Written Instrument
2. Date
3. Parties, Grantor and Grantee
4. Recital
of Consideration
5. Words of Conveyance
6. Description of the Property
7. Exceptions and Restrictions
8. Warranties and Covenants
9. Signature of the Grantor
10. Delivery and Acceptance
12.
Recording
For a deed to be valid, only six of the usual elements, identified above, are absolutely essential. These include: written instrument, identity of the parties (grantor and grantee), words of conveyance, description of the property, signature of the grantor, and delivery and acceptance. Although making a conveyance a matter of public records is not required in order to transfer title, recording is necessary to protect the interest of the grantee in the real property against the claims of third persons.
There is no deed unless it is in writing. If a deed is altered in any manner after delivery to the grantee, it may be set aside by the courts. In case of printed forms, all blanks should be properly completed according to the requirements of law and according to the intention of the parties.
Although it is the universal custom to date all deeds, a date is not absolutely essential for a valid deed. Inclusion of the date may prevent future questions or controversy concerning the time of delivery.
To be valid, a deed must have a name or otherwise clearly identified grantor who is conveying an interest in the property. The name of the grantor should be identical to that appearing in the conveyance by which title was received. Otherwise, it will create a cloud on the title, and although certain minor discrepancies will not invalidate the deed, possible litigation can be avoided by exercising care. The grantor, if a natural person, should be of legal age and sound mind. Otherwise, the grantor can, at a later date, have the deed set aside and recover the property. A grantee must be named or indicated with reasonable certainty or the deed is void.
The matter of consideration is a technical requirement. As a contract, a consideration must be stated in a deed. However, a person may make a gift of a parcel of real estate and lack of consideration does not render the conveyance void. While most contracts must be supported by a valuable consideration, a good consideration (love and affection) is sufficient to support a gift deed.
If no consideration is given, the grantee cannot enforce covenants of warrant against the grantor. A gift deed given to defraud creditors may be set aside by the grantor's creditors.
So that the information will remain private and not be made a matter of public record, most deeds do not show the full purchase price paid. The use of a nominal sum in the recital of consideration satisfies the technical requirement of contract law that there be some consideration.
Without some clearly expressed intention to transfer ownership of real estate, a deed may be ineffective in accomplishing its purpose or may at best create ambiguity as to its purpose. This portion of the deed should clearly state any limitations or reservations that are intended. The standard form deeds in common use utilize terms such as "convey and warrant" in general warranty deeds, "convey and specially warrant" when a deed of limited warranty is intended, or "release and quitclaim" when no warranties of any kind are intended.
The habendum clause following the granting clause defines or limits the extent of ownership to be enjoyed by the grantee, such as fee simple, life estate or easement. The words "to have and to hold" introduce the clause. The description of the estate in the habendum clause should agree with the description in the granting clause.
To correctly identify the property being conveyed, the property must be described with a reasonable degree of accuracy. No doubt should be left as to its identification. Although several ways are acceptable for describing property, to avoid discrepancies in the records, the legal, technical description should be the same as used in previous conveyances.
All improvements to the land go with the land as appurtenances. In transferring a house and lot, it is necessary only to describe the land upon which the house is situated. It is common, however, to add, following the description, words indicating that all the appurtenances go with the land.
The
grantor is assumed to be conveying the property free and clear of all
encumbrances and restrictions, except for those specifically mentioned in the
deed. Therefore, the deed usually
contains a provision that the grantor conveys the property free and clear of
all encumbrances. Then follows a
specific enumeration of the exceptions, such as: "subject to a mortgage
(giving complete description)," "subject to an easement (with a
detailed description)" or "subject to all encumbrances and
restrictions of record. "
Warranties and covenants are not essential requirements of a valid deed. The grantor may convey an interest in land by a quitclaim deed wherein no warranty of any kind is given, or the grantor may convey by a general warranty deed wherein numerous warranties are made to the grantee.
To transfer title effectively by a deed, it must be signed by the grantor with the intent that ownership of some interest in land be transferred to a designated grantee. In the event there are co-owners, and the agreement is to transfer the interest of each of the owners, each must sign the deed.
If the property is homestead property, the owner's spouse must join in the conveyance. The rules in practice require the signatures of both husband and wife on any deed to property owned by only one of them.
The execution of a deed to property owned by a partnership can be accomplished by the signature of any general partner on the deed. For corporations, a resolution of the board of directors will give authority to certain officers to execute deeds on behalf of the company.
A deed is not effective until it is delivered by the grantor and accepted by the grantee. For there to be an effective delivery, the grantor must intend to pass title to the grantee. A deed given to the grantee, affording an opportunity to examine, does not constitute delivery.
For delivery of a deed to be effective, it must be made during the lifetime of the grantor. If the grantor executes a deed, retains it and directs that upon death, it is to be delivered to the grantee, the deed does not pass title. Effective delivery may be made to some third person for the benefit of the grantee, but the grantor must surrender all right and control or recovery of the deed. When a deed is recorded the law presumes effective delivery.
An acknowledgment is a formal declaration made by a person (in the case of a deed, by the grantor) to a notary public or another public official authorized to take acknowledgments, and to affirm that the execution of the instrument was an act of free will, voluntarily given. The notary public, or other authorized officer, fills out the certificate of acknowledgment customarily printed on the instrument. The statutory form of acknowledgment also provides that the declarer is known by the notary or other authorized officer to be the identical person who executed the instrument.
A deed is valid between the parties without being acknowledged, but the deed cannot be recorded unless it has been acknowledged. Since an unrecorded title can lead to serious difficulties, it is advisable to have the deed acknowledged so that it can be recorded. If, by chance, the deed should be recorded without an acknowledgment and remain so recorded for a period of ten years, the recording shall be valid as though it had been acknowledged.
A deed need not be recorded to be valid between the parties. However, the prudent purchaser will immediately record the deed. Recording protects an innocent purchaser or encumbrancer who acts without knowledge of an unrecorded instrument and also provides a conclusive presumption that all persons have knowledge of the recorded instrument.
Dedication
Occasionally, privately owned land is transferred to the public without consideration, with the intent that the land will be accepted and used for public purposes. This is most common in real estate developments where the streets, water system and sewer lines have been constructed and paid for by the developer and subsequently dedicated to the public and given to the city for future maintenance.
Transfers at death
If one dies with a valid will (testate), the estate, consisting of all real and personal property (hereditaments), will be distributed to heirs and assigns according to the express intent of the decedent. A will handwritten by the testator is a holographic will. The gift of property by the last will and testament of the donor is a devise. The recipient of such property is the devisee. If one dies without a will (intestate), the estate will be distributed by succession, according to the descent and distribution statutes of the state.
In either case, the judicial process for disposition of the estate of the decedent will be the responsibility of the probate court acting through an executor or executrix named in the will or an administrator or administratrix who is appointed by the court in the event one dies without a will. In any case, the sale of real property after death cannot normally be consummated until the state tax authorities and the Federal Internal Revenue Service have given clearance.
