Property tax proration is the process of splitting the annual tax obligation between the buyer and seller at closing based on actual days of ownership. For loan officers, understanding proration matters because it directly affects how much cash the borrower needs at closing and whether the lender's escrow analysis is set up correctly.
How Proration Is Calculated
The standard method divides the annual tax bill by 365 to get a daily rate, then multiplies by the number of days each party owns the property in the tax year. In states where property taxes are paid in arrears, the seller credits the buyer at closing for the portion of the year the seller owned. In states where taxes are paid in advance, the buyer credits the seller for the prepaid portion.
Impact on Escrow Setup
Lenders establish the escrow impound account at closing using the prorated tax credit or debit. If the seller credits the buyer for six months of back taxes, that credit typically flows into the escrow account at setup. If the credit is insufficient to fund the escrow to the required cushion, the borrower may need to bring additional cash at closing. Underwriting reviews the tax line on the Closing Disclosure to confirm proper escrow setup.
MLO Errors to Avoid
- ✦Assuming the lender's initial escrow estimate will account for the tax credit automatically, when in fact the closer must apply it correctly on the CD.
- ✦Missing the difference between assessed value and market value in states where re-assessment happens post-close.
- ✦In high-tax states like New Jersey, Illinois, and Connecticut, a post-close reassessment can increase the escrow payment significantly beyond the initial GFE estimate.
Aria can explain proration calculations, escrow setup rules, and state-specific tax payment cycles for any transaction. Ask at vicariointel.com.
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