become almost an indispensable mechanism in this state for the consummation
of real property transfers and other transactions such as exchanges, leases, sales
of personal property, sales of securities, loans, and mobile home sales.
This discusses the real estate sale escrow.
California Civil Code Section 1057 provides this description of an escrow:
“A grant may be deposited by the grantor with a third person, to be
delivered on the performance of a condition, and, on delivery by the
depositary, it will take effect. While in the possession of the third
person, and subject to condition, it is called an escrow.”
And, in Section 17003 of the Financial Code:
“Escrow means any transaction wherein one person, for the purpose of
effecting the sale, transfer, encumbering or leasing of real or personal
property to another person, delivers any written instrument, money,
evidence of title to real or personal property, or other thing of value to a
third person to be held by such third person until the happening of a
specified event or the performance of a prescribed condition, when it is
then to be delivered by such third person to a grantee, grantor, promisee,
promisor, obligee, obligor, bailee, bailor, or any agent or employee of any of the latter.”
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ESSENTIAL ELEMENTS
The two essential requirements for a valid sale escrow are a binding contract between buyer
and seller and the conditional delivery of transfer instruments to a third party. The binding
contract can appear in any legal form, including a deposit receipt, agreement of sale,
exchange agreement, option or mutual escrow instructions of the buyer and the seller.
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ESCROW HOLDER
An escrow holder is the depositary, agent, or impartial third person having and holding
possession of money, written instruments, or personal property to be held until the happening of
designated conditions. (Once these conditions are met and performed the escrow agent is
generally released from liability.) According to Financial Code Section 17004, “escrow agent”
is any person engaged in the business of receiving escrows for deposit or delivery.
The escrow holder acts to ensure that all parties to the transaction comply with the terms and
conditions of the agreement as set forth in the escrow instructions. The escrow holder may also
coordinate the activities and professional services involved in the transaction, such as the
activities of the lender and the title company as well as those between the buyer, seller and
broker.
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INSTRUCTIONS
The conditional delivery or transfer is accompanied by instructions to the escrow holder to
deliver the instruments and funds respectively on the performance of the stipulated conditions.
There are two forms of escrow instructions employed: bilateral (i.e., binding on both buyer and
seller) and unilateral (separate instructions of buyer and seller). Since the escrow instructions
implement and may also supplement the original contract, both are interpreted together if
possible. If, however, the instructions contain terms in conflict with the original contract, the
instructions, constituting the later contract, usually control.
When instructions have been signed by the parties to the escrow, neither party may unilaterally
change the escrow instructions. The parties may, by mutual agreement, change the
instructions at any time and one party may waive the performance of certain conditions,
provided the waiver is not detrimental to the other party to the transaction.
While an escrow holder can be held liable for violating written instructions, the escrow holder
is really only a stakeholder, not legally concerned with controversies between the parties. As
such, an escrow holder is entitled to file an action of interpleader to require litigation of
controversies.
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COMPLETE ESCROW
Properly drawn and executed escrow instructions become an enforceable contract. An escrow
is termed “complete” when all the terms of the instructions have been met.
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ESCROW PRINCIPLES
The following are major escrow principles:
1. Escrow instructions must contain mutuality and the understanding of the principals to the
escrow. Properly drawn instructions are clear and certain as to the intentions of the parties, the
duties of the escrow holder, and the fact that it is the principals themselves who must perform
the escrow contract by complying fully with the instructions. The escrow holder does not have,
and must not exercise, discretionary authority.
2. The escrow holder does not act as a mediator or advisor, or participate in customer
controversy, or arbitrate disputes. Instructions are drawn so that the parties to the escrow make
the promises, perform, and put the escrow holder in a position to close the escrow.
3. The escrow holder is prohibited from offering legal advice and must suggest that
disagreeing parties consult an attorney (or real estate broker if it is a transaction matter that
may be negotiated).
4. Escrow is a limited agency relationship governed by the content of the escrow instructions.
As agent for both parties, the escrow holder acts only upon specific written instructions of the
principals. When the escrow is closed, the escrow holder becomes agent for each principal
with respect to those things in escrow to which the parties have respectively become
completely entitled.
5. When all parties to the escrow have signed mutual (identically conforming)
instructions, the escrow becomes effective. If only one party has signed, that party may
terminate the proposed escrow at any time prior to the other party’s signing.
