A property has annual property taxes of $3,600. The seller paid taxes through December 31, but the sale closes on October 1. How much does the seller owe the buyer as a proration?
Audio Lesson
Duration: 2:59
Question & Answer
Review the question and all answer choices
$900
$2,700
This option incorrectly calculates the buyer's share of taxes ($2,700 = $300 × 9 months) rather than the seller's credit for prepaid taxes. It represents confusion about who should receive the proration credit.
$0
This option suggests no proration is needed, which is incorrect because the seller has prepaid taxes for months they won't own the property. This represents a fundamental misunderstanding of proration purposes.
$300
This option incorrectly calculates only one month's worth of taxes ($300) instead of the three months (October, November, December) the seller has prepaid but won't use. It represents a calculation error.
Why is this correct?
CORRECT_ANSWER
Deep Analysis
AI-powered in-depth explanation of this concept
Proration is a fundamental concept in real estate transactions that ensures fair distribution of expenses between buyers and sellers when the property doesn't change hands at the beginning or end of a billing period. This matters because real estate transactions rarely align perfectly with tax payment cycles, and failing to properly prorate can lead to disputes and financial discrepancies. The question tests understanding of how to calculate a seller's credit for prepaid taxes when they no longer own the property for the full period. The core concept involves determining what portion of the annual expense the seller has prepaid but will not use. The reasoning process requires: 1) calculating the monthly tax amount, 2) determining how many months the seller has prepaid but won't own the property (October, November, December), and 3) multiplying the monthly amount by those months. This question is challenging because it requires understanding that the seller should receive a credit for the months they've paid but won't own the property, not the other way around. It connects to broader real estate knowledge of closing statements, escrow procedures, and the importance of precise calculations in financial aspects of transactions.
Knowledge Background
Essential context and foundational knowledge
Proration is a method used to divide property taxes, insurance premiums, and other expenses between buyer and seller based on the portion of the billing period each party owns the property. In California, prorations are typically calculated to the day of closing and appear on the settlement statement. The concept exists to ensure neither party pays more than their share of expenses. For property taxes, which are usually paid in arrears but often prepaid by sellers, the standard practice is to credit the buyer for prepaid taxes covering the period after closing. This is handled through an adjustment on the closing statement, with the seller typically receiving a credit from the buyer or the seller's account being debited accordingly.
Think of proration like splitting a pizza. The seller has paid for the whole pizza (annual taxes), but only eats until October 1st. The buyer eats from October 1st through December 31st. The seller should get credit for the slices they paid for but didn't eat (October-December).
When faced with proration questions, visualize the time periods like pizza slices - calculate what the seller has prepaid but won't consume.
For proration questions, always determine who prepaid and who should receive credit. Calculate monthly rate first, then multiply by the number of months the prepaid period extends beyond closing.
Real World Application
How this concept applies in actual real estate practice
In a November transaction, a seller prepaid their $4,200 annual property taxes in January. The closing date is November 15th. The listing agent must calculate that the seller has prepaid taxes for November 15th-December 31st (approximately 1.5 months). At $350 per month ($4,200 ÷ 12), the seller is owed $525 as a credit on the closing statement. Failure to properly calculate this could lead to the seller overpaying or the buyer receiving an unwarranted credit, potentially causing post-closing disputes between the parties.
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