Cathy is a young, intelligent, single woman who can't quite believe what happened to her,
and all of it so quickly. It was only two years ago that Cathy had qualified for a mortgage
and paid the downpayment on her dream home. A tiny but perfect little house not too far
from where she worked. She had been hearing about foreclosures and mortgage issues for
a while but never believed that the warnings applied to her. All that changed when Cathy
got laid off. Losing her job left her floundering. Her unemployment check was hardly
enough to cover her mortgage and she still had bills to pay and a household to run. She
began to struggle to make ends meet and her monthly mortgage payments were made late.
As a result, late fees were promptly applied and the balance due began to rise. After three
months of missing her payments, the bank sent her a notice that it would begin foreclosure
proceedings. Left with no alternatives and little money in her account, Cathy’s precious
home was taken away from her and she is now left with nothing.
This is just one of the many personal stories of lives affected by foreclosure. When you buy
a home, the last thing you think about is having it taken away from you in such a cold,
impersonal manner. But, as delinquent mortgage payments increase, foreclosures on these
properties increase as well. There are many ways to prevent this from happening, but to do
so we must start from the beginning: from deciding to buy a house, to managing finances
and handling the purchase, and to the legalities involved in the buying process.
The pros and cons of buying vs. renting
You have finally decided what type of housing fits your needs. The next big question you
have to ask yourself is: do you rent or buy? As expected, there are a numbers of reasons both
for and against each option. Let's take a look at them:
When starting out on your own, renting seems to make the most sense. When you are young,
or have no immediate plans to start a family, renting might be your best option. There are
rental complexes that offer amenities such as swimming pools, tennis courts, maintenance
staff and even laundry units that can save you time and money. Renting also offers more
flexibility like the ability to relocate more easily. Leases for renting (between the landlord
and yourself) give the renter more mobility and are easier to get out of. With most leases,
you can pay a penalty and “buy out” of the contract in case you need to move before the end
of the lease period.
But the biggest advantage to renting is that it rarely requires a large downpayment of cash.
Most landlords will require a security deposit (of about 2 months rent) but this is still less
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than the downpayment required when purchasing a house. Utilities might also be included
in your rent, further lowering your outgoing monthly payments.
On the other hand, renting offers no control over the
property. With regard to repairs, redecorating and
upkeep, you are in the hands of the owners or
landlords. The owner might not be prompt in dealing
with any repairs (from plumbing to broken windows)
or you might be forced to stay in unpleasant or unsafe
conditions that are beyond your control. There may
also be restrictions on pets or visitors, for example,
that could be a problem. Finally, as a renter you do
not build any equity. At the end of the day, the
property is not owned by you and you receive none
of the tax benefits of owning a home.
Buying a home gives a sense of freedom for many.
There is the freedom to decorate, the security and independence associated with owning your
own home, and the pride that comes along with it. There are also several financial benefits
related to home ownership. You can build equity and take advantage of tax benefits like
interest and property tax deductions. As you pay off your mortgage through regular monthly
payments, you are slowly gaining more and more equity or cash value in your own home.
On the downside, selling a house is often complicated and you can rarely just pack your bags
and leave as you might have done while renting. Finalizing a sale depends upon factors
such as what type of house you own, property values and upkeep in your neighborhood, and
what the market conditions are at the time. In all, selling a home can be a time-consuming
and frustrating process.
Owning your own home also brings with it responsibilities like maintenance and upkeep that
require both your time and money. Even redecorating can add significantly to your expenses.
Armed with these pros and cons, you can now sit down and organize your thoughts on paper:
• What are your costs, up front?
Renting– how much is your deposit and rent due for the first month?
Buying– how much is the downpayment required and agent fees, if applicable?
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• What are your monthly costs?
Renting– what is the monthly rent and cost of utilities if they are not included in the rent?
Buying– what is the mortgage payment per month, escrow amount for taxes and insurance,
homeowner's association dues, and cost of utilities?
• What type of housing can you afford based on your income and other outstanding debts?
This should give you a good idea of whether you should buy or rent, and what you can
realistically afford, before taking the next step. There is no perfect choice, just one best
suited for you at the time. Keep in mind your career, your income, how often you travel (or
relocate), and your personal relationships before you reach any conclusion.