6. The escrow holder must avoid vague or ambiguous terms and provisions in
instructions and documents.
7. The escrow holder must forward immediately to the title company any document which is to
be recorded and furnish a copy to any concerned party, so that the document’s sufficiency can
be determined. This will help avoid delay in closing escrow.
8. Documents and funds not contemplated by the escrow instructions should not be accepted
by the escrow holder without authorization of the principals.
9. The escrow trust account must be maintained with extreme care. Overdrawn accounts (debit
balances) are strictly forbidden.
10. Escrows are confidential in nature. The escrow holder must not give out any information to
third parties concerning an escrow without approval of the escrow principals.
11. The escrow holder is the agent of the principals to the escrow. Legally, any facts known by
the escrow agent are imputed to the principals. Any detrimental or new material information,
previously undisclosed, made known to the escrow holder and affecting the principals should
be disclosed to them for their instructions in the matter.
12. The escrow holder must maintain a high degree of trust, efficient customer service, and
good customer relations.
13. The escrow holder must remain strictly neutral, not favoring either party. The escrow holder
must not advise either party, as any gain to the one will likely be detriment to the other.
14. The escrow holder must maintain records and files on a daily basis, to be sure that a
procedure is not overlooked. Neat and orderly files, complete with check sheets, will help
insure smooth progression toward closing.
15. Before closing an escrow, the escrow holder must audit the file, accounting for all items to
be handled, recorded and delivered, including cleared funds.
16. The escrow holder must not disburse any funds from an escrow account until all items such
as checks, drafts, etc. have cleared, and thus have become available for withdrawal. This
“holding period” may range from 1 to 10 days, depending on the type and location of lender.
17. Closing and settlement must be prompt, using forms which are simple and clear.
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GENERAL ESCROW PROCEDURES (may vary according to local custom) Basic escrow
procedures include the following:
1. Prepare Escrow Instructions on the escrow holder’s printed form. All principals to the escrow
sign instructions which fully set forth the understanding of the parties to
the transaction. Usually accompanied by an initial deposit. For a home purchase, the mutual
instructions of the principals set forth:
• the purchase price and terms;
• agreement as to mortgages;
• how buyer’s title is to vest;
• matters of record subject to which buyer is to acquire title;
• inspection reports to be delivered into escrow;
• proration adjustments;
• date of buyer’s possession of the property;
• documents to be signed by the parties, delivered into escrow, and recorded
• disbursements to be made, costs and charges and who pays for them;
• date of closing.
2. Order Title Search on the subject property, resulting in a “Preliminary Report” from the title
company. The escrow holder examines this report carefully for items not contemplated in the
escrow instructions. The seller must clear any such item or it must be brought to the attention
of the buyer “for information” and “expression of desire in the matter.”
3. Request Demands and/or Beneficiary Statements from any lenders of record. The necessary
document will be:
• a “Demand for Pay-off” if an existing loan is to be paid in full through escrow;
or
• a “Beneficiary Statement” if buyer is purchasing “subject to” or assuming a loan.
4. Accept Structural Pest Control Report and Other Reports (such as plumbing or roofing
inspections) into escrow and obtain, as instructed, any necessary approvals from the parties in
connection with the reports/inspections. Hold the reports (and any funds associated therewith)
for delivery to the proper party, or recording, at close of escrow.
5. Accept New Loan Instructions and Documents if the buyer is obtaining new financing.
Obtain buyer’s approval/execution of the documents. Satisfy all lender’s instructions prior to
using the lender’s funds to complete the transaction.
6. Accept Fire Insurance Policies and Complete Settlement by:
• accepting and delivering any fire insurance policy and transferring the insurance if so
instructed by the parties;
• making all prorations (e.g., property taxes and insurance) as instructed by the parties;
• completing the accounting (settlement) details and informing the principals that escrow is
ready to proceed.
7. Request Closing Funds. The law prohibits disbursal of funds from an escrow account until all
items such as checks, drafts, etc. have cleared and become available for withdrawal.
8. Audit File in Preparation for Closing by:
• accounting for all funds (Cash Reconciliation Statement) and documents;
• determining that the parties have complied with all escrow instructions.
9. Order Recording by authorizing the title company to run the seller’s title to date and record
the necessary documents, provided no change has occurred in the seller’s title since issuance
of the preliminary title report.
