What happens at closing?
At the closing, ownership of the newly purchased property is officially transferred from the seller to you. It may involve you, the seller, the real estate agent, your attorney, the lender’s attorney, representatives from the title or escrow firm, and a variety of clerks, secretaries, and other staff. It is possible to have an attorney act on your behalf if you cannot attend the closing (for example, if the property is in another state). Closing can take as little time as an hour to sign all the forms and transfer ownership or it can take several hours, depending on the contingency clauses in the purchase offer (and any escrow accounts that may need to be initiated).Much of the paperwork involved in closing (or settlement) is done by attorneys and real estate professionals. You may be involved in some of the closing activities and not in others, depending on local customs and on the professionals with whom you are working.
Before you close on the property, you should have a final inspection, or walk-through, to make sure any repairs you requested have been made and that items which were to remain with the property (light fixtures, etc.) are still there.
In most states, settlement is done by a title or escrow firm to which you forward all the materials and information along with the appropriate cashiers’ checks, and the firm will make the necessary disbursements. The real estate agent or another representative of the title company will deliver the check to the seller and the property keys to you.
Statutory costs are expenses you would have to pay to state and local agencies even if you paid cash for the property and did not need to take out a mortgage. They include the following:
Transfer taxes are required by some localities to transfer the title and deed from the seller to you.
Recording fees for deed pay for the county clerk to record the deed and mortgage and change the property tax billing.
Pro-rated taxes such as school taxes and municipal taxes may have to be split between you and the seller because they are due at different times of the year. For example, if taxes are due in October and you close in August, you would owe taxes for 2 months while the seller would owe taxes for the other 10 months. Prorated taxes usually are paid based on the number of days (not months) of ownership. Some lenders may require you to set up an escrow account to cover these expenses. If your lender does not require an escrow account, you may want to set up a special account on your own to make sure you have money set aside for these important, and relatively large bills.
Other state and local fees can include mortgage taxes levied by states as well as other local fees.
Third-party costs are expenses paid to others such as inspectors or insurance firms. You would have to pay many of these expenses even if you paid cash for the property. Examples of third-party costs are:
Attorney fees: You may wish to work with an attorney when buying a property. On larger commercial loans, many lenders will require the borrower to obtain an “Attorney Opinion Letter.” This is a document which basically states that the attorney has reviewed the transaction and essentially states that it is fine for his client to obtain and close on the requested loan. Attorneys may work for a flat fee or on an hourly basis.
Title search costs: Usually your attorney will do or arrange for the title search to make sure there are no obstacles (liens, lawsuits) to your owning the property. In some cases, you may work with a title company to verify a clear title to the property.
Property owner’s insurance: Most lenders require that you prepay the first year’s premium for property owner’s insurance (aka hazard insurance) and bring proof of payment to the closing. This insures that their investment will be secured, even if the property is destroyed.
Real estate agent’s sales commission: The seller pays the commission to the real estate agent. If one agent lists the property and another sells it, the commission is usually split between the two. It’s important to keep in mind that even the commission is negotiable between the seller and the agent.
Finance and Lender Charges
Most people associate closing costs with the finance charges levied by mortgage lenders. The charges you pay will vary among lenders, so it pays to shop around for the best combination of mortgage terms and closing (or settlement) costs. You may have to pay the following charges:
Origination or application fees: These are fees for processing the mortgage application and may be a flat fee or a percentage of the mortgage.
Credit report: All commercial lenders will require a credit report on all borrowers who have a 25% or greater interest in the subject property. This fee often is a part of the origination fee.
Points: A point is equal to 1% of the amount borrowed. Points can be payable when the loan is approved (before closing) or at closing. Points may be shared with the seller–you may want to negotiate this in the purchase offer. Some lenders will let you finance points, adding this cost to the mortgage, which will increase your interest costs. If you pay the points up front, they may be deductible in your income taxes in the year they are paid. It is best to seek the advice of a tax professional such as a Certified Public Accountant (CPA) for such matters.
Lender attorney fees: Lenders may have their attorney draw commercial loan documents, check to see that the title is clear, and represent them at the closing.
Document preparation fees: You will see an amazing array of papers, ranging from the application to Letter of Interest (LOI), to the Loan Commitment (Commitment) to the closing documents. Lenders may charge for these, or they may be included in the application and/or attorney fees.
Preparation of amortization schedule: Some lenders will prepare a detailed amortization schedule for the full term of your commercial loan. They are more likely to do this for fixed mortgages than for adjustable mortgages.
Land survey: Most lenders will require that the property be surveyed to make sure that no one has encroached on it and to verify the buildings and improvements on the subject property.
