If you’re new to the home buying process, you may be a little surprised at the fees and costs you pay over and above the cost of the home. Unbeknownst to ill-prepared home-buyers, there’s actually a good amount of money that will be due when you’ve finally “closed” on the home. These fees are aptly named, closing costs.
Closing costs can range anywhere from an additional 1% to 8% of the home value, but usually fall in the range of 2%-3%. Closing costs can usually be found on a Hud-1 Settlement Statement which is provided by your lender when you are ready to close on a house. Closing costs pay for a variety of services and the most common ones include:
- Fees for the origination of the loan
- Handling the paperwork for the title company
- Having the local government record the deed
- Paying for a surveyor of the property
- Inspection fees
- Attorney fees
- Appraisal fees
So now that the buyers of the world know what they are in for, let’s look at several strategies that can help you finance and/or lower the closing costs on your next home purchase. As a buyer, you have a few options available to you in how to handle your closing costs (If you can’t afford to pay them up-front) and the four most common and effective ways are:
1. Roll the Closing Costs Into the Mortgage: Assuming you’ve located a home for $200,000 and have $20,000 cash available for a down payment, that means you’re on the hook with your bank for a $180,000 mortgage before closing costs. At 5%, the closing costs on your home would end up being an additional $10,000. Because your cash reserves were unloaded on a down payment, you can request that the bank add this additional cost to the mortgage. Rolling the closing costs into the mortgage does two things for a home buyer, one good, one not so good. First, it alleviates any pressure to come up with additional funds at closing. Second, and not so good, it adds a nice chunk of money to the monthly payment of a mortgage. When you consider the life of the mortgage, adding another $10,000 can cost you a total of $30,000+ by the time your mortgage has been paid off (based on a 30 year mortgage with a moderate interest rate). But if you are strapped for cash, financing the closing costs may be your best option.
2. Roll the Closing Costs Into the Mortgage With a Sellers Concession: By asking for a seller concession, a buyer and seller would over value the price of the home by about the same amount of the closing costs. In doing this, the mortgage the buyer will be taking out is going to be higher, but the seller will give the buyer the additional overvalue amount in cash. So using the same example above, the value of the home is now $210,000 with the additional 5% added. The 10% down payment required now is $21,000 making the total cost of the mortgage $189,000. The extra $9,000 that was added to your mortgage will now be given to you in cash by the seller so you can pay the closing costs.
3. Negotiate the Closing Costs Into the Asking Price– The most rewarding thing a buyer can do to lessen the burden of closing costs is negotiate them with the seller, usually by lowering his or her offer. If you’re buying a house that has been on the market for a long time, there’s a very good chance the seller will work with you because you’re the best shot they have in selling their house. This doesn’t mean that you can demand the payment of all closing costs, but if you are a good negotiator, you should be able to have a significant portion of the closing costs covered by the seller. Whatever costs you cannot agree upon can be rolled over into your mortgage.
4. Get the Lender to Pay Your Closing Costs – While it’s rare these days, you might be able to have the lender cover some of the closing costs on your new home purchase. In return you can expect the interest rate on your loan to be increased 25 to 100 points, meaning that once again, you are going to pay a lot more than the closing costs over the terms of your mortgage.
Unless you can get the seller to pay part or all of the closing costs, you are setting yourself up for a very heavy addition to your mortgage. Try to save enough cash so that a down payment doesn’t mean you can’t afford to pay closing costs up front. Before deciding on a mortgage, ask multiple lenders for a good faith estimate on the amount of your closing costs so you can act appropriately. Closing costs are nothing to be scared of.