What Are Arrears in Real Estate?

When buying or selling real estate, a number of terms commonly are used during the transaction. Understanding the meaning of those words and how they apply to the business of real estate will make you an informed participant in the transaction. One such term is arrears, which you may first hear during the escrow process or when you pay your property tax.

Negative Connotation

The term arrears can have a negative connotation. It generally means a past-due debt. For example, if you have a bill that is due the first of the month, and, at the end of that month, you haven’t yet paid the bill, you are in arrears with that account. If you fail to pay a payment when due, you are in arrears.

Non-Negative Connotation

In real estate, the term arrears is not always negative in connotation. It can apply to billing a period after the period expires. Billing in arrears, in this instance, does not mean the payment is delinquent. In essence, the consumer receives the service before billing occurs. Borrowers typically pay monthly mortgage payments in arrears, as each payment includes interest charges for the previous month. While a current mortgage payment is billed in arrears, it doesn’t mean the account is in arrears.

Property Taxes

One common real estate expense in which the term arrears may apply is in property tax. In some states, property owners are billed for the upcoming year while property owners in other states are billed in arrears. In states that bill in arrears, the taxpayer receives the property tax bill for 2010 in 2011. When real estate sells and goes into escrow, one consideration for the escrow officer is to calculate any property taxes already paid by the seller, or unpaid taxes, such as those billed in arrears.

Proration

After a seller accepts a buyer’s offer, the seller can enter into an escrow process, in which the buyer puts funds into a secure escrow account and the buyer and seller complete the terms of the purchase contract. It is typically the escrow officer’s job to make sure certain debts receive payment prior to transferring title to the buyer. This involves a proration process, calculating which party is responsible for which debt. In some instances, the buyer may be responsible for a percentage of the debt, with the seller responsible for the remaining portion. For example, for property taxes billed in arrears, the buyer may receive a credit, as the seller lived in the home during the tax period, yet because of the billing process, it is unpaid. In this instance, the seller is not delinquent in the tax bill.

References

• "Modern Real Estate Practice"; Galaty, Allaway and Kyle; 2006