Understanding Real Estate Transactions

Real estate transactions refer to exchanging property for money or another property with similar value. This exchange sounds straightforward, but there’s more than meets the eye.

The information about property transactions can be overwhelming if you’re a buyer or a seller. You need to understand the type of transaction you’re getting into. You also need to know who should be involved in the trade.

This article will dispel all your doubts and put your mind at ease. We will explain five types of real estate transactions relevant to you. We will also detail parties involved in property sales or purchases. Lastly, we will highlight a typical property transaction’s steps and the paperwork involved.

If this sounds like what you’re looking for, keep on reading.

Types of Real Estate Transactions

Most people’s understanding of real estate transactions is the traditional buying or selling of property. However, there are at least five types of transactions in the real estate industry. Each exists for a specific purpose and circumstance. Let’s define them.

1. Purchase and Sale Transactions

This transaction refers to the typical buying or selling of real estate. It’s straightforward and doesn’t have any particular circumstances that necessitate it. If you want to own property, chances are this is the transaction you’re in.

2. Rental Agreements

In this transaction, a property owner (landlord) allows people (tenants) to occupy their property for a period. In exchange, the tenant will make regular payments to the landlord. Rental agreements have flexible time frames that allow tenants to move out whenever.

3. 1031 Exchange

Also called a like-kind exchange, investors famously use this transaction to defer taxes. But first, where does it get its name from? The IRS.

According to the Internal Revenue Service (IRS), “IRC Section 1031 provides an exception and allows you to postpone paying tax on the gain if you reinvest the proceeds in similar property as part of a qualifying like-kind exchange.”

In other words, an investor swaps real estate with another investor to avoid reporting a profit they’d get if they sold it instead.

4. Short Sales

This type of transaction happens when someone with a mortgage sells their property for less than they owe their lender. Typically, they carry out this sale to avoid foreclosure. The lender has to approve short sales beforehand.

5. Leasehold

In a leasehold, a tenant enters a lease agreement that grants them the freedom to occupy, renovate and rent out a property for a specific time. After their lease expires, the property and all renovations revert to the land owner (freeholder).

During this lease period, the tenant makes regular payments to the freeholder called ground rent. Most often, leasehold transactions happen for commercial property, such as malls.

Parties Involved in Real Estate Transactions

Property trades are intricate processes that take many hands to succeed. Here are the parties responsible for the success of a real estate transaction.

The buyer. This person or entity is purchasing a property.
The seller. This person or entity is selling their property.
A real estate agent. This licensed professional represents a buyer or seller in a real estate transaction.
A mortgage lender. This financial institution provides loans to buyers interested in purchasing a property.
A title company. This entity searches every database to ensure a property has a clear title. In other words, it guarantees the property has no legal claims and that the seller has the right to sell it.
An appraiser. This qualified professional assesses a property’s value to determine its market price.
A home inspector. This professional searches for any structural, mechanical, or safety issues a property may have.
An escrow agent. This neutral third party, typically a lawyer or title company, holds money and documents until the end of the transaction.
A lawyer. This licensed professional represents buyers and sellers in legal matters, such as disputes and contract formation.

Steps Involved in a Typical Real Estate Transaction

A regular real estate transaction involves the following steps.

Scouting.
Offer and negotiation.
Contract formation and execution.
Inspections.
Financing.
Title Search.
Title insurance.
Closing.

1. Scouting

Real estate transactions begin with buyers and sellers shopping around for agents, attorneys, and property. A lot of internet searches happen in this step. First, buyers and sellers consider their goals, budget, and knowledge of the property market. Some transact without professional help, while some hire real estate professionals.

In this step, buyers search for properties that match their preferred location, size, and amenities. Real estate agents offer excellent help when scouting because they can access exclusive listings.

Sellers search for buyers by setting up open houses, listing their property, and advertising on channels such as social media.

2. Offer and Negotiation

When a buyer finds a property they’re interested in, they make an offer to the seller. This offer includes the proposed buying price and terms and conditions, such as financing and inspections.

Next comes negotiation, where the seller accepts, rejects, or makes a counteroffer. This step lasts until both parties come to a mutual agreement.

3. Contract Formation

Once the buyer and seller agree on the terms of the offer, they write up and sign a sales contract. This step gives the go-ahead to continue with the rest of the transaction.

4. Inspections

After signing the contract, the buyer does their due diligence by assessing a property’s conditions. They find a licensed home inspector to inspect the property thoroughly.

The inspector should have experience in different aspects of a property. These aspects include the structure, electrical systems, plumbing, and HVAC (heating, ventilation, and air conditioning).

Buyers should attend these inspections to ask questions and address any concerns on the spot. If the inspector finds significant issues, the buyer can submit a repair request or request credit from the seller to fix them.

5. Financing

If the buyer requires financing to purchase, they will search for a lender with the help of their agent. This lender provides buyers with a mortgage. Since the mortgage depends on the purchase price, the lender has to order an appraisal to determine the property’s value.

Before signing the dotted line on the mortgage loan, the lender must give the buyer a Closing Disclosure.