Land contract
A contract for deed, also known as an installment sales contract or as a land contract, is a conditional sales contract to purchase real property in which the buyer makes a down payment and where further payments are made in installments. In such contracts, the seller does not deliver the deed to the buyer until all, or a specified amount, has been paid on the price. In the event of default by the buyer, the seller is required to initiate a foreclosure action, even though the buyer does not have legal title to the real property.
In a contract for deed, it may be months or years before the buyer receives a deed. It is common, therefore, to arrange for a third and neutral party to collect the buyer's payments and to assure that the contract terms are completed. This is referred to as a deed in escrow.
For deeds delivered in escrow, the deed must be delivered during the lifetime of the grantor and if he dies, title relates back to the date the deed was delivered to the escrow agent if all conditions of the escrow are met.
Contracts for deed are deceptive in their apparent simplicity. Significant legal and moral problems can arise from their use. A full and comprehensive understanding of the nature of the instrument, its uses and its inherent dangers, is important to real estate professionals.
Defining a Contract
for Deed
A standard definition of a contract for deed is:
"a written agreement by which real estate is sold to a buyer who pays a
portion of the purchase price when the contract is signed and completes payment
in installments over a specified period of years, with the title remaining with
the seller until the total purchase price or a stipulated portion of the
purchase price is paid. "
Sometimes it is useful in defining something to include what it is not. In the case of a contract for deed, it is not a sales contract as such, but it is technically a contract and must meet all the basic contract rules. It is not a mortgage, but it serves as a financial security device and should contain the covenants of a mortgage. It is not a deed, but it serves to create equitable interest in behalf of the grantee (buyer).
As a Contract
All essential elements of a contract must be present for a contract for deed to be valid and enforceable. The parties must be competent to enter into a contract. There must be an offer and an acceptance which manifest the mutual assent to be bound to the terms of the offer. There must be consideration supporting the contract. A contract for deed to be valid must have for its purpose a legal objective and to be enforceable, any agreement for the sale of real estate or the sale of an interest therein must be in writing and signed by the party against whom enforcement would be sought in the event of breach. There must be a legally adequate description clearly identifying the subject property.
Acknowledgment and
Recording
It is not necessary for a contract for deed to be notarized or recorded to be binding between the parties. However, if it is intended that the contract be recorded, it must be executed in compliance with the recording statutes of the state.
Assuming the buyer took possession, the interest of the buyer would be protected without recording the contract for deed inasmuch as anyone buying from the seller, the owner of record, would take notice of the rights of the parties in possession. In the case of undeveloped land, however, occupancy is not so obvious and a good faith purchaser might have no notice or knowledge of the existence of the contract and would be able to take the property free of the interest of the contract buyer.
As a Financial
Security Device
The best security available is title to property rights. Under the typical contract for deed, the seller retains legal title until the last payment has been made. Only then arc they obligated to transfer full legal ownership to the buyers. Legal authorities generally agree that in most cases, the buyers do not acquire legal title until they have fully performed on the contract. Most courts will recognize, however, that the buyers who have made payments under a contract for deed do have an equitable interest in the property, and will protect buyers accordingly.
As a Promissory Note
Because the contract for deed does not have an accompanying note, all the conditions of the sale are described in the contract forms, including the full purchase price and the terms of the loan.
Assignability
Although the buyers cannot sell their fee interest (they have none), they may assign their rights to third parties provided there is an absence of any prohibition to the agreement. Should an assignment of interest take place, whether the original buyer still has the obligations assumed in the initial agreement, or whether the buyer is released, will depend on the wording of the contract. In the usual contract for deed, the sellers look to the property for their security; in such a case, should a buyer default, the sellers cannot pursue the buyer for any unpaid payments or for a "deficiency" in event the property cannot be resold at the same or a better price. As a practical matter, many buyers under contracts for deed are in such marginal economic circumstances that pursuing them for collection of such debt would be futile.
In many sales by buyers of their rights under a contract for deed, the sellers may not know that the contract has been transferred. If, however, the original buyers take their successor to the sellers for approval, a novation may result. This is, in effect, a new contract between the sellers and the successor buyers. Under these circumstances, the first buyer would normally be released from further obligation.
Common covenants in a contract for deed
1.
Ad Valorem Taxes and Assessment
Clause
The tax burden for property is usually imposed upon the holder of record title. In a contract for deed, the seller remains the hold of title but logically the payment of real estate taxes should be the responsibility of the purchaser who is occupying and using the property. The clause is necessary to effect the shifting of the burden of payment to the purchaser. Sellers commonly reserve the right to pay the taxes in order to protect their security, the legal title, and to add the cost back into the unpaid balance.
It is also appropriate for the contract buyer to bear the burden of the payment of assessments for municipal improvements such as trees, sewers, water and the like. These improvements increase the value of the property and should be paid for by the ultimate owner.
Both parties have an insurable interest, but there is no clear duty to insure on the part of either. The typical resolution of the question of who should pay the insurance is covered by the contract provision that the purchaser obtain and keep in force adequate insurance for the benefit of both parties, with the policy to be held by Seller during the payment period. Note the provision which requires notice to Seller before Purchaser's policy may be cancelled.
3. Maintenance and Inspection Clause
It is usually in the best interest of the purchaser to keep the property in good repair. However, in order to protect the seller's security, it is common to impose a positive requirement upon the buyer to maintain the property. Failure of the buyer to do so will constitute a breach of the contract so that it can be terminated by the seller and the property taken back. Because of the difficulty that may be encountered in monitoring good repair, a good contract will reserve the right to enter and inspect periodically to verify that necessary maintenance is in fact being performed.
4. Against removal; Mechanics' and
Materialman's Lien
The seller will usually seek assurance against removal or demolition of any building on the property without consent. This is necessary because the amount of money involved is generally based on value that includes both land and buildings. Some improvements may be of no value and actually a hindrance to the proposed use of the property. The seller may be pleased to approve removal of certain dilapidated structures, but the contract should clearly spell out the authority to approve or deny such action.
Numerous lawsuits have arisen where a materialman has tried to assert a claim of lien against both the buyer and the seller. The legal theory underlying this assertion is that the seller had actual notice that the buyer was placing improvements on the property. The clause used in the sample will assist in freeing the seller from this problem.
The use clause requires the buyer to refrain from breaching any existing private or restrictive covenant as well as prohibits illegal use of the property. Such protection is necessary to protect the value of any property interest retained by the seller, whether he intends to keep it or sell it to others. It is also protection for the innocent seller against asset seizure should the property be subject to confiscation for illegal substance distribution.
