7.4 Settlement, Closing Statements, and Prorations

Settlement (closing) is the final stage where documents are signed, funds are disbursed, and title transfers to the buyer. A neutral closing agent (a title company, escrow officer, or, in some states, an attorney) coordinates the event: clearing loan conditions, collecting and holding funds in escrow, ensuring documents are executed, recording the deed, and disbursing proceeds. Escrow guarantees that all conditions are met before money and documents change hands.

States differ in who runs closing: some are attorney-state closings, while others rely on title or escrow companies. The national exam focuses on the universal flow rather than any one state's custom, so learn the sequence of steps and the closing agent's neutral, coordinating role.

The Closing Disclosure as Settlement Statement

For most consumer mortgages, the Closing Disclosure (CD) is the settlement statement that itemizes the final loan terms, closing costs, and the cash each party brings or receives. Buyers should compare the CD to the Loan Estimate to confirm fees stayed within tolerance. Costs are recorded as debits (charges owed by a party) and credits (amounts in a party's favor); the bottom line shows the buyer's cash to close and the seller's net proceeds.

Typical Closing Costs

Common charges include:

• Loan origination and discount points
• Appraisal and credit report fees
• Title insurance (lender's and owner's policies) and title search
• Recording fees and transfer taxes
• Escrow/settlement agent fees
• Prepaid items: property taxes, hazard insurance, and prepaid interest

The purchase contract specifies who pays which costs, though local custom and loan program rules also influence allocation.

Prorations: The Core Concept

Prorations divide shared, recurring expenses fairly as of the closing date. Items prorated include property taxes, HOA dues, rent on income property, and prepaid interest. The key question: who used the service, and for how long? The seller is responsible through the day before closing (or the day of closing, depending on local custom), and the buyer is responsible from closing forward. A prorated item appears as a debit to one party and a credit to the other.

Worked Example: Prepaid Taxes (Seller Credit)

Annual property tax is $3,650, paid in advance for the calendar year. Daily tax = $3,650 / 365 = $10/day. Closing is on November 1, so the buyer will own the property for the final 61 days of the year (Nov 1-Dec 31, using a 365-day method, counting through Dec 31). Because the seller already paid those days, the buyer reimburses the seller: 61 x $10 = $610. This is a credit to the seller and a debit to the buyer.

Worked Example: Arrears Taxes (Buyer Credit)

Now assume taxes of $3,650 are paid in arrears (after the period) and are still unpaid at closing on November 1. The seller owned the property Jan 1-Oct 31, which is 304 days, but has not yet paid. The seller owes that share: 304 x $10 = $3,040, credited to the buyer (who will pay the full bill later) and debited to the seller. Always check whether items are paid in advance or in arrears before deciding the direction.

Table: Buyer vs. Seller at Closing (Typical)

Debits and Credits: How to Read the Statement

Think of the buyer's and seller's columns as separate balance sheets. A debit is money a party owes; a credit is money in that party's favor. The buyer is debited the purchase price and closing costs and credited the earnest money and new loan. The seller is credited the sale price and debited the existing loan payoff, commission, and any costs assigned to the seller. The buyer's net debits equal cash to close; the seller's net credits equal net proceeds.

Proration Methods

Prorations require a daily rate, so the method matters. The statutory (banker's) method uses a 360-day year with 30-day months, while the actual-days (365-day) method uses the calendar exactly. Local custom dictates which to use, and the exam will tell you. Always: (1) find the annual amount, (2) compute the daily rate, (3) count the correct party's days, and (4) decide direction based on advance vs. arrears. Mixing up the day count or the direction is the most common math error.

Recording, Walkthrough, and Common Traps

Recording the deed makes the transfer public and protects the buyer's priority against later claims. A final walkthrough verifies agreed repairs and condition just before closing; it is not a renegotiation tool. Traps to avoid: confusing advance vs. arrears proration direction; assuming title insurance is paid monthly (it is a one-time premium); mixing 360-day and 365-day methods; and forgetting that the seller's days end at closing while the buyer's begin at closing.