How Does Escrow In Real Estate Work?

Real estate transactions can sometimes be filled with issues that forestall deals. Some of these issues may even throw experienced realtors off balance. Among the terms that confuse both buyers and sellers in the real estate industry is ‘escrow.’

This article breaks down how escrow in real estate works.

What Is Escrow?

Escrow primarily refers to a third party that holds a transaction on behalf of the involved parties. The transaction could involve the exchange of money or any other crucial documents, such as title deed. Think of an escrow as a trust account that ensures both the transacting parties’ needs are met. 

An escrow will be involved once the buyer and seller have come into a mutual agreement to carry on with the transaction. There’s no specific time that an escrow should remain open. The time taken between the start and end of the escrow process depends on factors such as mortgage pre-approval and whether the documents are physically present. This means that the process can take a few days or go up to a few weeks.

If the transaction is taking place in installments, the buyer has to keep depositing money in the escrow account during the agreed periods. Doing so protects both the seller and buyer throughout the transaction. The buyer is assured that they won't get scammed by a shady seller who doesn't hold the title. On the other hand, the seller is guaranteed that the money will be handed over once the title is transferred.

Let's take a closer look at how escrow works.

What Is the Escrow Process?

1. Open An Escrow Account

Once the buyer and seller have both agreed on purchase terms, the agent collects the money to be used as a deposit and put it in an escrow account. The purchase agreement usually contains the escrow’s details. The document is then sent to the escrow company where an officer processes the funds as stipulated in the document. 

The escrow company chosen by the transacting parties depends on the nature of the transaction. It could be a financial institution, such as a bank, a title company specializing in real estate, or an individual that’s trusted by all parties.

2. Wait For Lender's Assessment

The financial institution that provides financing for the property will then carry out its own assessment of the property. This is usually done to protect itself if there’s the need to foreclose the property. 

Suppose the evaluation comes at a lower price. In that case, the lender will not approve the financing until the seller lowers their price to the appraisal amount or the buyer raises the difference.

3. Get Financing

Before the agreement is reached, the buyer should already have a pre-approved mortgage. The lender will prepare a good faith estimate once they’re given the property address. They should also provide a statement that includes the total loan amount, interest rates, and costs associated with the transaction, such as closing costs.

4. Seller's Disclosure

This is the step where the buyer receives a notification of the problems observed by the seller or their agents. Most of the time, the problems are obvious or already known because they've been included in the property listing.

If the property doesn't come with a seller's disclosure, have the house inspected yourself. Make sure the seller permits your inspector to visit the property.

5. House Inspection

A house inspection is not necessary, but it’ll be best if you carry one. A professional home inspector will be able to detect any issues that can escape the common eye. For example, the roof might need to be replaced.

If any issues are noticed during the inspection, the buyer can withdraw from the purchase, ask the seller to lower the price, or ask the seller to fix the issues.

6. Title Report & Insurance

This is a necessary step that no one should skip. A title report ensures that there are no issues with the property title and that no one else can lay claim to the property apart from the seller. Title insurance protects the buyer and the lender from any legal issues later, in case nothing showed up during the title report.

If there are any issues during the title search, the seller will have to fix them or the buyer pulls out of the deal.

7. Final Walk-Through

This is the part where the buyer may carry out a final inspection before closing the deal. This is usually to ensure that there are no more damages since the last inspection.

8. Close Escrow

This step involves a lot of paperwork that you need to carefully read before you sign. Once the process is complete, the lender releases the funds to escrow, so the seller is paid. The buyer also gets full possession of the property.

Bottom Line

Escrow protection is a mixed bag for real estate sellers, buyers, and lenders. It protects the buyer from being duped by unscrupulous sellers. On the other hand, the seller is assured of receiving the funds after the deal is closed.

The escrow process includes opening an escrow account, lender's appraisal, obtaining financing, seller's disclosure, house inspection and title search, and insurance. The buyer can also choose to inspect the house one final time before closing the escrow.