6. Assignment and Lease Clause
Many contracts for deed contain an absolute prohibition against assignment. In the absence of any provision at all, the contract for deed would be freely assignable by the buyer just as almost all other contracts may be assigned. This particular covenant contemplates the possibility of assignment, but permits the seller to retain a strong element of control by requiring approval prior to assignment.
Interest calculations may be figured on a monthly, semiannual, or other time bases and can be computed on the balance due at the beginning or at the end of the period. In order to avoid misunderstanding, the manner of calculation should be stated clearly.
8. Seller's Mortgage Rights
If there is already an existing mortgage against
the property at the time of the execution of the contract for deed, whether or
not
this fact is made known to the buyer, the lien thereby created will not be affected by the sale and the contract buyer's rights will be subservient to those of the lienholder. Even where there is no such pre-existing secured debt upon the property, however, the seller may find it necessary or desirable to create it even after entering into the contract for deed. Because this action has a negative impact upon the seller's ability to perform his side of the bargain, the contract buyer is entitled to be notified of such intended actions by the seller. The lender, if aware of the contract for deed, will insist upon the contract buyer's acquiescence and recognition of the superiority of the lien of the mortgage.
9. Escrow Instructions
When a neutral third party is engaged to handle the details of the transaction, instructions should be set out in detail stating the conditions on which the deed is to be delivered to the grantee, the disposition of the deed on default, and other details pertinent to the escrow agreement.
10. Acceleration and Additional Expenses
Clauses
Like a mortgage, a contract for deed should include a clause providing that in case of default on the part of the buyer, the seller can declare the remaining amount due and payable immediately. Known as the acceleration clause, it can also indicate the grace period, the notification to the buyer of what action will be undertaken, and the allowance of additional expenses involved in the foreclosure process to be charged to the buyer.
11. Pre-payment Clause
This clause gives the buyer the privilege of paying off the contract ahead of schedule. It will usually state that the buyer may pay the entire or stated amounts on the principal at any time he chooses prior to the due date. Some such clauses, however, call for a pre-determined penalty for early payment.
12. Possession
The risk of loss is on the seller until either title or possession of the property has passed to the buyer. Since title may not be transferred for years, the date of possession becomes significant. Also, the purchaser needs to know when he can occupy premises.
13. Contract Binding
The purpose of a real estate contract is to bind the buyer and seller to do something at a future time. In case of death or incapacity of one or the other of the parties, a valid contract is binding upon the heirs and assigns. This covenant alerts both parties to the permanent effect of the contract which may extend the provisions beyond the life of the parties.
Signatures
All owners of record should sign. The agent has a responsibility to make a reasonable effort to determine who the owners actually are and ascertain that they sign their names exactly as they received title. Buyers names should be signed exactly as they wish to accept title. All parties should sign for themselves and the agent should not sign for any of the parties unless there is a valid power of attorney for same that has been recorded or that can be recorded.
Acknowledgment
Although a contract for deed is binding between the parties if not notarized, it cannot be recorded without acknowledgment, a declaration by the grantor to a notary public or other public official authorized to take acknowledgments. The acknowledgment certifies that the instrument was executed by the grantor, known by the notary or other authorized officer to be the identical person who executed the instrument, and that it was his free and voluntary act.
Caveat
The general use of contracts for deeds has been discouraged by real estate practitioners because of the dangers and uncertainties over a long haul. A contract for deed can develop into a nightmare for both buyers and sellers if not carefully drawn with the guidance of a competent attorney. On the other hand, a well designed contract for deed can be a useful and effective tool in long term financing.
INVOLUNTARY TRANSFERS
Rights to real property may be transferred through no voluntary act of the current owner. The most typical examples of involuntary alienation of rights include escheat, eminent domain, confiscation, accretion, and adverse possession.
The state is the potential heir of all owners of real estate. It takes their property unless someone else succeeds to its ownership either by virtue of disposition by a valid will or by the state rules of inheritance. The legal process of reversion of the ownership of property to the state is escheat. The most typical occasion giving rise to escheat is when the property owner dies intestate (no will) and without heirs capable of inheriting (no legal heirs).
The power of eminent domain is an inherent right reserved by the government. It is the power of governmental units literally to take private property when it is concluded that such action is in the best interest of the general public. The method by which this power is exercised is called condemnation. Privately owned property may be taken for public use by condemning it.
The taking or condemning of private property must be done in accordance with specific legislative authority and within the limitations of the owner's constitutional rights, both federal and state. Generally, payment must be made to the landowner based upon the fair value of the property taken and the landowner may also collect payments for damages (in terms of loss of value) to the property remaining.
Certain essential utilities, such as gas companies, electric companies and railroads, are frequently conferred the right of eminent domain. Once there has been a legitimate determination that private property is needed for a public purpose (that is, the taking is not arbitrary nor capricious), the landowner can only dispute the value of the property taken, not the right to take.
The government has the power to take property in time of emergency or war, without compensation. Such confiscation generally applies only to property of enemies of the government.
Section 881 of the Federal Drug Enforcement Act
of 1988 allows real property to be seized and forfeited if it is used to
facilitate illegal drug traffic. Real property of owners and/or landlords may be confiscated
due to the actions of others, including tenants. Those who can prove that they were "innocent
owners," either by having no knowledge of the illegal activity or by
making all reasonable effort to alleviate the activity, have some protection
from "asset seizure. "
Accretion is the acquisition of land due to the gradual accumulation of soil (alluvion) by natural causes resulting in stream or river shoreline changes. Although usually beneficial for those landowners whose holdings are increased by the process, accretion may be detrimental to others who lose a portion of their holdings through erosion. The process of gradual recession of water from the usual watermark, thereby increasing land volume, is known as reliction or dereliction.
Avulsion is the loss of land due to the sudden removal of a considerable quantity of soil by an act of nature, such as a flash flood tearing away a sizeable portion of land. A riparian owner generally does not lose title to land by avulsion. The boundary lines stay the same no matter how much soil is lost.
Adverse possession is a possession of private property which is inconsistent with and detrimental to the rights of the true owner. The title to private property may pass by prescription, against the will and desire of the owner, if the adverse claimant takes physical possession of the property for the statutory term of fifteen years. The justification for this "legalized stealing" of real estate is that if the true owners choose not to take action for such a long period of time, the law will not help them regain lost ownership. The public purpose of adverse possession is to prevent the abandonment of private property and to keep land productive for society.
To acquire legal title by adverse possession, the potential owner has to have been in actual possession that was open and notorious (obvious), exclusive (unshared), and continuous and uninterrupted, and with the claim of right of ownership for fifteen years. A second or follow-up adverse claimant may "tack on" another period of continuous occupancy to that of the first adverse claimant who has sold or otherwise conveyed an interest in the property to the second claimant. By tacking, the successive occupancies may total the necessary period of time.
