A Contract Series – Part 4 The Arizona REALTORS® Residential Resale Purchase Contract - Title and Escrow

 

This is Part 4 of a series of articles discussing the major provisions in each of the sections of the Arizona REALTORS® Residential Resale Real Estate Purchase Contract (10/22) (“Contract”).  The previous articles in this series can be located at Arizona Real Estate – A Professional’s Guide to Law & Practice. (arizonarealestateprofessionalguide.blogspot.com)

An escrow is primarily a conveyance device designed to carry out the terms of a binding contract of sale previously entered into by the parties.

TITLE AND ESCROW SECTION

This section sets forth the instructions to the escrow/title company. All pages of the Contract, any addenda, and any other agreements that change the original Contract terms should be sent to the escrow/title company.[1] 

Escrow

The Contract is to be used as escrow instructions.  The escrow company employed by the buyer and seller to carry out the terms of the Contract is identified in this subsection.

•  Identify the escrow/title company – not just the escrow agent.

• Escrow and title are not interchangeable.  The escrow company acts as a neutral third party to make sure the terms of the Contract are fulfilled, and the funds are held and distributed as instructed.  The title company researches the property to be transferred and issues the title insurance policies to the buyer and lender. 

• Ensure that the escrow/title company has all buyer’s and seller’s contact information early in the transaction – fill out Section 9 of the Contract completely to avoid unnecessary delays.  The escrow company will want to confirm the identity of the seller early in the transaction due to the increase in number of deed fraud cases.

• If you receive a request for client contact information late in the transaction – make sure that the request is from the escrow agent, not a third party attempting to perpetrate wire transfer fraud.   

• The escrow company often requests the parties to execute supplemental instructions.

Title and Vesting

The buyer will take title as determined before close of escrow (“COE”). The buyer is advised that a disclaimer deed may be required if buyer is married and intends to take title as his/her sole and separate property. The buyer is further advised that taking title may have significant legal, estate planning, and tax consequences; therefore, the buyer should obtain legal and tax advice. The common ways to hold title are summarized below.

•  Tenancy in Common: Co-ownership where the parties have no survivorship rights. All grants of real property made to two or more persons create estates in common and not in joint tenancy, except grants or devises in trust, or to executors, or to husband and wife.
• Joint Tenancy with Right of Survivorship: Co-ownership in which upon the death of one co-owner the title automatically conveys to the surviving co-owner.

• Community Property: Co-ownership by married persons. Upon the death of one spouse, the deceased spouse’s interest may be conveyed by will or intestate succession.

• Community Property with Right of Survivorship: Co-ownership by spouses in which upon the death of one spouse, title to the property is vested in the surviving spouse.

• Sole and Separate: Sole ownership of a property. A spouse may hold title as his or her sole and separate property, however, the spouse not on title must generally execute a disclaimer deed evidencing their consent. 

• Entities: A properly formed trust, partnership, corporation, or limited liability company may also hold title to real property. 

Title Commitment and Title Insurance

The escrow company is instructed to deliver a commitment for title insurance together with complete and legible copies of all documents that will remain as exceptions to the title insurance or title commitment to the buyer. The title company is instructed to send the title commitment directly to the buyer and the seller, with copies to be sent to the broker(s).

The buyer has five days after receipt of the title commitment and after receipt of notice of any subsequent exceptions to provide notice to the seller of any items disapproved.

The seller agrees to convey title by “warranty deed, subject to existing taxes, assessments, covenants, conditions, restrictions, rights of way, easements and all other matters of record” and provide the buyer with the best title policy available.

• Before issuing the title commitment, the title company issuing the title insurance policy will perform a title search on the property. The results of the title search that may be an issue in the transaction will be included in the title commitment. Thus, the title commitment may contain important disclosure issues, such as:

o    easements

o    CC&Rs and other deed restrictions

o    access problems

o    whether the property is in the vicinity of a military airport

o    prior leases

The title commitment may also reveal problems that could delay the close of escrow, such as: 

o    court orders/divorce decrees

o    probate issues

o    foreclosures

o    bankruptcies

o    judgment liens

o    state and federal tax liens

o    environmental liens

o    other matters of record affecting title

• The title commitment is divided into several sections: Schedule A, Schedule B Requirements and Exceptions, and exceptions/exclusions, and should be accompanied by the “underlying documents.” The underlying documents are copies of the actual documents referred to in Schedule B.

