Closing Escrow in Home Sales Is Becoming More Elusive

A growing percentage of residential sales transactions are failing to close escrow, local real estate agents, lenders and escrow officers say.

Homes are falling out of escrow more frequently, they say, because of buyers who can’t get loans, or home inspections that reveal expensive earthquake-related defects, or the phenomenon of so-called short sales where sellers try--but often fail--to get a lender’s OK on a sale for less than the balance of the seller’s mortgage.

Both sides to a real estate transaction must sign a cancellation instruction to cancel escrow. If one party can’t or won’t follow through on the deal, though, the deal falls out of escrow--although escrow officially stays open until both parties agree on how to close the escrow account. It’s serious business, and ought to be avoided if at all possible.

Ken Carver, owner of Carver Escrow Co. in North Hollywood, said that about 25% of the escrows he opens for buyers and sellers fail to close. “This has become pretty standard in our industry,” he said.

Most deals fall out of escrow because people do not qualify for a loan, or because the property is appraised by a lender for less than the sale price. But there are other factors boosting the number of deals that go bust, Carver said. Lenders always require fire insurance and now increasingly require earthquake insurance, he noted, but the January earthquake has made many insurance companies reluctant to write new fire and earthquake policies.

“We have lost some deals because of not being able to get insurance for the buyer,” Carver said. “All we need is an insurance policy and sometimes there’s nobody to write it.”

Some sales are never finalized because of relatively minor disputes between the buyer and seller, Carver added. After the earthquake, for example, he observed many buyers and sellers already in escrow arguing over who should pay $500 to replace a block wall. “A lot of deals blow because the parties haven’t discussed all the issues properly and they haven’t met in person,” he said. “It’s easier to compromise when you meet eye-to-eye.”

Jerry Bolin, branch sales manager for Coldwell Banker Residential Brokerage in Woodland Hills, said that about 15% to 18% of escrows that his agents open never close. One of the main factors driving cancellations is that many property owners in the San Fernando Valley are “upside down” on their homes--meaning they owe more than the property is worth--and a sale depends on approval by the lender. About half of buyers and sellers enter escrow before the seller’s bank has approved the deal, Bolin said. When lenders say no to a short pay-off, escrow doesn’t close.

Buyers who make an offer on a home where the seller wants a short pay-off should demand that their earnest money check--a deposit used to open an escrow account--not be cashed until the seller’s lender consents to the deal. “I wouldn’t want my check in escrow until the seller has received a letter from the lender that the seller’s shortfall has been approved,” Bolin said. Buyers can ask that their checks be held and that escrow not open until the lender approves the short pay-off, he said.

Since the earthquake, a growing number of homes have been falling out of escrow because of property defects and damage discovered when buyers thoroughly inspect the homes, said Joe Conrad, president of The Spectrum Group, a mortgage brokerage in Woodland Hills. “The large majority of buyers get out of the deal because they have a legitimate reason,” he said.

What is considered a legitimate reason for getting out of a contract to buy a home depends on the wording of the contract, Conrad said. Almost every contract says that the deal is contingent on a number of factors--most notably a satisfactory inspection by the buyer and the buyer’s obtaining financing. If the inspection turns up serious problems or if the buyer can’t get a loan, there isn’t a breach of contract and the buyer usually gets back the money he placed in escrow.

The cost to the buyer of falling out of escrow in this type of situation is usually several hundred dollars in appraisal and inspection fees, and sometimes a cancellation fee charged by an escrow company.

If the buyer backs out of the deal without a good reason, the consequences are more serious. That buyer stands to lose his earnest money--which can be up to 5% of the purchase price of the home. The buyer and seller may also end up suing each other--and sometimes even the agents join in, demanding their commissions.

Buyers who cancel a sale may lose money, but that’s of little comfort to sellers who see their sales fall through at the last minute, said Century 21 Alosta Inc. agent Marty Rodriguez in Glendora. Sellers should protect themselves by seeing that the buyer can really deliver on his promises when it comes time to close on the sale of a home.

Sellers and their agents should encourage would-be buyers to use a lender or mortgage broker that the seller’s agent is familiar with, said Rodriguez. This can help sellers be a little more sure that they are getting a credible assessment about the ability of a buyer to buy the home. If the buyer already has a lender or mortgage broker, the seller may want to encourage the buyer to make double loan applications--one with a money source familiar to the buyer and another with a source suggested by the seller. In real estate industry lingo, this is known as making “double aps.”

There are other safeguards, Rodriguez said. Sellers should demand a credit report with an offer to buy. While a credit report won’t reveal all the details of a would-be buyer’s ability to get a loan, it’s a good start. Another way to avoid falling out of escrow is for the buyer to be pre-qualified or pre-approved by a reputable lender. A letter of pre-qualification won’t obligate a lender to make a loan, but such letters at least help show the seller that the buyer is serious. Pre-approval of a loan is one step better. Sellers can also ask for verification of employment or a copy of the buyer’s banking or other statements that show there is enough money for the down payment.