Appraisals: Lenders want to be sure the property is worth at least as much as the mortgage. Professional property appraisers will compare the value of the property to that of similar properties in the neighborhood or community. Please see our section on Appraisals.
Lender’s title insurance: Even though there is a title search for any obstacle (liens, lawsuits), many lenders require insurance so that should a problem arise, they can recover their mortgage investment. This is a one-time insurance premium, usually paid at closing; it is insurance for the lender only, not for you as a purchaser.
Release fees: If the seller has worked with a contractor who has put a lien on the property and who expects to be paid from the proceeds of the sale of the property, there may be some fees to release the lien. Although the seller usually pays these fees, they could be negotiated in the purchase offer.
Inspections which may be required by lender (Phase I ESA, Property Condition Report, PML Report (if the property is located in a strong seismic zone)): There could be many other types of inspections required depending on the current condition of the subject property. So it is always best to make sure that there exits as little deferred maintenance on a property prior to making a commercial loan application.
Prepaid interest:Your first regular mortgage payment is usually due about 6 to 8 weeks after you close (for example, if you close in August, your first regular payment will be in October; the October payment covers the cost of borrowing money for the month of September). This is known as “paying in arrears.” Interest costs, however, start as soon as you close. The lender will calculate how much interest you owe for the fraction of the month in which you close (for example, if you close on August 25, you would owe interest for 6 days). In most cases, this is due at closing.
Escrow account: Lenders will often require that you set up an escrow account into which you will make monthly payments for taxes, hazard insurance, etc., and property reserves, if any. The amount placed in this escrow account at closing depends on when property taxes are due and the timing of the settlement transaction. The lender should be able to give you a close approximation of these costs at the time you apply for your commercial mortgage.
Other Up-Front Expenses
The major portion of other up-front expenses is the deposit or binder you make at the time of the purchase offer and the remaining cash down payment you make at closing. In addition to the deposit and down payment, other up-front expenses may include the following:
Inspections: In addition to inspections required by the lender, you may make the purchase offer contingent on satisfactory completion of some other inspections. These inspections might include: structural, water quality tests and radon tests. You and the seller will need to negotiate these fees.
Owner’s title insurance: You may want to purchase title insurance for yourself so that if problems arise, you are not left owing a mortgage on a property you no longer own. A thorough title search (going back to 1900 if necessary) is often assurance enough of clear title.
Appraisal fees: You may want to hire your own appraiser, either before you sign a purchase offer or after seeing the results of the lender’s appraisal. Though ordering a second appraisal can get quite costly.
Money to the seller: You will need to pay for items in the property that you want and that were not negotiated in the purchase offer. Such items may include appliances, light fixtures, equipment, and also fuel oil and propane left in tanks.
Escrow account funds: In the purchase offer, you can request that the seller set up an escrow account to defray any costs of major cleanup, radon mitigation procedures, property painting, or other items. Also, if you have not had a chance to try out some appliances (the furnace if you buy in the summer or the air conditioner if you buy in the winter), you may request an escrow account to cover repairs if necessary.
Depending on the purchase offer contract and contingency clauses, you may find you have some expenses immediately upon taking possession of the subject property. For example, suppose your purchase offer contract has a clause making the purchase contingent on a satisfactory structural inspection, and the inspector determines that the property will need a new roof, you could negotiate to have the seller arrange for the work to be done, but this will probably delay the closing date–and you may have to agree to a higher price for the property or to cover some of the expenses of the new roof. Or you and the seller may be able to split the cost of a new roof, put on after you take possession, using estimates from a contractor of your choice, each of you putting funds into an escrow account for the new roof. Or the seller may be willing to reduce the sales price of the property by an amount you mutually agree is fair. In either case, shortly after possession of your new property, you will need cash for a new roof.
Time investment: An often overlooked, major, up-front cost in buying a property is the time investment. The average property hold time is about 4 months property hunting and looks at an average of 20 properties prior to closing a deal. In addition to shopping for a property, you also spend time trying to find the best commercial loan.
How much time you spend looking for a property, a mortgage, and an attorney depends on your location. You will spend less time if you know what you desire in a property and know for much you and the property qualify, and working with real estate agents will help narrow the choices. How many mortgage lenders are in your area? You can reduce time costs in mortgage shopping by simply calling Assets America® at 206-622-3000. We’ve been doing this for 27+ years and we know what to do, how to do it, where to go, and every aspect from commercial loan application, to processing, to underwriting, to loan packaging, to loan placement, to loan submission, to loan commitment, to funding, to closing.