o   Schedule A: Schedule A sets forth the search date, the amount of insurance coverage, the name of the insured, and the legal description of the property being insured. Check the policy to be issued in Schedule A of the title commitment to ensure that the best policy type available will be issued. The American Land Title Association (ALTA) Homeowner’s Title Insurance Policy is generally considered the best available for residential transactions.

o   Schedule B (part 1) - Requirements: The requirements section lists what things must be done before escrow can close and title insurance will be issued. If a requirement cannot be met, close of escrow may be prevented or delayed. The common requirements include the payment of taxes, HOA assessments, recording a release and reconveyance of the deed of trust currently encumbering the property, recording the deed, and recording the deed of trust securing the new loan.  Talk to the escrow officer about fulfilling any unusual requirements as soon as possible to avoid a delay in close of escrow.

o   Schedule B (part 2) - Exceptions: This may be the most important part of the title commitment because it lists the items that the title company will not insure and buyers are often unaware that they need to read the exceptions to coverage.  This section lists the specific exceptions from coverage that the title company discovered during its title search. Buyers should carefully review the exceptions of the title commitment for disclosure items and for restrictions on the use of the property. The buyer’s agent should refer the buyer to the escrow officer or an attorney if there are questions or concerns about the exceptions in Schedule B.

o   Exceptions/Exclusions: There are also standard exclusions from the title insurance policy, generally including those listed below.

o   Any law, ordinance or governmental regulation relating to the use of the property.

o   Any governmental police power, unless recorded.

o   Rights of eminent domain, unless recorded.

o   Defects, liens, encumbrances, adverse claims or other matters agreed to by the buyer.

o   Claims arising from bankruptcy or other creditors’ rights laws

The title insurance policy will be issued as of close of escrow. Title insurance does not insure that a title defect will not occur; it insures that if a defect that occurred prior to the policy date is discovered after COE, the buyer will be indemnified if the defect cannot be cured. A standard policy generally insures against the title to the property being vested other than stated in the policy; any defect in, or lien or encumbrance on the title; unmarketability of title; and lack of a right of legal (not necessarily physical) access. The ALTA Homeowner’s Title Insurance policy provides coverage for additional defects.

Additional Instructions

The additional escrow instructions require the escrow company to:

• Furnish a notice of the pending sale that contains the name and address of the buyer to any homeowner’s association in which the premises is located.

·     Deliver to the buyer and the seller, upon deposit of funds, a closing protection letter from the title insurer indemni­fying the parties for any losses due to fraudulent acts or breach of escrow instructions by the escrow company, if the escrow company is also acting as the title agency but is not the title insurer issuing the title insurance policy.

o   Often the escrow company may be only the agent for the actual title insurer, who is liable for the financial backing for the title insurance. This is often the case when the escrow company name includes the term “agency.” The Contract requires that if the escrow company is not the title insurer, that the title insurer provide a closing protection letter indemnifying the parties for any losses due to fraudulent acts or breach of escrow instructions by the escrow company.

·      Modify its standard documents to the extent necessary to be consistent with the Contract.

·       Allocate escrow company fees equally between the seller and the buyer, unless otherwise stated.

·        Send copies of all notices and communications pertaining to the transaction to the seller, buyer and broker(s).

·          Provide the broker(s) access to escrowed materials and information regarding the escrow.

·           Record the Affidavit of Disclosure at COE, if applicable.

o   An Affidavit of Disclosure is required if the seller is transferring five or fewer parcel of land, other than subdivided land, in an unincorporated area of a county. 

Tax Prorations

Real property taxes payable by the seller are prorated to COE based upon the latest tax information available.

 Release of Earnest Money

In the event of a dispute between the buyer and seller regarding any earnest money deposited with the escrow company, the parties authorize the escrow company to release the earnest money pursuant to the terms and conditions of the Contract at its sole and absolute discretion. The parties agree to hold harmless and indemnify the escrow company against any claim or loss arising from the release of the earnest money.

 Proration of Assessments and Fees

All assessments and fees that are not a lien as of the COE, including homeowners’ association fees, rents, irrigation fees, and, if assumed, insurance premiums, interest on assessments, interest on encumbrances, and service contracts are to be prorated as of COE unless otherwise indicated. 