There are many types of mortgages, depending on the buyer’s credit and preferred payment rates. Mortgage types include-

Conventional mortgages. These loans usually require a higher credit score of at least 620. They also require a down payment of at least 3% to 20% of the home’s purchase price.
Fixed-Rate Mortgage (FRM). These loans offer a consistent interest rate throughout the loan term.
Adjustable-Rate Mortgage (ARM). These loans have a fixed interest rate for a specific period, typically 3, 5, 7, or 10 years. After that period, the interest rate adjusts based on market conditions. ARM loans often have lower initial interest rates but can increase over time.
Government-backed mortgage. These are loans guaranteed by a government agency.

6. Title Search

The title company or attorney comes in afterward to ensure the seller has the legal right to sell that property. Skipping this step is a gateway for legal disputes and possible revocation of the transaction.

The company reviews public records related to the property. These records include deeds, mortgages, liens, tax records, judgments, and easements. This search can go back several decades to establish a chain of ownership.

Title searches look for issues such as outstanding liens, unpaid taxes, unresolved legal judgments, and undisclosed heirs. The seller must resolve any problems the search discovers before the transaction continues.

7. Title Insurance

The buyer must find a way to protect themselves against title issues. The way to do this is by getting title insurance.

There are two kinds of title insurance; owner’s title insurance (protecting the buyer) and lender’s title insurance (covering the lender). Let’s define them.

Owner’s Title Insurance

The buyer takes out this insurance to cover themselves against losses from title issues after they purchase the property. There are three main components of an owner’s title insurance. These are-

Protection against title issues.
Legal defense. The policy typically provides an attorney if the buyer must defend their new property claim.
Title insurance cost. The new owner of the new title, or their heir, pays an amount based on the purchase price. This amount ensures they remain covered as long as they own the property.

Lender’s Title Insurance

The buyer’s lender needs assurance that their investment won’t go down the drain if there are title issues. Their security comes as a policy called lender’s title insurance. The responsibility of paying for this policy falls on the buyer, even though it doesn’t protect them.

8. Closing

Finally, the transaction is at the finishing line. Many processes happen before a buyer can close on a house. Let’s highlight them.

First, the buyer must review their Closing Disclosure and agree to the terms of their mortgage.
The buyer also gets to perform a final walkthrough of the property. This step assures them that repairs are complete and the property is in the agreed-upon condition.
During closing, the seller and buyer must go over all documents involved in the transaction. We will detail these documents later in the article.
After signing the documents, the buyer must provide the agreed-upon down payment for financing. The escrow agent receives this money and distributes it to the appropriate parties.
The seller then transfers the property’s title to the buyer.
After they receive the title, the buyer pays closing costs, such as lender fees, title search fees, attorney fees, and recording fees.

After closing, the buyer should update their homeowner’s insurance policy and transfer or establish utility accounts in their name.

The Paperwork Involved in Real Estate Transactions

Real estate trades involve heaps of documentation that require extreme scrutiny by a buyer, seller, agent, and attorney. A lawyer is critical in the review of these documents because some of them are legally binding.

Here is the paperwork to expect when buying or selling property.

Purchase Agreement

This document, also called a purchase offer, kickstarts the transaction. A purchase agreement is a legally binding document that lays out the conditions under which a buyer is willing to purchase a property.

This document mentions the buyer and seller’s names, addresses, and contacts. The agreement describes the property and the purchasing price the buyer is willing to pay.

Other significant details in this agreement include

Earnest deposit. This deposit refers to the money a buyer puts down to show their commitment to purchasing the property.
Financing terms.
Terms and conditions. These are the requirements that the seller must meet for the buyer to continue with the transaction.
Closing date.

Property Deed

A property deed is a legal document that transfers property ownership to a buyer.

Seller Disclosure

A seller must inform the buyer of any issues the property has beforehand. They do so through a seller disclosure. These disclosures typically contain the following information.

Property condition.
Property defects.
Property hazards.
Past and pending legal issues.
Current property utility providers.
Homeowners’ Association details.

The buyer can sue for damages if a seller fails to disclose any of this information or lies about their disclosure. They, however, must prove the seller deliberately hid these details or lied intentionally.

Title Report

The title company drafts this report to show the property’s ownership history.

Home Inspection Report

This document explains the findings of a home inspector. They detail any defects or safety concerns they find during the inspection. In these reports, the inspector can also recommend other experts to look at various aspects, such as plumbing.

This report usually included pictures or other documents to support their findings.

Closing Disclosure

A closing disclosure lays out the terms, installments, and closing costs. A mortgage lender provides this five-page document to buyers at least three days before closing the mortgage. The disclosure details late payment penalties and instances where the lender can revoke the loan.

Conclusion

Understanding real estate transactions is the first step toward your dream home or property investment. The process involves many legal and financial aspects that are challenging for one person to navigate alone. A successful real estate trade includes an agent, an attorney, a title company, a home inspector, and a mortgage lender.

When buying or selling property, consider the steps guaranteeing a smooth transaction. These steps include scouting, negotiation, financing, and closing. Do your due diligence to avoid legal issues that can revoke the transaction.