Whenever title to real estate depends on a claim by virtue of adverse possession, it may be necessary to obtain a judicial determination that acquisition of the title has in fact occurred. The common name for such a proceeding is a quiet title suit. Those who claim title bring legal action in a local court against anyone and everyone who may have or may ever have had a any claim against the property, no matter how remote, to prove the validity of their title. Such suits typically name everyone ever remotely connected with the property and "the rest of the world" as defendants.
Title may also be acquired through adverse possession by a claimant who has only a color of title wherein the title may appear to be good, but, because of a certain defect, is in fact not valid. This commonly occurs in situations such as a forged deed where the occupant does not have title, but by fulfilling the requirements of adverse possession, good title may be acquired.
Adverse possession should not be confused with squatter's rights where in the claimant may not be seeking title. Although squatters may develop a "prescriptive claim" or title that can eventually ripen into good title, the process is much less certain than gaining title by adverse possession.
TRUST FUNDS
As result of the AB 1902 legislation, the California Bureau of Real Estate has introduced a new continuing education requirement in trust fund handling for licensees renewing their licenses after 1/1/1996 (see details in Chapter XV). Potential licensees are advised to study carefully the subject of trust fund handling as it could well appear among the questions at the state licensing examination.
(The following is reprinted by permission from
the CalBRE Reference Book, 659?692)
What are trust funds?
Real estate brokers and salespersons receive trust funds in the normal course of doing business. They receive these funds on behalf of others, thereby, creating a fiduciary responsibility to the funds' owners. Brokers and salespersons must control, and account for these trust funds according to established legal standards. While compliance with these standards may not necessarily have a direct bearing on the financial success of a real estate business, non-compliance can result in unfavorable business consequences. Improper handling of trust funds is cause for revocation or suspension of a real estate license, not to mention the possibility of being held financially liable for damages incurred by clients.
Trust
Funds vs Non-Trust Funds
Since trust funds must be handled in a special manner, a licensee must be able to distinguish trust funds from non-trust funds. Trust funds are money or other things of value that are received by a broker or salesperson on behalf of a principal or any other person, and which are held for the benefit of others in the performance of any acts for which a real estate license is required. Trust funds may be cash or non-cash items. Some examples are: cash, a check used as a purchase deposit (whether made payable to the broker or to an escrow or title company), a personal note made payable to the seller, or even a pink slip to a car that is given as a deposit. According to Business and Professions Code Section 10145, trust funds received must be placed into the hands of the owner(s) of the funds, into a neutral escrow depository, or into a trust account maintained pursuant to Commissioner's Regulation 2830 not later than the next business day following receipt of the funds by the broker or by the broker's salesperson.
An exception to this rule is when a check is
received from an offeror in connection with an offer to purchase or lease real
property. As provided under
Commissioner's regulation 2832, a deposit check may be held uncashed by the
broker until acceptance of the offer if the following conditions are met:
1. The check by its terms is not negotiable by the broker, or if
the offeror has given written instructions that the check shall not be
deposited or cashed until acceptance of the offer; and
2. The offeree is informed, before or at the time the offer is presented for acceptance that the check is being so held. If the offer is later accepted, the broker may continue to hold the check undeposited only if the broker receives written authorization from the offeree to do so. Otherwise, the check must be placed, not later than the next business day after acceptance, into a neutral escrow depository or into the trust fund bank account or into the hands of the offeree if both the offeror and offeree expressly so provide in writing.
According to Business and Professions Code Section 10145, a real estate salesperson who accepts trust funds on behalf of the broker under whom he or she is licensed must immediately deliver the funds to the broker or if directed by the broker, place the funds into the hands of the broker’s principal or into a neutral escrow depository or deposit the funds into the broker's trust fund bank account. A neutral escrow depository, as used in Business and Professions Code Section 10145, means an escrow business conducted by a person licensed under Division 6 (commencing with Section 17000) of the Financial Code or by any person described in subdivisions (a) and (c) of Section 17006 of the Code.
Identifying the
Owner(s) of the Trust Funds
A broker must be able to identify which
of the parties in a transaction owns the trust funds and is entitled to receive
them, since these funds can be disposed of only upon the authorization of that
person. The person entitled to the
funds may or may not be the person who originally gave the funds to the broker.
Prior to the acceptance of the offer, the funds received from the offeror
belong to that person and must be handled according to his/her instructions.
After acceptance of the offer, however,
the funds shall be handled according to instructions from the offeror and the
offeree as follows:
. An offeror's check held uncashed by the broker before acceptance of the offer may continue to be held uncashed after the acceptance of the offer, only upon written authorization from the offeree. (Commissioner’s Regulation 2832(d)).
. The offeror's check may be given to the offeree only if the offeror and offeree expressly so provide in writing. (Commissioner's Regulation 2832(d)).
. All or part of an offeror's purchase money deposit in a real estate sales transaction shall not be refunded by an agent or subagent of the seller without the express written permission of the offeree to make the refund. (Commissioner's Regulation 2785(a)(10)).
Trust fund bank accounts
General Requirements
Trust funds received by a licensee that
are not forwarded directly to the broker's principal or to a neutral escrow
depository or for which the broker does not have authorization to hold uncashed
must be deposited to the broker's trust fund bank account. (Business and Professions Code Section
10145. )
Business and Professions Code Section
10145 and Commissioner's Regulation 2830 require that a trust account meet the
following criteria:
1. Designated as a trust account in the name of the broker as
trustee;
2.
Maintained with a bank or
recognized depository located in California; and
3. Not an interest-bearing account for which prior written notice can by law or regulation be required by the financial institution as a condition to withdraw the funds, except as noted in the following discussion of "Interest Bearing Accounts".
Trust Account Withdrawals
According to Commissioner's Regulation
2834, withdrawals from the trust account may be made only upon the signature of
one or more of the following:
1. The broker in whose name the account is
maintained; or
2.
The designated broker-officer if
the account is in the name of a corporate broker; or
3.
If specifically authorized in
writing by the broker, a salesperson licensed to the broker; or
4. If specifically authorized in writing by the broker, an unlicensed employee of the broker covered by a fidelity bond at least equal to the maximum amount of the trust fund to which the employee has access at any time.
Any arrangement under which a person named in items 3 or 4 is authorized to make withdrawals from a broker's trust fund account does not relieve an individual broker or the broker-officer of a corporate broker licensee from responsibility or liability as provided by law in handling trust funds in the broker's custody. The fact of an employee's irresponsibility or negligence also does not relieve the broker of compliance with the law.
Why a trust Account?
