An escrow holdback is the money “held back” by a property buyer until the seller meets all the stipulations set out in the contract. The money is usually deposited with a neutral third party (the escrow agent) in the agreement of the two parties. The tasks and work the seller is supposed to complete are outlined in the escrow holdback agreement.
How Does an Escrow Holdback Agreement Work
An escrow holdback will be necessary for various property buying scenarios. For example, say the buyer is an aspiring new homeowner, and the closing date is fast approaching, yet the seller is yet to finish some construction works such as landscaping on the property. The buyer can choose to deposit a certain amount of the agreed property price with a third party that is to be given to the seller once the landscaping is done. This way, the buyer is protected, and the seller is motivated to get the job done since, eventually, they want to get paid.
An escrow holdback can be regarded as an insurance policy for your client, for it protects them from unprecedented events during closing. An escrow holdback is important, especially for buyers purchasing property by a loan; the lender would be more convinced to disburse funds knowing the property will be delivered as promised.
Escrow agent’s involvement
The escrow agent could be a company, lender, or any other third party. Their work is to keep the agreed money (holdback) until the unfulfilled conditions highlighted by the buyer are met. It is important to ensure that the money held back is enough to push the seller to be committed to completing the tasks. Closing on a house that has pending construction works is very risky, and buyers should be advised against it regardless of what a seller promises, your clients(buyers) should be cautioned against closing without an escrow agreement An escrow holdback is usually the insurance policy for your clients in such a situation.
Interest earned (26 § 1.468B-7(b)(1)(iv))
According to the Internal Revenue Service, it is the amount of interest gained by the escrow account during the period it was deposited up to the time the seller completes the laid-out conditions and receives the money. It is, however, given to the buyer.
Components of an Escrow Holdback Agreement
Now that we have looked at the different scenarios where an escrow holdback agreement is necessary and how to use it, we shall answer the question; what are the contents of an escrow holdback agreement? Regardless of the situation, there various components that can be found in a standard escrow agreement.
Purchase agreement and the concerned parties
This is usually the first section of the escrow agreement. It outlines the initial purchase agreement to which the escrow is to be added to by date. Information about the parties involved is also provided, such as the names of the buyer, the seller, and the escrow agent.
The seller’s responsibilities
An escrow holdback agreement must highlight the seller’s obligations by listing the individual tasks they are to complete. In addition to the obligations due, the escrow amount being held must be declared. For example, the seller must install a Heating, Ventilating, and Air Conditioning system.
The duties and fees of the escrow agent
The amount to be compensated to the escrow agent for services rendered must be stated in the agreement. The agreement also highlights scenarios that would imply additional charges such as inconveniences brought about by disputes between the buyer and the seller. It also exempts the escrow agent from liabilities in the event any party incurs losses during the transaction.
Dated signatures of the seller, buyer and escrow agent
Like any other contract, an escrow holdback agreement requires signatures from the participating parties to be validated. The signatures and full names of the buyer, seller, and escrow agent must be presented. They are accompanied by the date of signing.
You should ensure that the buyer and the seller have read and agreed to the terms laid out in the agreement before signing.
Remember, should there be disputes in the future, the escrow agreement can be presented in court as evidence of the conditions each party was to be fulfilled.
Situations Requiring an Escrow Holdback
An escrow agreement can be a necessity to a wide scope of scenarios from commercial to residential property. It helps to ensure that a purchase closing happens without the buyer having to compromise and settle for a property whose quality they did not bargain for.
Here are several circumstances that may prompt a buyer to require the services of an escrow agent.
- Approval of newly installed systems most notably a septic system, etc.
- When the property requires some repair works that are yet to be completed.
- Renovations that have yet to be completed. This is seen when purchasing buildings that were built years back. A buyer could be requiring some of the sections of the house to be modernized.
- Title issues land ownership is a very sensitive matter, and the process of acquiring a title can be lengthy to the point that the closing date arrives before ownership has been exchanged between the seller to the buyer.
- Missing mortgage discharges.
- Clean-ups that have yet to be completed. This could be in terms of construction debris that is yet to be removed within the compound.
- When there are discharging conservation issues.
- Other seller obligations are required for closing.
While writing an escrow holdback agreement, you want it to be as effective as possible and cover all the pertinent points regarding the purchase, and all parties are well represented. So, how do you go about this?
