Closing costs

In lieu of requiring buyers to pay all cash, some land sellers choose to offer “owner financing”. The seller accepts a down payment from a buyer of, say, 20% and then the buyer makes monthly payments to the seller over time.

When one of my seller-clients decides to do this, I ask them to specify up front the terms they will consider, i.e., the down payment, interest rate, and number of years. An example is 20% down, 6% interest, 10 years. I put the seller’s terms in black and white in all of my marketing materials. Yet, inevitably, I find that whatever down payment the seller requires, a few buyers will always contact me and ask if the seller will accept a smaller down payment.

Typical conversation with a buyer

This video shows a typical conversation that I will have with buyers. It explains why sellers offering “owner financing” will not accept a small down payment:

Additional reasons why sellers will not accept $0 down or a low down

The commission and closing costs are not the only reason sellers will not accept $0 down. The seller might also have liens or back property taxes to pay.

For example, suppose the seller in our $100,000 video example still owes $4000 on a loan tied to the land. In addition, he owes $3000 in a child support lien and $2000 in back property taxes. In order to transfer the land to a buyer “free and clear”, escrow will require the seller to pay those items, along with the commission and closing costs, out of the seller’s proceeds. Even though the seller is paying these items, and the buyer is not paying them, the down payment that the buyer gives the seller has to be sufficient to cover all of the items the seller is responsible for or the seller will have to write a check to escrow in order to close. Land sellers do not want to write checks. They want to receive checks. Getting money in return is kind of the whole point of selling land when you think about it!

Further, when a seller offers to carry the loan, he will naturally have a keen interest in making sure that the buyer will make their monthly payments in full and on time. The higher the down payment, the less likely the buyer will flake out in the future. This is because buyers realize that they will lose their down payment (and the land too) if they don’t pay.

Other sellers have in mind a certain amount of money that they want up front for a particular and immediate use in their life. Maybe they have medical bills to pay. Maybe they’re trying to fund the family’s vacation to Hawaii. Maybe they want to buy another parcel of land. Maybe they want to renovate their kitchen. Maybe they owe money to their drug dealer. Who knows? The point is, some land owners don’t want to sell their land at all unless they can get some threshold dollar amount down from a buyer. If they can’t get at least that amount, they won’t sell at all.

Occasionally “the seller” is actually multiple sellers, each with a percent interest. So, whatever the buyer puts down ends up getting split 2, 5, 8 ways (or whatever) after costs are deducted. The amount each individual seller will end up with at closing is therefore small. The more co-owners there are, the more the required down payment can get ratcheted up.

Advice to buyers

Before buying land, consider saving your money for a while so that you will have a sizeable down payment. Or, find a co-investor. Or purchase a less expensive parcel of land.

If you really want to purchase land with $0 down or a small down, don’t even look at parcels listed by Realtors. This is because, when there is a Realtor involved, the seller will always have to pay the commission out of any down payment that you propose. The math is not going to work out. So, buyers, if you don’t want to put at least 20% down, look only at For Sale by Owner (FSBO) listings where the seller does not have the expense of a commission.

If you have your heart set on a parcel listed by a Realtor, then at least contact the Realtor and ask if the land is “free and clear” of all liens and back taxes. Sometimes the agent will know the answer to this question and sometimes they won’t. Depending on what the agent says, do a “back of the envelope” calculation. Consider things from the perspective of the seller. Add up all the costs you think the seller will have to pay at closing: liens, back taxes, commission, and closing costs. You won’t have the exact numbers, so just estimate. When estimating, keep in mind that commissions are not always 6%. They can be 8%, 10% or anything and the listing agent is unlikely to tell you what commission the seller is paying. The total you come up with is your estimate of the bare minimum down payment the seller might possibly consider. Throw in an additional cushion of several thousand dollars over that sum and that’s the down payment you might propose in your seller-financing offer. If you find that the total exceeds what you want to put down, then don’t even bother submitting an offer. Move on down the road and buy a different parcel.

Suppose that the seller’s total costs, including liens, back taxes, commission, and closing costs, add up to $9642. Buyers, please don’t assume that you can offer the seller $9700 down and he will accept it. The seller is not going to transfer title to you in return for a check for $58 dollars at closing. The seller will want to receive a check for thousands of dollars at closing in order to agree to carry the loan for you. That’s why it’s important to cushion the down payment offer by several thousand dollars over and above the seller’s total costs.

Also, note there are basically two ways the seller can carry the loan. One is with a “trust deed” where title is transferred to the buyer at closing. Escrow records a lien on the land in favor of the seller and the seller and becomes a non-owner and lender just like he is Wells Fargo. The second way is a “land contract” where the seller retains title until the loan is fully paid off. The land contract is sort of like buying a car. After you make all the payments, then you get the pink slip. You don’t get the pink slip (title) up front. I’m not sure about other states, but the trust deed is the most common in California and Oregon, and I have never seen a “land contract” used in these states in my career. However, a “land contract” is the only kind of agreement that is likely to work with $0 down or a low down. This is because sellers are unlikely to want to transfer title to you up front when you are putting no money down. As a buyer, you might try proposing a “land contract” to FSBO sellers instead of a “trust deed”.