How can I tell when I am ready to buy?
Buying your own home is a dream for many people, but how can you tell when you are
ready to buy? If you visit a real estate agent or mortgage lender, the odds are that they will
convince you that the payments are within your
reach and encourage you to go ahead and buy.
But often what seems manageable on paper
becomes more difficult in real life. Only you
know your financial status and your real
spending habits. Before you begin looking for a
home, or even approach an agent, read on to see
if you are ready to buy.
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You will first need to review your financial situation. Calculate your income, all of your debt
and your Debt-to-Income ratio. Most lenders will require this information. This is the time
to approach the three credit bureaus for your recent credit reports and review your latest
credit scores. If you find anything unfavorable in these reports that can be fixed, try to
resolve these issues promptly. If, however, you have a history of late or missed payments,
now may not be the best time to apply for a mortgage loan. If you have a below average
credit score, you may not be approved, or you may pay a higher interest rate on the loan that
will make a huge difference on the total amount you pay for your home overall.
You may be ready to buy when:
• You have been employed in the same job for the last two years and have a source of
income that is reliable.
• You plan to stay in a particular city for a while. Moving costs and selling your home again
can mean more expenses in the long run.
• Your credit score is good.
• You can manage your other debts along with the new monthly mortgage payments.
• You are in control of your spending and handle your finances responsibly.
• You have access to a lump sum of money required for the down payment and closing costs.
• You have accounted for additional costs related to maintenance, insurance, taxes, etc.
• If you are married: you and your spouse have enough life insurance to pay your mortgage
in case one of you passes away.
• You do not foresee any major lifestyle changes or cost-cutting in order to meet your
• You have thought about the repercussions and expenses in case your family grows in size.
• You have a clear idea of future expenses whether it is a retirement fund for you and your
spouse, an education loan for your children or even the cost of a wedding.
If these items describe you, now might be a good time to explore buying a home.
Now that you know you are ready, the next steps involve consolidating your financial
position in order to avoid any problems later on. These include:
• Increasing your credit score - aim to clean up your credit history and fix any problems on
your reports, if possible.
• Look for a house you can really afford – not just one you want. The general rule of thumb
dictates that an affordable cost of a house is one that is about two and a half times your
annual income. You could also use one of the many online calculators available to estimate
4 Chapter 7
• Make provisions for the down payment needed – this is approximately twenty percent of
the total cost. In case you do not have this amount easily available, there are some lenders
that offer mortgages with smaller down payments if you qualify.
• Opt for professional help – ultimately, you will need professional assistance in closing
your sale. Start looking for an agent, whether online or through referral of others as soon
as you have made the decision to buy.
• Get pre-approved. Pre-approval for a loan can save you time and effort and put you in a
better negotiating position to buy the right house. This pre-approval entails a lender
checking your income, credit history and all your debts.
While owning your own home means no longer having to pay rent, it also comes with a host
of responsibilities and financial decisions. Before taking the next step, think carefully once
again and make an informed choice.
Calculating what you can afford
You have looked high and low and finally found the house of your dreams. It's the right size, in the
right location and you hope, available for the right price. But the real question is whether you can
actually afford it. There are a number of factors that go into answering this question. And, just
because your agent says you can, it doesn't necessarily
mean you should. After all, buying a house is only one
part of your entire financial picture. You have other
expenses as well, including day-to-day spending,
education loans, car loans, retirement funds, and
insurance costs among others. Spending all your income
on a house, no matter how perfect it seems, is not the
wisest thing to do and is often a recipe for disaster.
The following are some easy guidelines to determine how much you can afford and what
you should be spending on your dream home.
• Get real - to save time, money and heartache, it pays to be realistic when looking for a
home. Do the groundwork before you start looking. Get estimates from various agents and
lenders and get pre-approved for a loan. You can then figure out what loan amount you
can qualify for.
