Understanding Mortgage Closing Costs
Buying a home is an exciting adventure. It takes a lot of work to find the perfect place in your ideal neighborhood, and even more work to ensure your offer gets approved. While saving for a down payment is an essential part of being able to afford the house of your dreams, there are still other costs you need to consider. One of the most substantial additions to the final price of your new home is all of the various closing costs you’ll need to cover. If you don’t plan for these, you may need to adjust your down payment and find a home that fits within your new budget. However, when you know what to expect, you can be prepared to encounter a smooth closing without surprises. To help you get started, here is some information to strengthen your understanding of mortgage closing costs.
What are Closing Costs and Why Are They Important?
Many first-time homebuyers are surprised to find that there are a lot of hidden costs when purchasing a property. Unfortunately, these costs are all part of the process and while there are ways to reduce them, you will still need the funds to cover essential fees. Closing costs are one of the most substantial extra fees associated with purchasing a home. They are fees that cover the different services and legalities required to process your mortgage and finalize the transfer of ownership of your new home. While the closing costs are higher for the buyer, there are some costs that the seller is responsible for. Closing costs vary depending on location and loan type, so if you’re not sure what to expect based on your budget, it’s important to talk to your real estate agent early on to avoid obtaining a mortgage that you can’t afford.
Closing costs are a non-negotiable part of the homebuying process. They’re important because they ensure that everything is done legally and within the correct parameters required by the state and varying loan offices. Closing costs are what allow you to obtain a mortgage and without them, it would be extremely difficult—if not impossible—to purchase a home.
Typical Closing Costs to Expect
Closing costs must be disclosed and agreed upon prior to completion of the sale of a home. When you take all of the various fees associated with closing costs into consideration, they can reach up to 15% of the total property’s purchase price. This percentage includes both the buyer’s and the seller’s contributions toward closing, which is often discussed prior to finalization. In other cases, closing costs can be as low as 1% or 2% of the total purchase price of the property. Both of these instances are extremes and not a representation of the average closing costs that buyers face. More reasonable expectations are for buyers to pay between 3% and 6% of the total property price. You will know what your closing costs are once you go over the purchase agreement with your real estate agent and lender. Your closing costs do not include your down payment.
Different Fees Associated with Closing Costs
Closing costs are comprised of various different fees and taxes that are needed to pay parties involved in the finalization of your mortgage and transfer of property. Due to the complexity of real estate transactions, closing costs are necessary to ensure that everything is done correctly and without problems. State-by-state closing costs vary, but some of the different fees that are included are as follows:
- Application Fee
- Appraisal Fee
- Origination Fee
- Closing Fee
- Attorney Fee
- Courier Fee
- Credit Report Fee
- Insurance Premiums
- Private Mortgage Insurance (PMI)
- Inspection Fees for Flood Damage, Lead-Based Pain, Pest Inspection, and a General Home Inspection
- Homeowners Association Fee
- Homeowners Insurance
- Title Fee
- Lender’s Title Insurance
- Owner’s Title Insurance
- Interest Charges
- Property Tax
- Real Estate Commission
- Recording Fee
- Survey Fee
- Stamp Tax
- Underwriting Fees
All of the fees that make up your closing costs will be itemized on your loan estimate and in the disclosure. If you have questions or concerns, discuss them with your real estate agent before moving forward and signing any paperwork.
How to Reduce Mortgage Closing Costs
While there are a lot of closing costs that can’t be negotiated, there are some areas with flexibility. If you’re trying to reduce your overall mortgage closing costs, consider some of the following:
Evaluate Your Options
Different lenders and third-party services have different fees associated with their services. This includes your options for homeowner’s insurance, titles, loans, etc. Take the time to evaluate all of your options and compare fees across different lenders. While this requires more groundwork on your part, it can provide you with substantial savings overall. Rather than sticking with all the recommended inspectors and associated companies your lender provides, put in some time and effort and you’ll be rewarded with much lower closing costs.
Pay with Cash
While this isn’t an option for many people, if you can afford it, then consider buying your home with cash. This can drop your closing costs substantially as you won’t have to pay for a loan or any of the associated fees that go into processing a loan.
Aim for End of the Month Closing
Part of your fees include prepaid daily interest. To help reduce the overall closing costs, try to schedule a closing date that’s near the end of the month. This will reduce your upfront interest charges that are due, thus lowering your overall closing costs. Discuss your options with your lender to determine if month-end closing is possible.
Discuss Your Options with the Seller
When a home has been on the market for a long time, the seller may be motivated to work with you to negotiate the purchase price so that it covers a portion of the closing costs. This is rare in hot markets—like the current state of real estate across the U.S.—but it’s worth a try.
Negotiate Loan-Specific Fees
Go over your lender contract in detail to better understand all of the small fees that are being added to your closing costs. You’ll want to ensure that there are no unnecessary items, often referred to as “junk” fees. Work with your attorney or real estate agent to better understand what’s being charged, avoid duplicate line items, and get the most out of competitive terms and rates. Some of the most important areas to double check include the application fee, underwriting fee, rate lock fee, loan processing fee, and broker rebate fee.
Avoid Mortgage Insurance
If you have enough money in your budget to put down a higher down payment and still cover closing costs, do it. When you make a down payment of at least 20%, most conventional mortgages don’t require you to purchase mortgage insurance. This can help reduce closing costs and added interest over time.
Roll Closing Costs into Your Mortgage
In some circumstances, the lender will pay your closing costs and add them to your total loan amount. This can save you a substantial amount of money upfront, but you need to consider the interest rates being offered for these services. A lot of lenders who offer to roll closing costs into the mortgage rate will charge higher interest rates to pay themselves for fees that they would have received during closing. Depending on the rate, you may end up paying substantially more for your closing costs over time and incur a higher interest on your mortgage in general. This should only be done as a last resort and be sure to discuss the interest rates prior to moving forward with this option.
While it is possible to reduce your closing costs when you purchase a home without a realtor, doing so can complicate the entire process and decrease your likelihood of being approved for the home that you love. Instead, work with a realtor you can trust like the ones at First Star Realty for all of your homebuying and selling needs. First Star Realty is committed to providing five-star realtor services to Northwest Arkansas. Our clients always come first, which is why we’ll be with you throughout the entire buying or selling process. If you’re ready to buy or sell a home, our team of highly seasoned real estate professionals are standing by to simplify and expedite the process. Call us at 479-267-1600 or fill out a contact form today.