An important reason for designating a trust fund depository as a trust account is the protection afforded principals' trust funds in situations where legal action is taken against the broker or if the broker becomes incapacitated or dies. Trust funds held in a true trust account cannot be "frozen" pending litigation against the broker or during probate. Trust funds also have better insurance protection if deposited into a trust account. The general counsel of the Federal Deposit Insurance Corporation (FDIC), in an opinion in 1965, held that funds of various owners which are placed in a custodial deposit (trust account) in an insured bank will be recognized for insurance purposes to the same extent as if the owners' names and interests in the account are individually disclosed on the records of the bank, provided the trust account is specifically designated as custodial and the name and interest of each owner of funds in the account are disclosed on the depositor's records. Each client with funds deposited in a trust account maintained with a federally insured bank is insured by the FDIC up to $100,000, as opposed to just $100,000 for the entire account, as long as the regulatory requirements are met.
Interest
Bearing Accounts
A trust fund bank account normally may not be interest bearing. A broker may, however, at the request of the owner of trust funds, when certain requirements pursuant to Business and Professions Code Section 10145 are met.
Funds belonging to the licensee may not be commingled with trust funds. Commingling is strictly prohibited by the Real Estate Law. It is grounds for the revocation or suspension of a real estate license pursuant to Business and Professions Code Section 10176(e).
Commingling occurs when:
1. Personal or company funds are deposited into the trust fund bank account. This is a violation of the law even if separate records are kept.
2. Trust funds are deposited into the licensee's general or personal bank account rather than into the trust fund account. In this case the violation is not only commingling, but also handling trust funds contrary to Business and Professions Code Section 10145. It is also grounds for suspension or revocation of a license under Business and Professions Code Section 10177 (d) .
3. Commissions, fees, or other income earned by the broker and collectible from the trust account are left in the trust account for more than 30 days from the date they were earned. A common example of commingling is depositing rents and security deposits on broker-owned properties into the trust account. As these funds relate to the broker's properties, they are not trust funds and, therefore, may not be deposited into the trust fund bank account. Likewise, mortgage payments and other payments on broker-owned properties may not be made from the trust account even if the broker reimburses the account for such payments. Conducting personal business through the trust account is strictly prohibited and is a violation of the Real Estate Law.
For practical reasons, a real estate
broker's personal funds may be commingled in the trust account in the following
two specific instances:
1. A broker is allowed to maintain up to $100 of personal funds in a trust account to cover checking account service fees and other bank charges such as check printing charges and service fees on returned checks. Trust funds may not be used to pay for these expenses. The preferred practice however, is for the broker to have the bank debit his/her own personal account for any trust account fees and charges.
2. Commissions, fees, and other incomes earned by a broker, collectible from trust funds deposited into the broker's trust account may remain there for a period not to exceed 30 days. While leaving this income in the trust account is technically commingling of funds, sometimes it may just not be practical to disburse the earned income immediately upon receipt. For instance, a property management company may find it too burdensome to collect its management fee every time a rent check is received and deposited to the trust account. Therefore, as long as the broker disburses the fee from the trust account within 30 days after it is earned there is no commingling violation.
Note, however, that income earned shall not be taken from trust funds received before depositing such funds into the trust bank account. Also, under no circumstances may the broker pay personal obligations from the trust fund bank account even if such payments are a draw against commissions or other income. The broker must issue a trust account check to himself/herself for the total amount of the income earned, adequately documenting such payment, and then pay personal obligations from the proceeds of that check.
Trust Fund
Liability
Trust fund liability arises when funds are received from or for the benefit of a principal, and decreases when funds are disbursed according to instructions from that principal. The aggregate trust fund liability at any one time for a trust account with multiple beneficiaries is equal to the total positive balances due to all beneficiaries of the account at the time. Note that beneficiary accounts with negative balances are not deducted from other accounts when calculating the aggregate trust fund liability. Funds on deposit in the trust account must always equal the broker's aggregate trust fund liability. If the trust account balance is less than the total liability a trust fund shortage results. Such a shortage is in violation of Commissioner's Regulation 2832. 1, which states that a broker may not disburse or cause or permit the disbursement of funds from a trust fund account without the prior written consent of every owner of the funds if the disbursement will reduce the balance of the account below the trust fund liability. Conversely, if the trust account balance is greater than the total liability there is a trust fund overage. An overage is also a violation of the Real Estate Law since non-trust funds may not be commingled in the trust account.
A trust fund discrepancy of any kind is a serious violation of the Real Estate Law. Many broker and salesperson licenses have been revoked after a CalBRE audit disclosed a trust account shortage, even in those cases where the shortage had been corrected prior to the audit.
To ensure that the balance of the trust
account at all times equals the trust fund liabilities, a broker should take
the following precautionary measures:
1. Deposit intact and in a timely manner to the trust account all funds that are not forwarded to escrow or to the funds' owner(s) or which are not held uncashed as authorized. This practice, required under Commissioner's Regulation 2832, lessens the risk of the funds being lost, misplaced, or otherwise not deposited to the trust account. A licensee is accountable for all trust funds received whether or not they are deposited. Department auditors have seen numerous cases where trust funds received were properly recorded on the books, but were never deposited to the bank.
2. Maintain adequate supporting papers for any disbursement from the trust account, and accurately record the disbursement both in the Bank Account Record and in the Separate Beneficiary Record. The Broker must be able to account for all disbursements of trust funds. Any unidentified disbursement will cause a shortage.
3. Disburse funds against a beneficiary's account only when the disbursement will not result in a negative or deficit balance (negative accountability) to the account. Many trust fund shortages are caused by the broker's making disbursements for a beneficiary in excess of funds received from or for account of that beneficiary. The over-disbursements are, in effect, paid out of funds belonging to other beneficiaries with positive balances. A shortage occurs because the balance of the trust fund bank account, even if it is a positive balance, is less than the broker's liability to those other beneficiaries.
4. Ensure that a check deposited to the trust fund account has cleared before disbursing funds against that check. This applies, for example, when a broker after depositing an earnest money deposit check for a purchase transaction has to return the funds to the buyer because the offer is rejected by the seller. A trust fund shortage will result if the broker issues the buyer a trust account check and the buyer's deposit check bounces or for some reason fails to clear the bank.
5. Keep accurate, current and complete records of the trust account and the corresponding beneficiary accounts. They are essential to ensure disbursements are correct.
6. On a monthly basis, reconcile the cash record with the bank statement and with the separate record for each beneficiary or transaction.
Summary: Maintaining Trust Account
integrity
In summary, to maintain the integrity of
the trust fund bank account, a broker must ensure that:
1.
His/her personal or general
operating funds are not commingled with trust funds;
2.
The balance of the trust fund
account is equal to the broker's trust fund liability to all owners of the
funds; and
3. The trust fund records are in an acceptable form and are current, complete, and accurate.
ACCOUNTING
RECORDS
General
Requirements
An important aspect of the broker's
fiduciary responsibility to the client is the maintenance of adequate records
to account for trust funds received and disbursed. This is true whether the funds are deposited to the trust
fund bank account, sent to escrow, held uncashed as authorized under
Commissioner's Regulation 2832, or released to the owner (s) of the funds. A broker should recognize the necessity
of maintaining good and accurate accounting records. They are a requisite to the proper handling of trust funds,
in that they:
1.