Most lenders will take two ratios to assess your qualification for a loan. The first is your
Debt-to-Income ratio. Here, the sum total of all your debts should not exceed 38% of
your gross income. Secondly, lenders calculate the ratio of your total monthly housing
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costs with your monthly gross income. These housing costs include your mortgage
Principal, Interest, Taxes, and Insurance (PITI). The ratio should ideally not exceed 28%
of your income.
However, if these ratios do not match your financial profile, don't lose hope. There may be
programs specially designed for consumers with poorer credit or who fall within a low
income bracket that can help you obtain an affordable mortgage. Knowing which loans you
can qualify for will help you further narrow your search for the most affordable house for you.
• Beware of ALL the costs - If you think that there is no difference between the cost of
buying a house and the cost of owning a house, think again. There is a lot of money that
goes into purchasing your home, the sale price being only one factor. First, you will have
to pay a downpayment (approximately 20 percent of the total cost). If you pay less than
20 percent, you will have to pay for Private Mortgage Insurance (PMI) that protects the
lender in case you default on future payments. Add to this the closing costs (2 to 5 percent
of the sale price), which include inspections and lawyer's fees. Let's not forget what you
will pay for renovations, redecorating and maintenance if necessary. So, be aware of the
incidental expenses when you decide to finally buy a home.
• Plan for the future - In addition to your monthly mortgage payments, factor in future
expenses such as property taxes, insurance, maintenance costs, household expenses
(keeping in mind inflation), education loans, recreational expenses, car loans, retirement
funds, and your savings. At the end of the day, you need to make a call – a bigger mortgage
and a serious lifestyle change, or a smaller mortgage and the same standard of living to
which you have become accustomed.
What you pay to buy a home
• Down payment
• Mortgage principal
• Mortgage interest
• Homeowner's insurance
• Closing costs
• Private Mortgage Insurance (if you pay less than 20% of the downpayment)
• Property taxes
• Moving expenses
• Maintenance and utilities costs
• Renovation and repairs costs
• Redecorating costs
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These general rules and guidelines will give you an estimate of how much you can truly
afford when buying a home. There are a number of online calculators that can help you
reach this information as well. A financial planner or a housing counseling agency is also
an effective option when looking for unbiased, well-informed advice.
How do I start the process?
For many, buying a home is a nerve-racking process. Full of legalities and paper work, it's a
daunting prospect that can put you on an emotional roller coaster. This is a normal reaction, so
do not worry. Take things step-by-step and you will be even closer to becoming a home-owner.
Step 1: Get things started
Learn all you can about the homebuying process. Research the Internet and look through the
classifieds to check out what houses are on sale in the area of your choice. Drive around and
narrow down the localities you are interested in. Register with a housing counseling agency
for more information on the process and to get professional help to guide you through. Get
your finances in order. Apply for your credit reports and get pre-approved for a loan. This
is also not the time to make any big ticket purchases on your credit card or to change jobs.
A steady income and a good credit history is what will get you the best interest rates on
your home loan.
Step 2: Search for a home
Go ahead and begin your hunt for your perfect house. Drive around different neighborhoods,
get a feel for the location, speak to people, attend open houses, take photos and organize your
comments and questions about each of your potential choices. Make a checklist of what
you are looking for in your new home (see box below). You could also enlist the help of a
real estate agent to make your choice more informed and less stressful.
Questions to ask yourself:
• Why are you buying a home?
• What features are you looking for?
• Should it be close to work / school / shopping?
• What type of home suits your requirements?
• What size home do you need?
• What condition is it in?
• What kind of neighborhood are you looking for?
• What are the applicable taxes on your new home?
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You can start searching by looking for yard signs as you drive around, through the classifieds
of the newspapers or home magazines, on the Internet, or by attending open houses that are
Step 3: Time to make an offer
This is it. You have narrowed down your search and you are willing to make a formal offer.
But before you do so, first ensure that the house is being priced correctly. To make sure that
you are not overpaying, check out the Comparable Market Analysis (CMA) lists of recent
sales in the neighborhood. If you have an agent, they will do this for you. There are also
online appraisal services that can help you with similar information. Things to keep in mind
while making an offer include:
• Make all offers in writing. Don't accept anything verbally.
• Never offer full price immediately. Leave room for negotiation.