10. Close Escrow, after confirming recording, by:
• preparing settlement statements for buyer and seller;
• disbursing all funds; and
• delivering documents to the party or parties entitled thereto.
PRORATION
The seller is the beneficial owner of the property until close of escrow. If possession is
delivered at some time other than at the close of escrow, the principals may agree to adjust
the proration date since possession normally indicates beneficial ownership. If possession is
delivered sometime after close of escrow, the parties may agree to proration of taxes, rent
and/or assessments, along with prepaid items for which the buyer becomes
responsible upon recording of the deed, such as interest on a new loan or prepaid fire
insurance obtained by buyer.
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TERMINATION
Escrows are voluntarily completed by full performance and closing or terminated by mutual
consent and cancellation. It has been held that compliance with escrow instructions must be
achieved within the time limit set forth in the escrow agreement and the escrow holder has no
authority to enforce or accept performance after the time limit provided in the instructions.
When the time limit provided in the escrow instructions has expired and either party to the
escrow has not performed in accordance with the terms of the escrow agreement, the parties
may cancel escrow and are entitled to the return of their respective property and documents.
The escrow holder does not have authority to determine that a principal has not performed.
Therefore, clear and precise instructions
from the principals are necessary.
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CANCELLATION OF ESCROW - CANCELLATION OF PURCHASE CONTRACT
Cancellation of escrow may not also cancel a purchase contract. In Cohen v. Shearer (1980)
108 C.A. 3d 939, a Court of Appeal decided that cancellation of an escrow by mutual
agreement of the parties did not rescind the purchase contract between them.
Therefore, a real estate broker seeking to carry out the principal’s decision to cancel a contract
of purchase or sale should be sure the other party to the contract agrees in writing to do
precisely that and not simply settle for written advice to cancel the escrow. As happened in the
Cohen case, if a purchase agreement is not canceled along with the escrow, either party to the
agreement may retain the right to specific enforcement of the contract or for the recovery of
damages.
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WHO MAY ACT AS ESCROW AGENT
The Escrow Law (Division 6 of the California Financial Code) provides that escrow agents must
be licensed by the Commissioner of Corporations. However, banks, savings and loan
associations, title insurance companies, trust companies, attorneys and real estate brokers have
exemptions from the licensing requirements of the Escrow Law.
The exemption for real estate brokers [Section 17006 (a)(4) of the Financial Code] applies to
any broker licensed by the Real Estate Commissioner while performing acts in the course of or
incidental to a real estate transaction in which the broker is a party or in which the broker is an
agent performing an act for which a real estate license is required.
The Department of Corporations has interpreted Section 17006 (a)(4) to mean that:
1. the exemption is personal to the broker and the duties, other than ministerial functions,
cannot be delegated by the broker;
2. in a purchase and sale transaction, if the broker is not a party, he must be the selling or
listing broker;
3. the exemption is not available for any association with other brokers for the purpose of
conducting escrows; and
4. when the broker’s escrow business is a substantial factor in the utilization of the broker’s
services, the escrow business is not “incidental to a real estate transaction.”
A broker cannot advertise that he or she conducts escrows without specifying in the
advertisement that such services are only in connection with the broker’s real estate brokerage
business.
A broker may not use a fictitious name or a corporate name containing the word “escrow,” or
advertise in any other manner which would tend to be misleading to the public.
A real estate broker who conducts an escrow under the exemption must maintain all escrowed
funds in a trust account and keep proper records. The broker must follow the provisions of
Commissioner’s Regulations 2950 and 2951.
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Escrow Companies Must Be Incorporated
An individual cannot be licensed as an escrow agent. A corporation duly organized for the
purpose of conducting an escrow business must hold the license. Applicants for escrow
licenses must be financially solvent and furnish a surety bond in the amount of $25,000 or
more, based upon yearly average trust fund obligations. All officers, directors, trustees, and
employees having access to money or negotiable securities in the possession of the corporate
licensee must furnish a bond of indemnification against loss. All money deposited in escrow
must be placed in a trust account which is exempt from execution or attachment.
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AUDIT
An escrow agent is required to keep accurate accounts and records which are subject to
examination by the Commissioner of Corporations. The corporation must also, at its own
expense, submit annually an independent audit prepared by a Certified Public Accountant or
Public Accountant.
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PROHIBITED CONDUCT
No escrow agent licensee may disseminate misleading statements or describe as an “escrow”
any transaction which is not included under the definition of “escrow” in the Financial Code.
