The Closing Process
For someone who is going through a first-time purchase or sale, the process can be daunting. Not only is there a lot to get done, but the order and timing of the process is very important. While most investors will have an agent to help them through the process, it’s important that the process is well-understood by the investor so he can protect his own interests in the deal.
Here is the abbreviated process for a typical retail closing (meaning a typical private buyer and typical private seller):
- Buyer and Seller sign contract. The contract is now called “executed” (or more accurately “executory”) and the closing process starts.
- One of the agents will at this point send the contract to a closing agent — either a title company or an attorney, depending on your state. This is referred to as “opening escrow.”
- The closing agent will at some point (generally pretty quickly) do a title search or order a title search from another company that specializes in doing them.
- The buyer will generally at this point get an inspection. Most retail contracts will have a period during which the buyer has the option to get inspections and back out if the inspection results are not satisfactory (called an “inspection period” and the contract clause is called the “inspection contingency”). In some cases, the buyer can back out for any reason whatsoever (called a “due diligence period” with a “due diligence contingency”). The buyer may get a termite inspection (or ask the seller to provide a clear termite letter), may get a survey, may get mold tests, radon tests, etc. Whatever they feel is necessary to be comfortable with the condition of the property. This time period is generally somewhere in the 7-14 days, but can be anything the buyer and seller agree upon.
- If the buyer is getting a loan, the buyer at this point will generally fill out a formal application (if not already done) and get the loan process started. If getting a loan, the buyer will generally have a clause in the contract where they have a period of time during which they can back out if they determine they can’t get the loan (called a “financing period” and “financing contingency”). This is generally somewhere in the 21-30 days, but again, can be anything the buyer and seller agree upon.
- The inspection results come back and the buyer will generally at this point ask the seller to make some repairs based on the results. Some of the requests may be necessary to get the loan approved (lenders will often see the inspection report and require certain repairs to ensure the house is in good shape), and if the property is being sold as-is, the buyer can still ask the seller to drop the price in lieu of making repairs. This is done using a contract amendment called a “repair amendment” or something similar.
- Buyer and seller negotiate these repairs, and assuming they come to agreement, the buyer will generally agree that the “inspection period” or “due diligence period” is now officially over (even if all the time hasn’t elapsed in the period).
- Once the repairs are agreed upon, and after the lender/broker has gotten a reasonable expectation that the buyer can qualify for the loan, the lender will order an appraisal. This is to verify that the property is worth what it’s being sold/bought for, so that the bank isn’t lending more money than the property is worth. The appraiser will generally go to the house within a couple days of the appraisal being ordered, will do their walk-through, and then will return the appraisal results within a couple days after that. The whole process takes about 3-7 days.
- If the buyer is getting a loan, there is almost always an “appraisal contingency” in the contract. This generally says something along the lines of, “If the appraisal indicates that the property isn’t worth what the buyer and seller have agreed upon, the buyer can walk away from the deal.” In reality, the other options are that the seller reduces the selling price to whatever the appraisal value is, the buyer figures out a way to pay the difference out of his own pocket, or a combination of both. But, one way or the other, until the sales price and the appraisal value are matched up, the deal can’t go through and the buyer will generally have an option to walk away.
- Before the end of the financing period, the buyer should determine if they can get their loan (generally, the appraisal is one part of this determination), and by the end of that period, the buyer (or the lender) should provide a “commitment letter” to the seller indicating that the loan is pretty much approved. Once past the financing and inspection periods, if the buyer hasn’t back out with the appropriate reasons, they now either need to complete the deal or lose their earnest money.
- During this whole time, the closing agent is working on the stuff needed for closing. They are ensuring that there are no title issues (and if there are, is working with the seller to resolve them), they are contacting the HOA to get payment info, finding out tax information, etc.
- At some point before closing, the seller makes the agreed upon repairs. Generally, the buyer will do a walk-through a few days before the closing to verify all the repairs have been completed (if any were requested). The lender may send an inspector back to the property as well to verify the repairs if they are required for the loan.
- The last week or two of the process is generally where all the contract, loan information, the inspection report, the appraisal and all other pertinent documents go to the underwriter (this person works for the lender and makes the final decision on whether the loan gets approved or not). During this time, the buyer may need to provide some extra documents, as might the seller or the closing agent. Every time the underwriter needs information, the process generally stalls for a couple days (underwriters are busy, and it can take 2-3 days to review everything new that comes in). So, you may think you’re a couple days from closing, but the date keeps getting pushed back — this may be because underwriting keeps asking for more and more information.
- The last step the underwriter generally takes is to verify the buyer’s employment. If the buyer lost their job in the past couple weeks (or lied about their employment), this may not be found out until nearly the end of the process and the whole thing can fall apart.
- Once the underwriter verifies everything and gives the okay on the loan (called “clear to close”), they will send all the documents they need signed, along with a set of instructions over to the closing agent (the “closing package”). Generally speaking, the closing agent is representing the bank, not the buyer or seller, and the closing agent will following the instructions the underwriter provides on what needs to be signed and taken care of.
- The closing package contains all the financials of the transaction, including all the costs to the buyer for the loan. The closing agent will take all these numbers, along with all the payment information they gathered from the HOA, tax authority, etc, and create a detailed statement that itemizes how much each side (the buyer and the seller) need to pay and/or receive. This statement (the “HUD-1” or “Settlement Statement”) is standard across the country, so it always has the same format wherever you may be.
- A couple days before close, the closing agent should send a copy of the HUD-1 to all parties to review. In reality this often happens the day before or even the day of. When dealing with a bad closing agent, it might happen while you’re sitting in the closing office waiting to close… 🙂
- The day of closing, the seller comes to the closing office with the house keys, the buyer comes to the closing office with a certified check for the amount he owes (or he can wire the funds), the bank wires the loan money, and lots of documents are signed.
[NOTE: There could be lots of other contingencies in the contract as well that need to be cleared. For example, the buyer may have a contingency that says he needs to sell his house before he has to buy the seller’s house. If the buyer can’t sell his house, he can back out of the deal based on whatever the terms are in that contingency. There are all kinds of potential contingencies (anything you can imagine), and as long as the buyer and seller agree, it’s part of the contract and those need to be cleared before both parties are obligated to go through with the purchase.
Now, all that said, here’s a disclaimer:
Some areas may have other steps that I didn’t mention, I may have missed some stuff, I may have glossed over some important stuff, some steps may not happen for some reason, sometimes things are done in a different way or by different parties, sometimes the process is much longer/shorter/complex/simple/etc. So, don’t rely on this to pass any real estate exams — but it should give you a basic idea of the process for your next closing.