• Keep home inspections in mind. Your contract should have an 'out' clause in case of
irresolvable repair issues with the seller.
• Your contract should also cover you in case your loan or finance options fall through.
• To take care of such legalities, employ an agent or a real estate attorney.
Step 4: Home inspections
The next step after making your offer is to have the home inspected formally by a licensed
inspector. This will determine what repairs have to be made and what needs to be replaced.
A real estate agent will organize this inspection for you. If you are handling the purchase on
your own, make it clear in the contract who is paying for the inspection and who is
responsible for the repairs that are recommended. As
mentioned earlier, there should be a contingency clause to
void the contract in case the inspection reveals problems
that cannot be resolved between the seller and yourself.
Home inspection should include:
• Checking for termites
• Checking all plumbing for leaks, etc.
• Checking of all electrical connections – are they up to
code? Do the fittings all work properly?
• Checking the exterior for cracks and paintwork
• Checking the interior for leaks or structural damage
• Checking the condition of the roof
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• Checking all windows and doors to see if they are in good condition
• Checking if insulation is up to code
• Checking all appliances such as heating and air conditioning units
• Checking for the presence of Radon gas
• Checking if hazardous lead-based paint has been used (mainly with older houses)
• Checking for asbestos in floors and ceiling tiles. This is a health risk and needs
to be removed.
Step 5: Understanding the transactions involved
There are four basic transactions involved in the home buying process. They might seem
confusing at first, but with some guidance and information, it's not so difficult to
1. Title insurance
A title company is a neutral party that makes sure both parties stick to the contract and
exchange funds as agreed. It will also check the chain of previous owners (or titles) to clear
the property from any previous claims, pending mortgages, and unpaid taxes. These are
things, as a new owner may not be privy to, but they will affect your ownership. A deed in
such circumstances offers no legal protection thus, title insurance is recommended and
2. Home appraisal
In order to insure that the house you are buying is worth the amount the lender is loaning
you, they will hire the services of an appraiser. They might also require a location survey
to verify that the property is within the boundaries of the lot. The costs of both of these
reports are built into your loan costs.
3. Homeowner's insurance
No title deed will be transferred to you if you do not possess homeowner's insurance.
Homeowner's insurance will protect you against certain types of disasters as well as any
theft or damage to your property.
4. Escrow and closing
The final step to purchasing your home is known as the settlement or closing. A title
insurance company generally has an escrow agent to handle this process. The escrow
agent will check that the title concerned is “clean,” meaning that all transaction costs are
paid and monies are exchanged, and that the seller's mortgage has been paid off. The
closing statement prepared by the agent will clearly indicate who is paying what and
where the funds are going. However no money will be exchanged unless the checklist
of items is all taken care of.
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What types of assistance/loans are available?
In terms of housing, the loan that the bank or lender grants you is your mortgage (or note).
The monthly amount you pay the bank / lender is your mortgage payment and the rate of
interest is your interest rate or mortgage rate. If you don't make regular payments or default
on payments to the bank, the lender is fully within its rights to repossess your home. The
term of your loan indicates the number of years you will take to pay back the entire amount
(with interest). It is normally either 15 or 30 years in the US. A 30-year term is easier to
qualify for, with lower monthly payments, allowing you to have more liquid cash and
possibly purchase a more expensive house. But it obviously takes much longer to pay off
this loan. A 15-year loan, on the other hand, saves you a lot on the interest and can help you
pay off your loan in a shorter time. You have to choose between the flexibility of the 30-year
loan versus the short duration of a 15-year loan. This will obviously depend upon your
financial status and future commitments.
It is ultimately your lender's job to find the most affordable loan for you depending on your
requirements and qualifications. But, it is always wiser to be informed about the terminology
and “legalese” associated with the different types of loans available. Following are the
different types of loans and assistance available:
Conventional mortgages: This type of mortgage
offers a fixed rate for terms of 10-, 15- or 30-years.
With conventional mortgages, you may pay less
than the normal 20 percent downpayment required.
However, if you do this, you will be asked to pay
Private Mortgage Insurance (PMI) as well.
