Once you’ve found a property that’s in your budget, negotiated with the sellers, and gotten approved for a mortgage loan, you may think the hardest part of the homebuying process is behind you. While you’re definitely making progress, you need to be ready for what comes next: Closing.
Preparing for closing means you should expect some terms that don’t float around in your everyday life. An important one is proration. Prorations will come up in closing and will affect both the buyer and seller. Let’s dive into what this means for you.
What are prorations?
Prorations are credits and debits that show up on the closing statement and are assigned based on which person owned the home at the time the cost occurred. They help make sure the mortgage transaction between the buyer and seller is fair. For example, if the seller already paid the property taxes for the entire year, it wouldn’t be fair for him or her not to receive money back, since they won’t own the house the entire year. In this situation, the buyer must credit that expenditure back to the seller on a prorated scale.
What types of prorations will you typically encounter at closing?
Outlays of cash that were paid up front for the entire year, like property taxes mentioned above, are prorations. Mortgage interest is another such proration, since it’s often paid upfront. Homeowner’s association fees and insurance premiums are other prorations that may need to be addressed at closing.
Will prorations affect a buyer’s mortgage loan?
Prorations shouldn’t negatively impact a buyer’s ability to secure a mortgage loan. It’s important, however, to be aware of additional costs that are the buyer’s responsibility to cover during closing, so there aren’t nasty surprises. Buyers should talk to their real estate agent and mortgage loan officer about the specific prorations they should expect.
How are they figured and by whom?
Prorations assigned to buyers and sellers can vary depending on the state they live in. For example, some states require property taxes to be paid a year in advance. In this scenario, the buyer would need to credit the seller a prorated amount for the taxes the seller paid after the home was sold. In states where property taxes are paid in arrears, the buyer would be credited the amount of tax money that occurred when the seller still owned the home. Mortgage lenders usually set up an escrow account to accumulate payments such as taxes and insurance for the borrower.
Understanding prorations and how they will be assigned to both the buyer and seller is important in preparation for the closing table. Both buyers and sellers should discuss the specifics of prorations with their real estate agents and ask questions to fully understand the process.