What Is Escrow And Why Is It Required

In a previous post I indicated there’s an army of people involved in closing a real estate and mortgage transaction (real estate agents, lenders, escrow officers, title officers, inspectors, appraisers, etc.). Of all the different professionals, and the service each provide, I learned early in my career that one of the most feared aspects of home buying, particularly among first time buyers, was “going to escrow.”

This was largely because the escrow officer had the unenviable task of informing the buyer of the amount needed to close the transaction, often after an inexperienced or unscrupulous loan officer had given them an estimate that was significantly less. As a result, escrow officers unfairly gained a reputation as being bearers of bad news. And indeed, it is bad news if the loan officer tells you on March 15th you’ll need $4,000 to close the transaction, but on April 28th escrow says no, the amount needed is $6,500.

Thanks to the reforms in the mortgage industry, I’m happy to report that most of the bad actors have been purged and the days of misquoting and overcharging unsuspecting borrowers are over. Thank heavens!! (We were all being lumped together and looked upon with scorn).

However, there still seems to be a misunderstanding of what an escrow officer is, what he or she does, and why an escrow is required. With that in mind, let take a look at the escrow process. So what’s an escrow company? An escrow company is simply a neutral third party whose task is to make sure everyone receives what they’re contractually entitled to get. In an effort to make the concept easier to grasp, let’s consider a transaction that’s less technical than real estate (and one that most of us have experienced at least once).

Assume you’re selling a car for $5,000 and you’ve secured a buyer who’ll pay that price. Further assume that you’ve hired an escrow company to handle the transaction and escrow is charging $150 – with the buyer and seller each paying one-half of the escrow fee, or $75.00.

Here’s how the transaction would proceed:

1) You would sign over the title of the car to the buyer and deliver the executed title, along with the Bill of Sale, and your share of the escrow fee to the escrow officer

2) The buyer would deliver the $5,000 purchase price by wire or certified funds to the escrow company, along with their share of the escrow fee, appropriate taxes, transfer fees, and Proof of Insurance

3) The escrow officer would check with DMV to make sure a duplicate title has not been issued (to prevent you, the seller, from selling the car to 2 different people)

4) The escrow officer would forward the taxes, transfer fees and transfer forms to the CA DMV – thereby assuring that the vehicle is no longer in your name and that you, the seller, is no longer liable for damages

5) Escrow would forward you the $5,000 as payment for your car

6) Escrow would forward the buyer the title that the seller signed and transferred into the buyer’s name

7) Escrow would pay themselves $150 as agreed

Notice that everyone gets what they’re entitled to receive (including the state of California – transfer fees and taxes), everyone is protected (including the citizens of California – proof of insurance), and the transaction is closed in accordance with California Law.

That’s what an escrow company does and why we’re required to use them.

Important Note: The escrow company does not get involved in the condition or the market value of the property being transferred.

Until the next post … may health and happiness abound!


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