Adjustable Rate Mortgages: Unlike a fixed rate
mortgage where the interest rate stays constant for
the lifetime of the loan, Adjustable Rate Mortgage interest changes periodically depending
on an index. As a result, the payments may rise or fall with the index. Initially, the interest
rates with ARMs may be much lower, but you will have to weigh this against the risk of
higher and increasing payments in the future. If you know you are going to stay in your
new home for a short period of time, this type of mortgage may make sense. But, before
choosing an ARM, also ask yourself if you will be able to make the higher payments if the
rates increase or if there are any big ticket purchases that you plan to make in the future.
There are also several different types of ARMs available. For example, Hybrid ARMs,
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Interest Only ARMs, and Payment Option ARMs. There are a number of technicalities
involved in an ARM that will affect your monthly payments over the years. These include
the initial rate and payment (usually between one to five years), the adjustment period (the
period between rate changes), the index and the margin, which determine the interest rate,
as well as payment and interest rate caps. It is therefore advisable to seek professional advice
before deciding on an ARM.
Bridge Loan: If you are selling an old home to buy your new one, you might need a bridge
loan to tide you over until the old house is sold and your new primary mortgage is in place.
But make sure you can afford this, as there will be a time when you will be paying off two
loans simultaneously – your bridge loan and your current mortgage payments.
FHA mortgages: There are several advantages of a Federal Housing Administration loan
(FHA). These include lower downpayments (3% to 5%) and lower cash expenses during
closing as you can add many closing expenses into the loan. These can be easier to qualify
for, but the paperwork involved can be time-consuming.
VA Mortgages: Veteran Affairs (VA) mortgages are offered for a pre-determined amount
(not more than $200,000) and allow you to buy a home without any downpayment. The
primary guideline for this type of loan is that you are a Veteran or servicemember on active
duty or have a discharge from the armed services (not dishonorable).
Assumable mortgages: These loans stay with the property you are buying and are
transferred to the next owner. FHA loans granted before December 1, 1986 and VA loans
taken prior to March 1, 1988, are considered “assumable.'”
Balloon mortgages: If you are planning to sell your home in the near future and hope to
pay off or refinance your loan before then, a balloon mortgage might make sense.
This type of loan has a fixed rate for a certain period of time (generally seven years) after
which a lump sum or balloon payment of the pending balance has to be paid. The interest
rates on this type of mortgage are also lower than other conventional loans.
Department of Agriculture loans: The USDA offers a number of home loans to buyers in
rural areas who fall within the low-to-moderate income bracket.
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State / county / city programs: Call or check the website of your state / county / city
housing division, they can inform you about programs that will assist home buyers - some
that you may easily qualify for.
What to determine when choosing a mortgage
• What is the downpayment required?
• What is the interest rate and the Annual Percentage Rate (APR)?
• What are the closing costs (and any extra fees applicable)?
• Is there a possibility of your mortgage being resold on the secondary market?
What to do if you get into financial trouble / loss mitigation?
There are times in one's life when unforeseen circumstances arise. Even if you work hard
and make all your payments on time, situations such as illness, being laid off, marital
problems, an increase in your household expenses, or emergency repairs can affect your
ability to pay your debts. Even one of these situations can affect you making your home loan
payments and if these missed payments continue for a while (generally longer than three
months), you could be facing the prospect of losing your home. This is where loss mitigation
comes in. It is a process where a representative of the holder of the loan or a third party
agency tries to stop the foreclosure before it takes place. A third party agent is often best
suited for this job because of the unbiased professional experience they offer.
It is through the joint efforts of the federal government and the mortgage industry that the
process of loss mitigation evolved. When too many homeowners found themselves losing
their properties due to default and delinquent payments, this program was created to work
with both parties concerned (the homeowner and the lender) in order to reach an alternative
The main goal of loss mitigation is to help the owner keep his or her home. Options such
as loan modification plans, renewed repayment plans, partial payments, and an extension of
the loan could be employed. If all this fails, then every attempt to get the best price possible
for the house is made, before the loan foreclosure begins.
Here are some of the different types of loss mitigation options available:
• Loan modification – Here, the mortgage is modified and new terms are drawn up between
the lender and the owner. These could include a new lower interest rate, smaller principal
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balance, drawing out the term of the loan, waiving of late fees, and fixing adjustable rates.