Finally, buyers, remember that, in addition to the down payment, you will also be expected to pay your portion of closing costs. Closing costs include the escrow fee and title insurance. These costs are entirely separate from the down payment and are paid to the escrow and title companies, not to the seller and not to the Realtor. Even in the unlikely event that you can convince a seller to accept $0 down, you will still be expected to pay your share of these costs. Purchasing real estate is not free.

Advice to sellers

Offering to “carry the loan” is one way to dramatically increase the odds of selling your land, and for top dollar. The reason is, there are virtually no good bank loans for most kinds of vacant land. Sellers who offer to “carry” do not think of it as a burden. They think of it as an investment that yields a return secured by real estate. Consider whether or not seller-financing is right for you. If you don’t want to carry the loan, that’s totally fine, just know that your buyer-pool will likely be limited to those buyers who have all cash. If you do decide to offer seller-financing as an option, consider requiring at least 20% down.

Conclusion

The notion of a zero-down payment on land is basically a myth. I have never seen a seller accept that in my career. Purchasing land with a low (not $0) down payment might be possible but not when a Realtor is involved in a transaction. Buyers who are seeking seller-financing, and want to consider parcels listed by Realtors, should be prepared to put down at least 20%.

No one likes to pay real estate closing costs. Buyers ask me: Isn’t the seller supposed to pay those? Sellers say: What are all these crazy costs – isn’t the buyer supposed to pay?

As a land broker, what fascinates me is that buyers ARE sellers. Sellers ARE buyers. Or they will be, in a few years, or on a different property. They’re the same people! Of course, when they switch sides, they will forget that they thought the other guy should pay.

So, who should pay for closing costs? My answer is: It’s negotiable. But it is generally unwise to negotiate! Regardless of the side you’re on, agreeing to split costs is in your enlightened best interest.

But first, what are “closing costs”? Let’s concentrate on the big ones and set aside the miscellaneous costs. The important closing costs in California are title insurance, escrow, and natural hazard reports. Three other cost items are also significant but not considered “closing costs:” back taxes, other liens, and the real estate commission. So, to discuss all the big numbers, I will touch on those too.

The negotiation on “who pays what” starts when the buyer submits an offer. The buyer proposes “who pays” in paragraph 3 of the standard California Vacant Land Purchase Agreement. The buyer makes their proposal by checking boxes.

There are two customary patterns for sharing closing costs:

First Common Pattern for Sharing Closing Costs

Split all closing costs 50-50 between buyer and seller like this:

The 50-50 split is the pattern I prefer. I’ll explain why below.

Second Common Pattern for Sharing Closing Costs

Another standard pattern is where the seller alone pays for title insurance, the natural hazard report, and miscellaneous costs. The buyer and seller divide the escrow fee 50-50.

The seller is responsible for delivering a clear title. Therefore, the logic of this pattern is that the seller pays for title insurance to show the buyer that the title is clear. Further, California law requires the seller to disclose any natural hazards. Hence, the seller pays for a natural hazard report to comply with the law.

This second pattern is typical for houses and condos in California, so it is also often used for vacant land.

Who Pays Back Taxes, Liens, and the Commission?

Now consider other big-ticket items: back taxes, liens, and the real estate commission. These are not considered “closing costs.”

The boilerplate language says the seller will pay for those items:

Paragraph 16B says, “Title is taken in its present condition … except for…monetary liens of record …. Seller will take any necessary action to deliver title free and clear of such lien….”

Paragraph 20 says, “The following items shall be PAID CURRENT … real property taxes and assessments….”

Further, the seller likely signed a separate listing agreement with his agent, agreeing to pay the entire commission, including the buyer’s broker commission. This will change with the recent National Association of Realtors legal settlement, but at this writing, the seller generally pays all. Ask your Realtor what the current customs are in your market.

So, the escrow officer will deduct liens and back taxes from the seller’s proceeds. Escrow will also likely deduct the commission from the seller’s side.

Because these items are not considered “closing costs,” there are no checkboxes for them in paragraph 3 of the agreement.

Let’s summarize. Unless there is some agreement to the contrary, the seller will pay back taxes, liens, and (probably) commissions. The buyer will not pay for these.

Asking Sellers to Pay for Everything and the Kitchen Sink (and There is No Kitchen)

Buyer’s agents occasionally check every box in paragraph 3 and ask the seller to pay for all!

They write that they want the seller to pay for a well test, and sometimes they ask for that when there is no well! They also want a perc test, the corners marked by a surveyor, and this and that. Offers where they throw it all in and see what sticks are usually prepared by an agent accustomed to selling houses, not land.

When receiving an offer like this, it’s best to take a deep breath and pull out the counteroffer form.

While all items are negotiable, it is not customary for sellers to arrange or pay for “extras.” I generally advise my sellers to decline to pay for these items.

When sellers decline to pay, it is still customary to allow buyers to perform any surveys or inspections they care to do. So sellers, if you receive an offer asking you to pay for everything and the kitchen sink, prepare a polite counteroffer. State what you will and won’t do and what you will and won’t pay for. Invite the buyer to arrange and pay for any due diligence they care to do.