Provide a basis upon which the
broker can prepare an accurate accounting for his/her clients, especially in
the case of property management accounts;
2.
State the amount of money the
broker owes the account beneficiaries at any one time, this is especially
important when there are a large number of transactions;
3.
Prove whether or not there is an
imbalance in the trust account. (Some brokers audited by the Department in the
past disagreed that their trust account had a shortage or an overage in the
amount disclosed by the audit, but at the same time could not provide
documentation to support their position)
4.
Evidence the fact that funds
deposited in the trust account belong to beneficiaries only and not to the
broker; and
5. Guarantee that beneficiary funds deposited in the trust account will be insured up to the maximum FDIC insurance coverage.
There are two types of accounting records
that may be used for trust funds:
columnar records in the formats
prescribed by Commissioner's Regulations 2831 and 2831. 1; and records other
than columnar records that are in accordance with generally accepted accounting
practices. Certain basic characteristics must be present in an accounting
system to be acceptable under Commissioner's Regulation 2831 and 2831. 1, regardless
of the type of system used. To be an acceptable system, the records must show
the following:
1.
All trust fund receipts and
disbursements with pertinent details presented in chronological sequence;
2.
The balance of each trust fund
account calculated based on recorded transactions;
3.
All receipts and disbursements
exclusively affecting each beneficiary's account presented in chronological
sequence; and
4. The balance owing to each beneficiary or for each transaction, such balance calculated based on recorded transactions.
Either manually produced or computerized accounting records are acceptable. The type and form of records appropriate to a particular real estate operation as well as the means of processing transactions will depend on factors such as the nature of the business, the number of clients, the volume of transactions, and the types of reports needed. For example, manual recording on columnar records might be satisfactory for a broker handling a small number of transactions, while a computerized system might be more appropriate and practical for a large property management operation.
Reconciliation
of accounting records
The accuracy of the records can be verified by reconciling them at least once a month. Reconciliation is the process of comparing two or more sets of records to determine whether their balances agree. It will disclose whether the records are completed accurately.
For trust fund record keeping purposes,
two reconciliations must be made at the end of each month:
1.
Reconciliation of the bank account
record with the separate beneficiary or transaction records; and
2. A reconciliation of the bank account record with the bank statement.
Commissioner's Regulation 2831. 2 requires that this reconciliation process be performed monthly except in those months when there is no activity in the trust fund bank account, and that a record of each reconciliation be maintained. This record should identify the bank account name and number, the date of the reconciliation, the account number or name of the principals or beneficiaries or transactions, and the trust fund liabilities of the broker to each of the principals, beneficiaries or transactions.
Documentation
Commissioner's Regulation 2725 requires
that every instrument prepared or signed by a real estate salesperson in
connection with any transaction for which a real estate license is required
that may have a material effect upon the right or obligations of a party to the
transaction shall be reviewed, initialed, and dated by the salesperson's broker
within five working days after preparation or signing by the salesperson or
before the close of escrow, whichever occurs first. As long as the broker does not relinquish his overall
responsibility for supervision of the acts of salespersons licensed to him, the
broker may delegate this responsibility or authority as follows:
1.
To any licensed real estate broker
who has entered into a written agreement with the broker relating to the
delegation;
2. To a real estate salesperson licensed to the broker if the salesperson has accumulated at least two years full-time experience as a salesperson licensee during the immediately preceding five year period and has entered into a written agreement with the broker with respect to the delegation of responsibility. In the case of any real property or business opportunity transaction where an escrow is conducted by a real estate broker under the exemption of Section 17006 of the Financial Code, the broker's responsibility to review and initial instruments extends to escrow instructions and closing statements if rendered to the parties to a transaction prior to close of escrow, and which were prepared or signed by a salesperson licensed to the broker or by an associate or employee of the broker.
Audits
Because of the importance of trust fund handling, the Commissioner has an ongoing state-wide program of examining brokers' records. Licensees audited will be made aware of trust fund handling and record keeping requirements where necessary. If during the course of an audit or examination actual trust fund imbalances are uncovered or money handling procedures pose a potential monetary loss situation, even if a loss has not yet occurred, appropriate disciplinary proceedings will be initiated. Section 10148 of the Business and Professions Code provides that a licensed real estate broker shall retain for three years, copies of all listings, deposit receipts, canceled checks, trust records, and other documents executed by or obtained by the broker in connection with any transaction for which a real estate broker license is required. The retention period shall run from the date of the closing of the transaction or from the date of the listing if the transaction is not consummated. After giving notice, such books, accounts and records shall be made available for examination and inspection by the commissioner or his designated representative during regular business hours, and shall, upon the appearance of sufficient cause, be subject to audit without further notice, except that such audit shall not be harassing in nature.
The three Rs of trust funds are: Responsibility, Requirements and Records. It is the real estate broker's responsibility to protect clients' funds at all times and keep clients fully informed of the nature and disposition of all trust funds. To aid the broker in carrying out this responsibility, the Real Estate Commissioner has set forth in regulations the legal requirements concerning trust funds. The real estate broker also needs to meet other requirements from a practical business point of view. To protect clients' funds adequately and in the business-like fashion expected, the broker must, of necessity, keep accurate records. Strict attention to these three Rs is expected.
(End of the CalBRE Reference Book excerpt)
An escrow is essentially a small and short-lived
trust arrangement. It has become
almost an indispensable mechanism in this state for the consummation of real property
transfers and other transactions such as exchanges, leases, sales of personal
property, sales of securities, loans, and mobilehome sales.
An escrow contains all of the necessary instructions which reflect the understanding of the parties in all the essential requirements of the transaction. When properly drawn and executed, escrow instructions become an enforceable contract binding on all the parties. An escrow is termed "complete" when all the terms of the instructions have been met.
Procedure: May Vary According to Local
Custom
The basic escrow procedures include the
following:
1.
Prepare Escrow Instructions. Escrow instructions are generally
prepared by the escrow holder on the escrow holder's printed form. All principals to the escrow (buyers-sellers,
lender-borrower, vendor-vendee) sign identical instructions which fully set
forth the understanding of the parties to the transaction and deliver their
signed instructions to the escrow holder, usually with an initial deposit.
2. Order Title Search. The escrow officer orders a search of the title of the subject property, which search is delivered to the escrow by the title company in a form called "Preliminary Title Report. " The escrow agent examines this report carefully; it may show items which are not contemplated in the escrow instructions and must be cleared by the seller or brought to the attention of the buyer.
3. Request Demands and/or Beneficiary Statements. The escrow agent writes to any lenders whose loans are of record for either "Demands for Pay-off," if the existing loans are to be paid off in full through the escrow, or for "Beneficiary Statements," if buyer is purchasing property "subject to" or assuming the loans of record.
