Proration (Prorating Fees, Taxes, etc.)
One common type of math calculation that you will make as a real estate agent is called a proration. Proration for our purpose here is simply the portion or percentage that the buyer and seller pay/owe for various items at closing, such as HOA fees, taxes and fuel.
One common proration calculation is the HOA (Home Owner Association) fees that each the buyer and seller will pay at closing. Let’s look at an example:
Closing is May 15th and the HOA fees are $252 for the calendar year. They are based on the calendar year and have not been paid for the current year. The buyer and seller must divide up this fee by the amount of time each will be in the home for the current year.
Please note: I will use the “Bankers Calendar” which says that each month has 30 days and each year has 360 days (makes it much simpler to remember and was used in my own pre-licensing course).
So let’s break this down into smaller steps:
First let’s calculate what the daily expense is for HOA fees:
- Annual fee is $252 divided by 360 days = $0.70/day.
- Now we will calculate the number of days each party will owe for the year
- The seller will pay for HOA Fees from Jan 1st through May 15th (day of closing)
- The buyer will pay for HOA Fees from May 16th through December 31st.
How may days does the seller have to pay for HOA fees?
- January through April (30 days x 4 months = 120 days) plus the 15 days in May.
- 120 days + 15 days = 135 days
Now what about the buyer?
- May 16th through May 30th (30 days – 15 days from seller = 15 days) plus June through December (30 days x 7 months = 210 days)
- 14 + 210 = 225 days
So as a check, let’s make sure we did it correctly; 135 + 225 = 360 days in a year. Looks like we’re good!
The last thing to do is to multiply the days each person is responsible for by the daily rate:
- The seller owes 135 days x $0.70 = $94.50
- The buyer owes 225 days x $0.70 = $157.50
Now, let’s check the math to make sure that the total $252 get’s paid:
- $94.50 + $157.50 = $252.00, Yeah! I am all about checking the math to avoid errors.
Another common example of what prorations will be used for is calculating taxes owed. So let’s look at a tax example:
Let’s say that the property tax for a house is $1,620/annually and have already been paid for by the seller. Closing is October 24. Since the taxes have already been paid, the buyer will have to reimburse the seller for the taxes paid for October 25 through December 31st.
To start let’s calculate the daily rate:
- Taxes are $1,620/annually. So now we divide $1,620 by 360 days = $4.50/taxes per day
Now, how many days will the buyer own the home for this year?
- All of November and December (30 days x 2 months = 60 days)
- After closing on October 24th there will be 6 remaining days, October 25th through 30th (day of closing goes to the seller).
- 60 + 6 = 66 days
Now we multiply the daily rate of $4.50 x 66 days and $297.00 is what the buyer will pay at closing back to the seller for property taxes.
I hope this helps you better understand how proration works. If you have any questions please feel free to leave a message and I’ll get back with you soon.