 Assessment Liens

The amount of any assessment, lien or bond including those charged by a special taxing district, such as a Community Facilities District, shall be prorated as of COE. 

 Escrow Donation to Build Permanent, Affordable, Supportive Housing for Those in Need

Consider asking your client to make a $25 donation at COE to the Arizona Housing Fund (“AHF”) by filling out the AHF Escrow Donation Form  and delivering it to the escrow agent.  The donation will be reflected on the settlement statement and the donation will be sent directly to the AHF from escrow.  The donation is tax deductible and 100% of the donation goes to build permanent, affordable, supportive housing for those in need across the state. 

For more information on the AHF go to:  https://arizonahousingfund.org/

Conclusion

At COE, make sure the client carefully reviews the settlement statement provided by the title/escrow company at COE to ensure all the fees are accurate.  Additionally, encourage the client to ask the title/escrow agent any questions that they may have. The title/escrow agent is there to make sure that the terms of the Contract are carried out and that escrow closes smoothly. 

 Next Article – Disclosure Section

K. Michelle Lind, Esq. is an attorney who currently serves Of Counsel to the Arizona REALTORS®.  She is also the author of the book - Arizona Real Estate: A Professional's Guide to Law and Practice (3rd Ed.) . 

For more real estate related articles, visit Michelle’s Blog at Arizona Real Estate – A Professional’s Guide to Law & Practice. (arizonarealestateprofessionalguide.blogspot.com)

This article is of a general nature and may not be updated or revised for accuracy as statutory or case law changes following the date of first publication. Further, this article reflects only the opinion of the author, is not intended as definitive legal advice and you should not act upon it without seeking independent legal counsel.  3/28/23

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[1] Thank you to Christin Mack for her input on this article. 

A Contract Series – Part 3(b) The Arizona REALTORS® Residential Resale Purchase Contract Financing Section – Contingences

 

This is Part 3(b) of a series of articles discussing the major provisions in each of the sections of the Arizona REALTORS® Residential Resale Real Estate Purchase Contract (10/22) (“Contract”).  The Financing Section is addressed in two sub-parts because there are so many issues to address.  The previous articles in this series can be located at Arizona Real Estate – A Professional’s Guide to Law & Practice. (arizonarealestateprofessionalguide.blogspot.com). 

Loan Contingency (2b)

The buyer’s obligation to complete the sale is contingent upon the buyer obtaining loan approval without Prior to Document (PTD) conditions no later than three days prior to the close of escrow (“COE”) Date for the loan described in the Arizona Association of REALTORS® (“AAR”) Loan Status Update (“LSU”) form or the AAR Pre-Qualification Form, whichever is delivered later.

 

• When the seller receives an offer with a completed AAR Pre-Qualification Form, be aware and discuss with the seller that the buyer may be entitled to change financing programs and the terms of the financing contingency in the Loan Status Update, which must be delivered ten days after Contract acceptance. 

• If the seller’s reason for accepting an offer is the loan program submitted in the Pre-Qualification Form, discuss with the seller the advisability of responding with a counteroffer, for example:  "Buyer agrees not to change from a Conventional loan program" and/or "Buyer agrees not to enter into a down payment assistance loan program."[1]  

 Loan Status Update (2e)

The buyer is obligated to deliver to the seller the LSU with, at a minimum, lines 1-40 completed describing the status of the Buyer’s proposed loan within ten days after Contract acceptance and instruct the lender to provide an updated LSU to the brokers and the seller upon request.

As discussed above, in many cases, the LSU will set forth the terms of the buyer’s loan contingency.

The LSU is also designed to assist both brokers and buyers follow through on the four main parts of the loan process: 

·         Pre-Qualification

·         Documentation

·         Underwriting and Approval

·         Closing

 

• Consider using the LSU as an educational tool for both buyers and sellers. 

 

• The LSU lists all the major steps that must be completed before the buyer obtains loan approval and can close escrow. 

 

• Both the listing agent and the buyer’s agent should review the LSU carefully, provide copies to the clients and request updates as necessary.  

 

• If the updated LSU changes the terms of a completed Pre-Qualification Form submitted with the offer or LSU submitted ten days after Contract acceptance, the change may require the seller’s written approval pursuant to section 2k if the change adversely affects the buyer’s ability to obtain loan approval without conditions, increases the seller’s closing costs, or delays COE.