4. Accepts Structural Pest Control Report and other reports. The escrow officer accepts into the escrow the structural pest control report, other property inspection reports (such as plumbing or roofing inspections), other documents authorized by the escrow instructions, obtains any necessary approvals from the parties in connection therewith, then holds the items and funds deposited for delivery to the proper party at close of escrow or for recording.
5. Accepts New Loan Instructions and Documents. The escrow accepts any new loan documents/instructions if the buyer is obtaining new financing, obtains the buyer's approval and signature thereon, and satisfies all lenders' instructions prior to using the lenders' funds to complete the transaction.
6.
Accepts Fire Insurance Policies and
Completes Settlement. Escrow
holder accepts, holds and delivers any fire insurance policies deposited
pursuant to the instructions and transfers the insurance if directed by the
parties.
7. Request Closing Funds. Closing funds are now called for by the escrow officer and funds are deposited into the escrow by the party owing them. The law prohibits the disbursal of funds from an escrow account until all items such as check, drafts, etc. , have cleared and become available for withdrawal.
8. Audit File to Determine Escrow is in Position to Close. Audit to assure that all funds are in, all documents accounted for and escrow instructions complied with so that escrow is ready for recording and closing. Complete the escrow holder's Cash Reconciliation Statement.
9. Order Recording. Escrow officer "as of close of business" of the escrow completion date authorizes the title company to run the seller's title to date and instructs the title officer to record all transaction documents provided the title insurer finds that no change has occurred in the seller's title record since the issuance of the preliminary title report, so that the title company can insure the buyer's title in exactly the manner instructed by the parties in the escrow instructions.
10. Close Escrow. The closing is the ultimate goal of the transaction so that buyer may take possession. After confirming the recording of transaction documents with the title company, the escrow officer proceeds to close the escrow by preparing settlement statements for both buyer and seller, disbursing all funds, and delivering documents to the party or parties entitled thereto.
Prorations and Accruals,
Escrow Settlement
When ownership of real property is about
to change hands, it is customary to adjust or prorate (fairly divide) between
seller and buyer certain on going expenses and profits in connection with this
ownership. The seller is found to
be paid either in advance or in arrears on these items, or seller has collected
either in advance or in arrears on benefits owed seller (rents). For example:
The following items must be prorated:
Fire
Insurance Premiums: paid
or collected in advance
Lender's
Impound Account: paid
or collected in advance
Real
Property Taxes: Depends
on time of year if paid or
collected
in advance
Rents: paid
or collected in advance
Security
Deposits: paid
or collected in advance
Interest
on mortgage
loans: paid
or collected in arrears
Maintenance
or
Service
Contracts: Depends
on time of year if paid
or
collected in advance
Operating
Expenses
on
Income Property: paid
or collected in arrears
Division of Charges in
Escrow
The broker or salesperson should explain to each
party in the course of the initial negotiations the customary division of
charges in a settlement, including both legal and financial closing costs. These costs will vary from area to area,
from institution to institution within an area, and some costs change with
fluctuations in the economy. In
general practice:
The items for which seller usually is responsible
include:
Legal Closing
1. Owner's Title Policy Change varies from area to area and may be negotiable charge.
2. Escrow Services
3. Drawing Deed
4. Obtaining Reconveyance Deed
5. Notary Fees
6. Recording Reconveyance
7.
Documentary transfer tax
8. Other agreed charges.
Financial
Closing
1.
Mortgage discounts (points)
2.
Appraisal charge for advance
commitment
3. Structural pest control report or structural repair (if any
needed)
4. Interest on existing loan from last
monthly payment to
closing
date
5. Beneficiary Statement (balance of existing loan)
6.
Loan
Payoff (1st Trust Deed and/or any junior trust deed)
7. Prepayment penalty
8. Other agreed charges
9. Escrow fees in VA
transactions.
Adjustments Between Seller and Buyer
(depend on closing or other date agreed upon. )
1. Pay any tax arrears in full
2.
Pay
any improvement assessment arrears (assessment may have to be paid in full)
3.
Pay
any other liens or judgments necessary to pass clear title
4. Pay broker's commission
5. Reimburse buyer for prepaid rents and deposits and adjust taxes, insurance, and interest as required.
6. Occupancy adjustments.
The items for which purchaser is usually
responsible include:
Legal Closing
1.
Standard
or Owner's Policy in some areas (is usually a negotiable charge)
2. ALTA policy and inspection fee, if ordered
3. Escrow services
4. Drawing second mortgage (if used)
5. Notary fee
6. Recording deed
7. Other agreed charges.
Financial Closing
1. Loan origination fee
2. Appraisal fee
3. Credit report
4. Drawing up note(s) and trust deed(s)
5. Notary fees
6. Recording trust deed
7. Tax agency fee
8. Termite inspection fee (if agreed upon)
9.
Interest
on new loan (from date of closing until first monthly payment due)
10. Assumption fee
11. Other agreed charges
12. New fire insurance premium 1 year prepaid, if applicable.
13. For new FHA insured loan, lump sum mortgage insurance premium
for
life of loan.
Adjustments between Buyer and Seller
(depend on closing date or other date agreed upon. )
1. Reimburse seller for prepaid taxes
2. Reimburse seller for prepaid insurance
3. Reimburse seller for prepaid improvement assessment
4.
Reimburse
seller for prepaid impounds (in case buyer is assuming an existing loan)
5. Other
6. Other occupancy adjustments.
Reserves (impounds) limitations by RESPA.
1. Reserve to lender to meet next tax payment
2. Reserve to lender to meet next insurance payment (1 year)
Variations:
Accruals: Unless agreed upon in advance, interest bearing debts are accrued up to date of settlement, and constitute a charge against the seller.
The Real Estate Settlement Procedures Act (RESPA) requirements apply when the purchase of residential real estate is financed by a federally related mortgage loan. By definition, a federally related loan includes any loans made by banks, savings and loan associations, or other lenders who are covered by either the Federal Deposit Insurance Corporation, those insured by FHA or guaranteed by the VA; those loans to be sold to FNMA, GNMA, or FHLMC; or any loans administered by the Department of Housing and Urban Development.
The regulations apply to transactions involving first mortgage loans that are being originated by the above defined lenders. The intent of the original law was to ensure that buyers and sellers would have knowledge and an accounting of all settlement costs.
The requirements under RESPA require a
lender to:
1.
Provide a copy of the booklet
"Settlement Costs and You" to every person making a loan application;
2.
At the time a loan application is
taken, or within three (3) business days, provide the borrower with a good
faith estimate of the cost to close the loan; and
3. Provide the loan closing information on a Uniform Settlement Statement, which details all financial particulars in the transaction. The borrower may, upon request, inspect the settlement statement one day prior to the closing, to the extent that the figures are available.
The requirements under RESPA explicitly disallow the payment of kickbacks in any form.
