Put simply, escrow is used to make sure the funds of a real estate transaction change hands at the moment of a closing. That is not the legal definition of escrow, but it is the underlying reason to use escrow. If you are a buyer, you want your funds in the seller’s account only once the deal closes – not before. If you are a seller, you want your money when the deal closes, not later. An escrow company is the neutral entity that holds the funds until the closing is completed and disburses the funds.
So, is escrow required in Mexico to close a real estate transaction? No, but the smart and logical answer is: “Why would I do it any other way?” Today we are seeing more and more real estate transactions require the use of escrow.
The use of escrow in Mexico was “imported” from the U.S. as a safe and efficient manner to transfer funds between a buyer and seller. Prior to the use of escrow, it had been common in Mexico for buyers to directly give sellers down payments on property of between 10% – 30% of the total sales price upon the signing of a simple preliminary purchase and sales agreement. These down payments would go right into the account of the seller, prior to the beginning of any closing procedures or any due diligence being conducted. This business practice works, as long as there are no issues or problems with the transaction. However, when problems arise during a closing procedure and the seller has the buyer’s money, a request for a return of funds can become problematic.
“Escrow takes this risk out of the equation. Any down payments are put into an escrow account which no party unilaterally controls. Buyers and sellers using escrow are more motivated to close a deal and therefore more attentive in getting any details resolved that could hold up the closing.”
When escrow is not used, and a seller has 10% – 30% of the buyer’s money, a seller can be less motivated to clear any title or closing issues. Unfortunately, we have often seen buyers having to clean up a seller’s title issues when escrow is not used. The options of the buyers in these cases are to 1) pay to clean up the seller’s title issues, 2) walk away from the down payment, or 3) file a lawsuit. In most cases, buyers find that it is more economical to clean up the title. When funds are in escrow, the seller has to make sure his title is in good standing and the deal closes prior to receiving any funds.
Sellers also like to see that buyers are serious by depositing funds with a reliable escrow company, which often goes towards the purchase of a property, or in the case of default, serves as a contractual penalty. Buyers also do not have to worry about sellers keeping the down payment and then not selling the property.
The use of escrow in Mexico is relatively new, and until recently not commonly accepted by real estate professionals. In recent years, brokers and agents have seen the benefits of using escrow. The use of escrow motivates both the buyer and seller to move efficiently through the closing process. Furthermore, brokers and agents know that when a deal closes, their clients will get the deal they agreed to, and importantly, the agents will get their fees. Prior to the use of escrow, brokers and agents had real risks of non-payment when funds went directly from the buyer to the seller. Too often sellers would want to renegotiate the agent fees after the deal was closed, which left the agent having to either agree to take a lower fee, or file a lawsuit and be out of pocket for the legal costs.
Since escrow is not regulated in Mexico, what should a buyer and seller be looking for in selecting an escrow company for their purchase and sale of real estate in Mexico? The following are the most common questions regarding the use of escrow:
1. How do I know if an escrow company is trustworthy? This is the most important question. Make sure your escrow company has been in the market for years and be willing to provide you with references.
2. Are the escrow companies in Mexico regulated and insured? Mexico-based escrow companies are not regulated by Mexican law. U.S.- based escrow companies that provide services in Mexico are usually regulated by the laws of the State of domicile. Regardless of using a Mexico-based or U.S.-based escrow company, ask to see their insurance policies for Error and Omissions, Crime and Cyber Fraud coverages. Call the insurance provider and confirm that the policy is valid and up-to-date. If the escrow company is not insured, or you cannot verify their insurance, this should be a red flag.
3. What information does a buyer and seller have to provide to the escrow company? The escrow company will ask you to fill out a “KYC” (know your client) form. U.S. and Mexico escrow companies will each have different forms and requirements, and usually the Mexico KYC form is more extensive than the U.S. form due to strict and complicated anti-money laundering laws in Mexico. Besides the KYC, the escrow company will want to see the identifications of the parties and also have a copy of the purchase and sales agreement between the parties.
4. Can I ask the escrow company to modify the terms of the escrow agreement for specific conditions or terms? Most escrow companies prefer to use their standard forms, but should be willing to make minor changes to clarify the terms and conditions of the release/disbursement of the escrow funds. Escrow companies do not negotiate the terms of purchase and sales agreement between a buyer and seller. The escrow agent’s job is to verify that a deal closes and disburses the funds per the instructions of the parties.
5. What happens if a buyer and seller have a dispute regarding the sale agreement? If a dispute arises between buyer and seller over the terms of the sale agreement, most escrow companies will try to assist with dispute resolution to the extent legally possible. This is not an obligation of the escrow company, however. If the buyer and seller cannot reach an agreement, an escrow company may “interplead” the escrow funds assuming that the escrow agreement is governed by U.S. law. In short, the escrow company will turn over to a court the escrowed funds and when the dispute is resolved, the funds will be released from the court.
6. Does the escrow company provide a closing statement? If you have bought real estate in the U.S. or Canada, you are familiar with receiving a closing statement from the agent or escrow company. This is not common in Mexico, however. Ask your escrow company to provide a closing statement. They should provide it to you.
7. Will the escrow company assist in exchanging currency if disbursements have to be made in different currency than the funds in escrow? Often an escrow in Mexico will be held in U.S. dollars, but some closing payments need to be made in pesos. Some escrow companies do provide exchange services while others do not.
David Connell is the Managing Partner of the Law Firm Connell & Associates and sits on the board of TLA International Escrow Services. For more information on escrow services in Mexico, email David at info@tlaservices.com.