Buyers and Sellers View Not Sharing the Cost Burden as Unfair

Buyers dislike it when sellers ask them to pay what they perceive to be the “seller’s” costs, and sellers hate it when asked to pay what they think are the “buyer’s” costs. If asked to carry the other person’s load, each party will think the other is an unfair meanie or a trickster. They will think you’re trying to slip costs into the fine print, which will affect the success of the negotiation.

The parties are likely to be far more accepting of negotiation on price. Buyers understand and accept that sellers want the highest price possible. Buyers may even be a little sheepish. They may be worried about submitting a low-price offer and nervously awaiting the seller’s counteroffer on price. Further, sellers understand the reality that buyers want the lowest price possible. The other party is unlikely to be perceived as “unfair” or “mean” simply by counteroffering on price.

Thus, it is in the best interest of both parties to accept the costs of transferring real estate. Negotiate only on the price.

Advice to Buyers

You should propose to split all closing costs with the seller 50-50, consistent with pattern 1.

Why?

Keep your end goal in mind. As a buyer, you want the seller to accept your offer as written without a counteroffer, right? You also want the seller to accept it before another buyer submits a higher offer, yes?

If you ask the seller to pay for all costs on some items, consistent with pattern 2, the seller may wonder if this is customary. He may phone Aunt Bessie, who was a real estate agent in South Dakota back in 1940. He will ask her whether she thinks this is fair. He may email Cousin Bernie in Long Island, who recently sold his house, to see what closing costs he paid. He may communicate back and forth with his agent on how to respond to your offer. He may request an estimate from escrow to see how significant of a hit all these costs will be.

All this flagellation takes time. The risk of time passing is that another buyer may appear on the scene in the interim.

The annoyed seller may give you a counteroffer on who pays what closing costs. The seller might reason that as long as he is countering on closing costs, he might as well ask for a higher price, too. After all, no extra effort is required to slip the price into the same counteroffer. Suppose you, the buyer, are not offering full price. In that case, the seller may factor in your unequal cost-sharing proposal and “take it out on you” on price.

As a buyer, you want to fly under the radar. You want your first proposal on how to share closing costs to seem fair and reasonable. You want the listing agent to take your offer to the seller and describe it as “clean.” You hope the agent will recommend that her client accept it as written. The best way to increase the likelihood of that is to propose sharing all costs 50-50.

Here is an example illustrating the issues: California land buyer Sally calls her agent. She wants to submit an offer of $13,000 on another agent’s land listing priced at $13,000. Sally’s agent reminds Buyer Sally that she must also pay closing costs. Her part of the closing costs would be approximately $850. Buyer Sally replies that she only has $13,000 and does not have $13,850. Buyer Sally wonders aloud whether she should ask the seller to pay all closing costs. The wise agent recommends that Sally not do that. She suggests that Sally submit an offer at $12,000 and offer to pay half of all closing costs. Sally does that. The seller counters at $12,500, Buyer Sally counters at $12,150, and the seller accepts. Sally pays a price of $12,150 plus $850 in closing costs for a total of $13,000. Both the buyer and seller are happy.

Now imagine if Buyer Sally had submitted an offer at $13,000 and asked the seller to pay 100% of closing costs. The seller would be pleased with the full-price offer, but he might have countered by asking Sally to pay her own darn closing costs. Then Sally would have had to back-peddle on her offered price to afford her part of the closing costs. The seller would have felt annoyed at Buyer Sally for walking back on the price, and the deal might have fallen through.

This hypothetical example demonstrates why buyers should offer to split closing costs. That way, the buyer and seller can negotiate on one thing, price, not two things, price and closing costs.

Advice to Sellers

You should agree to either of the two cost-sharing patterns described above. Both are common and customary.

If the offer is less than full price, do not negotiate closing costs—negotiate on price only. Why negotiate two things (price and closing costs) when you can negotiate one thing (price)? It all comes out the same in the end, anyway. Don’t nitpick over details.

Here is an example: Seller John has his parcel listed for $100,000. Suppose Buyer Mark offers $70,000 and proposes that John pay most of the closing costs. Seller John will be tempted to reply, “Well, I’ll accept Buyer Mark’s (low) price if Mark pays 100% of all closing costs. But, John’s savvy agent knows that Buyer Mark may balk at a request to pay what Mark perceives as Seller John’s part. The negotiation will become all about the principle of the thing. If John were to pay the bulk of the closing costs as the buyer requested, his costs would be $3000. So, the listing agent advises John to give Mark a counteroffer of $75,000 and agree to share closing costs as proposed. Buyer Mark feels the counteroffer is quite reasonable in light of his low offer. He accepts the counteroffer. Seller John admires his competent agent, whose advice got him more money than expected. Both the buyer and seller are happy.

Advice to Agents

As a good fiduciary, you’re likely thinking that when you represent sellers, you want the buyers to pay, and when you represent buyers, you want sellers to pay. Remember, though, that you don’t want to win the battle on closing costs only to lose the war on price.

A good fiduciary should tell both buyers and sellers that they should carry their own weight.

Don’t sweat the details on closing costs. Negotiate only on price