PREPARATION OF
THE SETTLEMENT STATEMENT
All the facts and figures relating to the transaction are assembled and transferred to the settlement statement form as the final document to be prepared for closing. The HUD-1 Settlement Statement form is designed to disclose all financial information relating to each transaction to the parties to the transaction. It was also created to provide uniformity in real estate closing.
The HUD-1 Settlement Statement form derives its information from the real estate purchase contract, the title commitment and the loan closing instructions. In addition, information may be obtained from the buyer, the seller and from their representatives.
Section
3500. 8, USE OF UNIFORM SETTLEMENT STATEMENT FORM states the HUD-1 form is the
required form for ". . . every Federally related Mortgage Loan settlement
Transaction. All charges related
to the purchase will be included on the HUD-1 ". . . except those charges
not imposed upon the borrower or seller by the Lender and which the borrower or
seller contract to pay for separately outside of the settlement. Charges which are required by the Lender
but paid outside of closing shall be included on the statement but marked P. O.
C. "
Section 3500. 8 also contains provisions for the privacy of the borrower and the seller. The charges of the borrower may be deleted on the seller's copy of the HUD-1 while the seller's charges may be deleted from the buyer's copy.
Section 3500. 8 also makes provisions for record keeping, "The person conducting the settlement shall provide the Lender with a copy of each settlement statement (both borrower's and seller's copies where different). " The lender is required to retain these copies.
Section 3500. 8 also provides exemptions from the use of HUD-1 as well as provides for variations in the appearance of the form. Users of the form may make some adjustments in page and line size and color of the form, etc.
The HUD-1 form is used on virtually all real estate transactions, not simply those with federally related mortgage loans. Many companies have concluded, correctly, that uniformity and the cost of printing other forms is not cost effective. The use of more than one form may contribute to confusion and errors.
Section 3500. 9 allows users of the HUD-1
form to print and duplicate the form and pre-print such things as the closing
company's name and address on the form. This section also allows adjustment of line size and spacing,
separate pages for seller and buyer information, addition of signature lines,
translation into other languages, and the attachment of an additional page for
". . . the purpose of including customary recitals and information used
locally in real estate settlements. "
Section 3500. 1 is entitled "One Day Advance Inspection of Uniform Settlement Statement; Delivery. " This section provides that the buyer may inspect the HUD-1 form, ". . . completed to set forth those items which are know to such person at the time of inspection, during the business day immediately preceding the Date of Settlement. " This section also provides that the HUD-1 may be delivered or mailed to the buyer and the seller or their agents at or before settlement. Excepted from this is waiver by the buyer or when the "borrower or borrower's agent does not attend the settlement or where the person conducting the settlement does not require a meeting of the parties for that purpose. In either of these cases, a copy of the HUD-1 will be delivered as soon as possible after settlement.
Usual Use of
HUD-1
The Real Estate Settlement Procedures Act specifies only the HUD-1 form be used for federally related mortgages. However, the usual practice has been to use the form for as many transactions/closing as possible. The HUD-1 form is likely to be used for cash sales, assumptions, purchase money mortgages, as well as FHA, VA, FmHA and conventional closing. The philosophy behind this nearly universal use of the HUD-1 form is uniformity. It enables agents, attorneys, lenders, closer, etc. to become familiar with a single form and, thereby, speak the same language when discussing closing.
Overview of HUD-l Form
(Page One)
While the HUD-1 form appears to be a
series of lines, it is, rather, a series of boxes. The three primary boxes on page one are:
The General Information Box
The Borrower Line Items
The Seller Line Items
The General Information Box
Page one contains boxes "A" through "K". Boxes "A" through "I" contain information of a general nature to identify the particular transaction.
BOX A is usually used for imprinting the name of the company/organization doing the closing.
BOX B "Type of Loan" contains space for designating the type of loan (FHA, VA, Conventional, etc. ), the file number (created by the closer), Loan Number, and the Mortgage Insurance Case Number.
BOX C is a statement: "NOTE: This
form is furnished to give you a statement of actual settlement costs. Amounts paid
to and by the settlement agent are shown. Items marked '(p. o. c. )' were paid outside the closing:
they are shown here for informational purposes and are not included in the
totals. "
BOX D is allocated for the name and address of the buyer/borrower. The closer should compare this name with the one on the contract and the loan closing instructions. They should match. The address of the property may be used in this box if the buyer/borrower is to live in the subject property. If the buyer/borrower is to live somewhere else, use his/her current address.
BOX E is allocated for the name and address of the seller. The name placed in this box should match the one shown on the contract and the prior deed and the seller's title insurance policy. Since the seller will probably no longer be living in the subject property, his/her new mailing address should be placed in this box.
BOX F is for the name and address of the lender. This information may be obtained from the loan closing instructions.
BOX G is for the legal description and/or address of the subject property.
BOX H is for
the name and address of the person/company closing the
BOX I is for the date upon which the closing is to be held. This will usually be the proration date. However, on some occasions the proration date is different to the closing date. In these cases, it is common to put the proration date in this box.
BOX J is a summary of the borrower's portion of the transaction.
BOX K is a summary of the seller's portion of the transaction.
BOXES J and K contain three numbered sub-sections. These numbered subsections are the credits, debits and net balances.
BOX J, Summary of Borrower's Transaction, contains the lines numbered in the 100's, 200's and 300's.
The borrower's debits are in the 100's lines.
Line 120 is the "Gross Amount Due
From Borrower. "
Borrower credits are entered on the 200's lines.
Borrower balance is entered in the 300's lines.
BOX K, Summary of Seller's Transaction; contains lines numbered in the 400's, 500's and 600's.
The seller's credits are entered in the 400's lines.
The seller's debits are entered in the 500's lines.
The seller's balance is entered in the 600's lines.
Overview of HUD -1 Form
(Page Two)
Page two is one large box labeled "L" and is made up of eight sub-sections of numbered lines.
The 700's lines are for entering the commission.
The 800's lines are for "Items Payable in Connection" with the loan such as origination fee, discount fee, appraisal fee, credit report, inspection fee(s) etc.
The 900's lines are for "Items required by lender to be paid in advance. They may include interest, mortgage and/or hazard insurance premium, etc.
The 1000's lines are for "Reserves Deposited with Lender," and may include 2 months hazard insurance premium, Mortgage insurance, taxes, etc.
The 1100's lines are for "Title Charges," and may include settlement fee, abstract fee, title examination, etc.
The 1200's lines are for "Government Recording and Transfer Charges," and may include recording fees, tax stamps, mortgage certification fee, etc.
The 1300's lines are for "Additional Settlement Charges," and may include such things as surveys and inspections.
Obviously, line 1400 is for the "Total Settlement Charges" which are entered on line 1400 and on lines 103 in BOX J (buyer's charges) and on line 502 in BOX K (seller's charges).