 

• If the buyer fails to deliver the LSU with, at a minimum, lines 1-40 completed within ten days after Contract acceptance, the seller should deliver a cure notice to the buyer pursuant to section 7a of the Contract.   

 

• If the buyer fails to deliver the LSU within three days after the cure notice, the buyer is in breach of contract and the seller can pursue all remedies.

 

• If the buyer’s lender refuses to complete an LSU, the buyer should complete, at a minimum, lines 1-40 of the LSU on their own.

 

• The failure of the buyer’s lender to complete the LSU is not a potential breach and, therefore, not subject to a Cure Period Notice because the lender is not a party to the Contract.  However, the lender’s refusal to complete an LSU could be a ‘red flag’ of possible financing issues to come. 

 

• It is vitally important to remember that in most transactions the lender will update the condition of credit reports, employment status, and buyer’s funds immediately prior to funding, even though there may not be an official condition or indication that the lender intends to do so. In fact, the lender may update this information several times during the loan approval process.

 

• Advise the buyer that any credit applications, employment changes, or any major expenditures during the loan process may place the loan approval and funding in jeopardy.

Changes (2k)

The buyer is obligated to immediately notify the seller of any changes in the loan program, financing terms, or lender described in the Pre-Qualification Form attached with the offer or the LSU provided within ten days after Contract acceptance.

The buyer is only permitted to make any such changes without the prior written consent of the seller if the changes do not:

1. adversely affect the buyer’s ability to obtain loan approval without conditions,
2. increase the seller’s closing costs, or
3. delay COE.

Appraisal Contingency (2l)

The buyer’s obligation to complete the sale is contingent upon an appraisal of the Premises acceptable to the lender for at least the purchase price. If the Premises fail to appraise for the purchase price in any appraisal required by the lender, the buyer has five days after notice of the appraised value to cancel the Contract and receive a refund of the earnest money or the appraisal contingency shall be waived, unless otherwise prohibited by federal law. 

 

·         If the buyer is applying for a FHA or VA loan, the waiver of the appraisal contingency is prohibited by federal law.  Unlike other types of loans, FHA and VA buyers cannot waive the appraisal contingency. 

 

·         If the appraisal comes in below the purchase price and the buyer can make a strong argument that the appraisal is low, the buyer can request that the lender order a second appraisal.  Otherwise, the seller can lower the purchase price, or the buyer can waive the appraisal contingency, if allowed, and pay the difference between the purchase price and the appraised value (loan amount) at COE.

 

·         If the buyer waives the appraisal contingency and is thereafter unable to close escrow due to the appraisal, the buyer will forfeit their earnest money.

 Although the buyer is instructed to conduct all desired inspections to determine the “value and condition” during the Inspection Period, the appraisal contingency is a separate contingency related solely to financing.

Appraisal Cost(s) (2m)

This section indicates who will pay the initial appraisal fee when required by the lender and if the seller is paying the appraisal fee whether the fee will apply against the seller’s concessions.  The buyer also agrees to pay for any updated lender required appraisal and to pay for any lender/appraiser required inspection costs.

 

Three Days Prior to COE (2b)

No later than three days prior to COE, the buyer must complete one of the following.

         i.            Sign all loan documents.

 

OR

       ii.            Deliver notice of loan approval without PTD conditions and dates of receipt of Closing Disclosures from lender.

 

• PTD conditions are what lenders call all the actions/approvals necessary before the lender orders the closing loan documents and instructions. PTD conditions include items that must be provided and reviewed by the underwriter before the loan documents can be ordered.

 

• This information is important to the seller because it will help the seller understand when the transaction may close escrow. The loan cannot be consummated (i.e. – execution of the promissory note and deed of trust) less than three business days after the Closing Disclosure is received by the buyer.

 

OR

    iii.          iii.   Deliver to seller or escrow company notice of inability to obtain loan approval without PTD conditions. 

 

• To give everyone involved in the transaction notice of an unfulfilled loan contingency, the buyer is obligated to deliver a notice of the inability to obtain loan approval to the seller or the escrow company no later than three days prior to the COE Date.

 

• If the buyer fails to deliver this notice by three days prior to the COE Date, the seller must give the buyer a Cure Period Notice pursuant to section 7a of the Contract and a three-day opportunity to deliver the notice of the unfulfilled contingency.