A licensed escrow agent may not pay fees to real estate brokers or others for referral of
business. Such prohibited “fees” would include gifts of merchandise or other things of value.
An escrow agent cannot disburse a real estate broker’s commission prior to closing of the
escrow.
Escrow licensees may not solicit or accept escrow instructions, or amended or supplemental
instructions, containing any blank to be filled in after signing or initialing. They may not permit
any person to make any addition to, deletion from, or alteration of an escrow instruction unless
it is signed or initialed by all persons who had signed or initialed the instructions. Escrow
licensees are charged by law with delivering, at the time of execution, a copy of any escrow
instruction, or amended or supplemental instruction, to
all persons executing it. However, escrow instructions, being confidential, may not be
disclosed to nonparties.
A real estate broker may not nominate an escrow holder as a condition precedent to a
transaction, but may suggest an escrow holder if requested to do so by the parties.
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RELATIONSHIP OF THE REAL ESTATE BROKER AND THE ESCROW HOLDER
A real estate broker should always consult the escrow officer before telling the principals that
escrow will close on a certain date. An escrow includes a myriad of details, any of which could
cause delay. Submission of accurate documents will expedite closing. Some suggestions:
1. As far as possible, make certain that the deposit receipt reflects the entire intentions of the
principals.
2. When opening escrow, bring the recorded grant deed whereby the seller acquired the
property or the seller’s title policy. These documents establish the correct legal description and
the manner in which seller holds title to the property.
3. Remember that all escrow instructions and amended instructions must be in writing. If the
buyers are planning to be away, the broker should check with the escrow officer before they
leave to determine if their absence will in any way hold up closing of escrow. If a small
amount of money is due from the buyers, the broker cannot offer to put up the money or
instruct the escrow officer to deduct the amount from the broker’s commission. The escrow
officer cannot do this. The buyer may be deliberately withholding the deposit of closing funds
until seller performs some condition known only to the principals. To accept “buyer’s closing
funds” from any party other than buyer is to force an escrow to close against the understanding
of the
parties.
4. Furnish escrow with the correct spelling of buyer’s name, address and telephone number.
Buyer’s and seller’s business phone numbers should be included.
5. Be sure the escrow officer knows how buyer wants to take title. Brokers, salespersons or
escrow officers should not assist with this decision, as it may involve legal and tax
consequences.
6. Give escrow holder names and addresses of all lenders or loan servicing agents and the loan
numbers. Many lenders, and FHA, require a 30-day advance payoff notice or seller may be
subject to additional charges on any loan payoff.
7. Check with the seller regarding bonds or other liens on the property. Those not being
assumed may be paid before opening the escrow.
8. If new financing has not been arranged before escrow is opened, notify the escrow officer
immediately when the loan has been obtained.
9. Before escrow is opened, determine how fire insurance is to be handled. (The buyer may
want to do business with buyer’s insurance agent or a certain company. The seller’s policy may
include other property and the seller may not want it transferred or totally canceled.)
10. Be aware of the escrow holder’s time requirement relating to non-cash deposit of funds.
Checks must clear before the escrow holder can make disbursements.
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DESIGNATING THE ESCROW HOLDER
Because selection of an escrow holder is not usually critical to either principal in a
transaction, real estate brokers have in the past played a large role in deciding where a
transaction would be escrowed. In recent years, however, there has been an increasing effort
on the part of federal and state regulators to minimize the influence of the broker in selection
of the escrow holder. The rationale is that buyers and sellers have the right, and should have
the opportunity, to compare escrow services and charges and, if they so desire, negotiate
between themselves as to where escrow will be held.
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DEVELOPER CONTROLLED ESCROWS - PROHIBITION
Civil Code Section 2995 prohibits any real estate developer (defined as any person or entity
having an ownership interest in real property which is improved by such person or entity with
single-family dwellings which are offered for sale to the public) from requiring, as a condition
precedent to the transfer of real property containing a single family residential dwelling, that
escrow services effecting such transfer be provided by an escrow entity in which the developer
has a “financial interest.” The phrase “financial
interest” means ownership or control of 5 percent or more of the escrow entity. A developer who
violates this statute is liable for damages of $250 or three times the charge for escrow services,
whichever is greater, plus attorney’s fees and costs. Any waiver of this prohibition is against
public policy and therefore void.
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