Closing in Real Estate - What Happens During Closing?
The Land Up Learning Series
Closing in Real Estate
Closing on a house or land can be a bit of a blackhole sometimes. To a first time buyer or seller, the closing process can feel a little like this:
Step 1. Buyers put down an offer
Step 2. Sellers accept it
Step 3. ???
Step 4. New house!
Buyers and sellers may not see everything going on behind the scenes, but realtors and title companies are working to make sure the deal goes through during the closing process. In this real estate blog, we’ll pull back the curtain and fill you in on what happens as you’re closing.
What Does ‘Under Contract’ Mean?
When a buyer makes an offer and the seller of a property accepts that offer, technically the property is in a status called ‘pending’. The buyer has a limited amount of time to back the offer up with a check (we know, checks still exist apparently) for what’s known as ‘earnest money’.
What is Earnest Money?
Earnest money is usually somewhere between $1,000 to $5,000, depending on the price of the property. Earnest money is meant to give the seller some confidence that the buyer is serious and has full intentions of going through with the deal.
Once the seller receives the earnest money, then the property is officially ‘under contract’ and the closing process sets in motion. Earnest money isn’t extra money paid on top of the price of the house; it’s more of a deposit, which will be subtracted from the closing costs a buyer pays at the end of the process. More on that to come.
So what if the buyer backs out of the deal or it doesn’t work out? Then the seller keeps the earnest money and the house goes back on the market. Surprisingly, this happens a fair amount. We see buyers ‘ghost’ sellers and agents sometimes, or something happens during the closing process that kills the deal - such as a dispute with the title of the property or an issue with the buyer’s funding.
Closing on a House
So the earnest money check clears and we’re off to the closing races. A ‘closing’ includes all the logistics to transfer ownership of a property from the seller to the buyer. Most people buy a house with lender financing and use a title company to coordinate this transfer of ownership.
In these situations, the buyer’s bank starts gathering info to start a new mortgage for the buyer, while the seller’s side does the same to close the current mortgage on the house. It’s a ton of paperwork and verifications for the buyer, including things like:
Income with W2s and current pay stubs
Current account balances from checking, savings, and investment accounts
Debt balances from car loans, student loans, and other mortgages
As a side note here; if you’re a buyer in the closing process, NEVER do anything major that might change your financial situation until the closing is complete. Changing jobs, making a big purchase that drains your savings, or taking on more debt can easily kill a buyer’s ability to get a house loan while closing. Hold out for just a while longer, you can buy that dog costume company after you get the keys.
The Closing…Continues…
Closing on a house or land usually takes around 30 days, give or take. For a commercial property, it’s a whole other beast. But the process for residential and land goes by pretty quickly. During that time, the title company is working to verify that the seller(s) actually have the right to sell the property and make sure its boundaries are accurate.
Typically, there aren’t any title or boundary issues with houses, especially newer ones in a city. However, sometimes older, bigger properties in rural areas can have issues. Sometimes sellers don’t have surveys of their property, or they might have an old survey that conflicts with a newer survey of surrounding land. Another title issue we see is with ownership disputes when there are multiple people on a title. Family can be messy and sometimes one person on a title wants to sell but another doesn’t, or the owners are in the midst of a divorce and the property is part of ongoing litigation.
The Closing…Ends!
Once the lenders and the title company have done their jobs, closing day arrives. Do your hand stretches and expect to sign A LOT of paperwork, on both the buyer and seller side. Closings don’t always happen at the most opportune time for clients, so usually there is an option to sign this mountain of paperwork at a title company office, or somewhere else using a mobile notary for a small fee (usually something like $150).
We’ve signed closing documents in hospital cafeterias, apartments, and coffee shops. The mobile notary option does make things easier for those who aren’t able to be physically close to the title company office at the time of closing.
Once all this paperwork is signed, it’s time for the all important ‘funding’. This just means that all the money that is necessary for the purchase of the house actually trades hands (or bank accounts). And speaking of money…
Closing Costs on a House
You’ve probably heard the term ‘closing costs,’ but what does it mean? Well, closing costs on a house (or any other property) includes all the stuff the buyer is going to pay to purchase the house; or more frequently, mortgage the house.
As a buyer, there are more costs than just the price of the property, which is important to keep in mind when thinking about a budget. If working with a lender, the buyer will always get a disclosure document that shows a timeline of all the estimated closing costs prior to the closing. These include things like:
The price of buying a lower mortgage rate, also called ‘buying points’
The down payment amount
The cost of processing a new loan, called a ‘loan origination fee’
The title company fee
These fees aren’t insignificant. On an average house, they typically add up to thousands of dollars. In our typical scenario where a buyer works with a lender to purchase a house, the buyer pays the closing costs in cash, and the lender pays the rest of the cost of the house to the seller and issues a mortgage to the buyer. And what about the realtors’ commissions? In most cases, the commissions are paid by the seller and the cost is automatically deducted from the proceeds of the sale.
In a market that heavily favors the seller, like the one we saw in 2021 with high demand but not enough houses for sale in Texas, then the seller holds a lot of power. The seller can ask that the buyer pay some or all of the commissions. The buyer doesn’t have to, but when there are 15 offers on a house on the first day it’s listed, buyers tend to say ‘ok’. The industry standard for commissions on a house is 6% of the sale price, which is 3% for the seller’s agent and 3% for the buyer’s agent.
The Closing of the Closing Process
After all the papers are signed and the money has transferred accounts, the deal is officially closed! The buyer gets the keys and can move in immediately. The seller has made a profit and both parties will receive a Settlement Statement that details all the costs and fees.
An important note for sellers who do make a profit on the sale of their property; what about taxes? Aye, taxes. If a seller owns a house for less than 2 years from the date of the funding, then they are responsible for paying capital gains tax (usually around 15%) on the profit. But if the seller owns the house for 2 years or more before selling, then they do not. The title company will automatically process an IRS form 1099S to report the earnings as part of the closing process, so no ‘creative accounting’ here.
So there it is, the whole closing process in a (blog) nutshell. Final words of advice for both buyers and sellers during the closing process; always ask questions. If there is anything you don’t understand don’t be afraid to ask your realtor or the title company for clarification. Both are there to support you during the closing process.