 

• If the buyer fails to deliver the notice, the buyer is in breach (not for the failure to qualify, but for the failure to deliver the notice) and the seller agrees to accept the earnest money as damages as set forth in section 7b.

Unfulfilled Loan Contingency (2c)

The Contract is cancelled for an unfulfilled contingency and the buyer is entitled to a return of the earnest money if, after a diligent and good faith effort, the buyer is unable to obtain loan approval without PTD conditions and delivers the notice of inability three days prior to the COE Date.

The inability to obtain loan approval three days prior to the COE Date after a diligent and good faith effort is not a potential breach of contract. In other words, the inability to obtain loan approval does not trigger a curable event and therefore, the Cure Period does not apply to extend COE.

 

·         If the loan contingency is not fulfilled, the buyer has no obligation to close escrow. Therefore, the Contract can be considered cancelled, terminated, or unenforceable against the buyer.

 

·         Even though the Contract is no longer enforceable against the buyer, written mutual cancellation instructions should be executed.

 

·         If the parties agree to allow the buyer additional time to obtain the loan, the parties should execute an amendment to the Contract extending COE.

However, the failure to deliver the notice of the inability to obtain loan approval is a potential breach and the seller should issue a cure notice.  If the buyer fails to deliver the notice before expiration of the Cure Period Notice, the seller is entitled to the earnest money.

 

·         Although the buyer’s obligation to close escrow terminates due to the unfulfilled contingency, the seller still has the right to enforce the buyer’s obligation to deliver the notice.

 

·         If the seller believes that the buyer obtained loan approval or that the buyer failed to make a diligent and good faith effort to obtain loan approval, the seller should contest the notice in writing to both the buyer and the escrow/title company.

 

o   If the buyer does not produce evidence of the inability to obtain loan approval after a good faith effort that is satisfactory to the seller, the seller can request that the escrow/title company release the earnest money to the seller.  If the escrow/title company holds the earnest money due to the dispute or releases the earnest money to the buyer, the seller can initiate mediation to resolve the dispute.

 

o   Any such buyer/seller mediation is strictly between the parties and should not involve the agents.  However, if such a dispute does arise, the agents involve in the transaction should notify their broker or manager. 

 

Interest Rate/Necessary Funds (2d)

The buyer agrees that:

 (i)                 the inability to obtain loan approval due to the failure to lock the interest rate and “points” with the lender during the Inspection Period;

OR

 (ii)              the failure to have the down payment or other funds due from the buyer necessary to obtain the loan approval without conditions and close this transaction;

is not an unfulfilled loan contingency.

 

·         The Contract does not require the buyer to lock the interest rate during the Inspection Period, however the failure to lock the interest rate can put the buyer at risk of closing at a higher rate or breaching the Contract. 

 

o   For example, If the buyer’s Pre-Qualification Form or LSU stated an interest rate not to exceed five percent, and the buyer qualified and could have locked at five percent, but failed to do so during the Inspection Period, the buyer is at risk of being obligated to close at a higher rate.  If the buyer can get the other loan terms described in the Pre-Qualification Form or LSU at six percent at COE, the buyer will be obligated to close escrow or will be in breach of contract (after the expiration of the Cure Period).

 

·         If the buyer does not lock but cannot obtain loan approval for a reason other than the interest rate, the Loan Contingency is unfulfilled, and the buyer is entitled to a return of the earnest money.

Conclusion

Although the number of all cash sales have increased in recent years, most residential resale transactions involve financing.  Therefore, it is critical that real estate salespersons understand the loan contingency in the Contract and the loan process.    

 

Next Article – Title and Escrow Section

K. Michelle Lind, Esq. is an attorney who currently serves Of Counsel to the Arizona REALTORS®.  She is also the author of the book - Arizona Real Estate: A Professional's Guide to Law and Practice (3rd Ed.) .

For more real estate related articles, visit Michelle’s Blog at Arizona Real Estate – A Professional’s Guide to Law & Practice. (arizonarealestateprofessionalguide.blogspot.com)

This article is of a general nature and may not be updated or revised for accuracy as statutory or case law changes following the date of first publication. Further, this article reflects only the opinion of the author, is not intended as definitive legal advice and you should not act upon it without seeking independent legal counsel.  3/20/23

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[1] Thank you to Mandy Neat for this suggestion.