• Short sale - If the owner's mortgage is more than the property is worth, a short sale
could be helpful. To assist the owner in selling the home at the actual market value,
the lender might accept a payoff that is lower than the principal balance of the original
• Short refinance – Reducing the principal balance of a mortgage can also allow the owner
to refinance the loan with a new lender.
• Deed In lieu – This will not apply if you can still meet your payments. However, if there
is no other option, a Deed In Lieu of foreclosure (DIL) allows the owner to put up
collateral property and, as an exchange, he or she is released from the standing obligations
of the current mortgage.
Knowing your rights in matters of default payments and foreclosure is of extreme
importance. At the end of the day, lenders want to keep you in your home and it is your
responsibility to prove to them that you will live up to your part of the bargain. Loss
mitigation helps to work out a mutually sustainable solution and prevent further losses and
financial burden in case of foreclosure.
When you signed the agreement with the lender who loaned you the money to buy your
home, you agreed to pay back the loan in a series of pre-determined monthly payments over
a fixed period of time. If you miss these monthly payments, (often for even as little as three
months), this will be considered a delinquency. The bank or lender is fully within its legal
rights to start the process of foreclosure on your home and take ownership of it. Your lender
will start the proceedings by sending you a notice but there is no need to wait until that
happens to start being pro-active and preventing the foreclosure. If you find yourself having
trouble meeting your monthly mortgage payments, it’s time to take stock of the situation and
avoid a financial crisis.
There could be a number of reasons that cause you to default on your payments. These
could include losing your job, ill health or an injury, a divorce, the death of a spouse or even
a change in your financial picture. What often happens is that you are so involved in dealing
with this crisis in your life, the last thing you pay attention to is other responsibilities such
as paying off your debts. That is why it pays to plan in advance. You could speak to a
Chapter 7 13
housing counseling agency or look for professional advice to help get your finances back
on track before it's too late.
• The most logical solution to preventing foreclosure is to save money and reduce
expenses. Put away a certain amount every month in an emergency fund that can help
you in times of crisis. Also, cut down unnecessary spending to the bare necessities, if
• If you still find yourself struggling to make ends meet, speak to a loss mitigation
consultant as soon as possible to help you negotiate with your lender until you get back
on your feet.
• Always be honest. Don't ignore any notices in the hope that the problem will go away
because it won't. Discuss your situation openly and don't hide any information from your
lender or your counselor. If your lender feels that you are making every effort to pay back
your loan, they might be more lenient in the way they decide on the consequences of your
default. Communication is imperative.
• Make sure you know exactly what is owed and to whom. Give your mortgage the priority
it deserves and act accordingly.
• Work with your housing counselor to draw out a workable household budget that you
can stick to. Take stock of all your assets such as investments, insurance and jewelry.
These could help you through the crunch if necessary.
• Remember that even if you are a month overdue on your payments, you will end up
paying a late fee as well as interest. Keep this in mind when calculating what you owe
your lender and budget accordingly.
• If there is no other option but to sell your home, look at your options to minimize losses
in such a transaction. Sell before the foreclosure process starts to get the best price possible
without legal intervention and having it showing up on your credit report.
The most important thing when facing foreclosure is to never lose hope. There are a number
of alternatives and solutions out there that can help you – as long as you are willing to make
the necessary changes to improve your life. Keep in mind that your lender only wants its
money back and they would rather avoid going through the complicated foreclosure process.
14 Chapter 7
If you continue to be positive and look for ways to deal with the crisis, there is a chance that
you might be given another opportunity to deliver on your promises and save your home as
well. Be informed, understand the situation, take professional advice, stay honest, and think
positively. It can be done!
In this chapter, you learned:
• When it's better to rent and when to buy.
• How to review your financial status and determine whether you are ready to buy a home.
• The costs that go into buying a home.
• The step-by-step process of buying a home.
• The different types of mortgages available that will help you close the deal.
• How a loss mitigation specialist can help you out in case of financial trouble.
• The preventive steps to take to avoid foreclosure.
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CHAPTER – VII