An escrow is essentially a small and short-lived trust arrangement. It has become almost an indispensable mechanism for the consummation of real property transfers and other transactions such as exchanges, leases, sales of personal property, sales of
securities, loans, and mobilehome sales.
DEFINITION: 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.”
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.
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.
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.
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.
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.
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; and
• 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.