Here are some of the few factors you should look into;
The lender’s opinion
More often than not, you will find that your client plans to purchase property with the assistance of a lender. The lender being the source of the finances, plays a critical role in deciding the way forward when a seller has not completed some of their contractual obligations. As a matter of fact, the lender can choose to either take or decline an escrow. So, how does the lender come into play in this matter? They can provide the conditions under which they are willing to have an escrow.
For example, they can decide that if the escrow is needed, the money should be released on the condition they inspect the property, e.g., the house after completion. Lenders also dictate the amount to be withheld, typically one and a half times the amount the seller will incur in completing the pending obligations. Should the lender decline the use of an escrow, it is up to the buyer to decide whether they are willing to push the closing date or they opt to look for another house or property.
Septic system holdbacks
Of the many setbacks that can occur when completing construction before closing in real estate sales is the completion of a septic system. This becomes a major concern as it is required by law for houses to have an up to standard septic system verified through inspection. This is sometimes referred to as a “Title V septic inspection.”
In cases where the seller is unable to install before closing or fails the inspection, an escrow holdback agreement can be written at their convenience or that of the seller. This acts as a reassurance to the buyer that they intend to complete the installation at a later date other than the one initially agreed upon. The valuation of installing the septic system dictates the amount to be held back. Lenders often require a one and half times that value.
New construction holdbacks
Constructions works are faced by a lot of unprecedented events that, in most cases, end up forcing the contractor to adjust their schedule to ensure the house is complete. This ends up pushing back the closing date. To reassure the buyer of their commitment to having the house completed, the seller or the buyer may suggest the use of an escrow agent.
Some of the holdbacks you can look into when writing up new construction holdbacks include;
It involves all the land improvements to be made to a portion of the compound in terms of trees, gardens, lawns, leveled ground, etc. It is usually done at the final stages of construction hence its frequent occurrence. Also, when construction is being done during winter, it is very difficult to do landscaping. Therefore, look out for landscaping tasks that are yet to be completed.
They are the private roads that lead to the house or garage. Contractors often build it at the final stages because heavy machinery used during construction can damage it if it is constructed early in the construction. By the time the builder is finishing the two coats of asphalt, the closing may be due hence the need to check the presence of driveways and decide if an escrow is needed.
Sustainability is at the top of priorities for many states. Houses constructed close to ecosystems such as wetlands or lakes require a certificate of compliance with conservation measures. Since its issuance is dependent on approval which could involve inspection and other analysis, the seller might not be able to get one in time for various reasons. Where this is the case, an escrow is needed.
Punch list items
Other conditions not met by the house should be checked and issue an escrow as deemed necessary.
Builders refusing an escrow holdback
As an escrow agent, you should be wary of any builder that is refsing an escrow, yet they have not completed construction works to the buyer’s standards. Most reputable construction companies will often be open to an escrow holdback where necessary.
Free Escrow Holdback Agreement Templates
Having to write an escrow holdback agreement from scratch every time you need one can be a daunting and monotonous task. That is why we have gone a step further and provided you with free escrow holdback agreement templates that you can download and customize to meet your client’s needs all at your convenience. More so, they are FREE! Download! Download!
Frequently Asked Questions
How long can escrow hold money?
The duration in which an escrow agent can hold money varies depending on the agreement between the buyer and the seller and who the escrow agent is. However, it normally goes lasts for 30 days. Any longer can mean other grave issues.
Who signs closing documents first for the buyer or seller?
In most cases, the seller or their representatives will be the ones to sign first as they must be present at the closing once the escrow agent or lender has verified that the seller has completed what is required of him or her. The buyer can sign at a later date.
Irrespective of whether a buyer wishes to purchase a new or aged house, it is important that they do a thorough inspection to make sure that the seller delivered according to the standards they promised. In cases where they have not, an escrow holdback agreement is required.
It is money set aside with an escrow agent that acts as security for the buyer should the seller fail to complete the pending tasks. The sum withheld should be equivalent to the costs the buyer will incur in finishing the tasks with some add-ons.
This way, it would be in the seller’s best interest to meet their obligations; else, it would be money lost. An escrow holdback agreement should highlight both parties, obligations to be met, the amount to be withheld, the escrow agent, and any other relevant information.