When closing a Real Estate transaction, do I really need to use a Title Insurance Company and Escrow Agent?

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Answered by: Darlene, An Expert in the Real Estate 101 Category
Title Insurance and Escrow functions are two of the most misunderstood, yet critical, components of closing a real estate transaction.

When we purchase an insurance policy, we are generally buying financial protection for events that have not, and possibly will not occur. We do not know if we are going to become ill, have a car accident, or have a house fire. Title Insurance is unique, as unlike most other common policies, it insures the past. When a deed is recorded with the proper county agency, transferring title from Seller to Buyer, that exact minute of recording will be the effective date of the Title Insurance policy, and will insure everything of record that came BEFORE the transfer deed.

Lenders and buyers alike need to know that the property they have a financial interest in, is free of liens. The Title Insurance Company will check county records, tax collectors records, they even investigate the owner to ascertain whether or not there are any legal matters, such as judgments, liens, bankruptcies, and such, that would effect the ability for the owner to transfer title or obtain new financing.

Imagine what a nightmare it would be, if you purchased a property and found that you are essentially "landlocked". This meaning you have no rights for ingress and egress over adjacent properties. You own the Real Estate, but short of flying a helicopter to it, you have no land based access. Title Insurance Companies also check for issues such as these, called easements, and other situations that could interfere with an owner's reasonable use of the property.

Lenders demand Title Insurance for these reasons, and also to make sure that any other lien and mortgage holder with an interest is satisfied in full, i.e.-their first mortgage is really in first position on the title. When a foreclosure procedure is finalized, parties are paid out based on their, "order of priority". Normally the tax collector is the number one entity to be paid. We as Americans are too well aware that the Government gets the first cut. This is followed by Home Owner's Associations, utility companies, the first mortgage holder, and the holders of any second and third mortgages, and on down the line.

Typically the only time Real Estate is transferred from a seller to a buyer without Title Insurance, is in a "For Sale By Owner" or FSBO transaction. This is where the buyer is paying in cash or the seller is financing, and there are no real estate agents involved. Even in that situation, the lack of a proper title search is risky business practice.

Let's assume that you, as a real estate buyer, are purchasing a property for $100,000. You are placing a 20% down payment, $20,000, and financing the balance of the sales price of $80,000. Your real estate agent requests that you give them a check for $20,000, instead of the typical $1,000, earnest money deposit. Your loan officer then informs you that the $80,000 loan will cost $2,000 in points, processing fees, credit report and appraisal fees.

The loan officer now asks you for a check for $2,000. You now have $22,000 missing from your bank account, but no keys to your new home. How do you know that the loan officer will actually pay the credit reporting agency and the appraisal service from these funds? More than likely you do not even know who these third party companies are. Do you know if your real estate agent is going to actually credit the $20,000 toward the purchase price, or are they going to take their commission out first and deposit the balance? You have not even received loan approval yet. What if the loan gets denied? How are you going to get your money back?

Enter the escrow company. Escrow, by loose definition is a "Neutral Third Party". The escrow company charges a flat rate for their services, and their employees pay is not commissioned based. Therefore, your escrow officer will get paid the same amount on payday, whether or not your transaction is completed. The escrow company is bonded and insured, and will place your money in a specific trust account, that is completely separate from any other type of bank accounts they may have, such as for payroll and other operating expenses.

Your funds are never co-mingled. The escrow company's primary function is to keep your money safe, make sure all parties that have a financial stake in your transaction are paid, and to provide all concerned parties with a complete, written accounting of how every penny was distributed. They also gather all documentation required on your purchase agreement and any missing loan conditions. When all funds and documentation are in place, the escrow company will give approval to the title insurance company (often these are both operating under the same name), that the transfer can take place. The transfer documents are taken to the appropriate County office and filed. This is the official "Close of Escrow". These are the three words that everyone involved in a real estate transaction loves to hear.

Purchasing a property without title insurance is like buying a used car without test driving it first or even kicking the tires. Purchasing a property without an escrow company is similar to handing your life savings over to a stranger and hoping that they will go buy that used car for you, and bring it back.

Caveat Emptor! Let the Buyer beware.

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