Closing costs can keep families away from a mortgage. They cost anywhere from 2-5% of your loan amount. On a $200,000 loan, this means between $4,000 and $10,000! This is in addition to your down payment. There are ways you can lower these costs, though. Below we provide simple tips to make this possible.
Know What You Pay
You must know what you pay. Don’t take a lender’s word for it. Read the Loan Estimate closely. Any lender processing your application must provide this document within 3 business days. It shows you the breakdown of the costs of the loan. Read them carefully. If you don’t understand a cost, ask the lender.
Keep in mind, some lenders lump closing costs into one fee. For example, a loan origination fee could be 2% of your loan amount. On a $200,000 loan, this means $4,000. This usually doesn’t include third-party charges, such as title fees, attorney fees, and appraisal costs. Ask for a breakdown of the fees before assuming you can afford any loan. There may be additional fees you don’t realize.
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Shopping around for the best mortgage is completely acceptable. You won’t ruin your credit by doing so. Just make sure you do it within a 2 to 3-week period. This way you can compare several loan estimates. This gives you a better idea of the normal costs for the area. If one lender has extraordinary costs while another doesn’t, something is off. Look at the big picture and determine which loan is right for you.
Know What Closing Costs You Can Negotiate
Certain closing costs are non-negotiable. Third parties provide the services and have fixed costs. A few examples include appraisal, title, and credit reporting fees. But, you can often negotiate lender fees. A few examples include:
- Origination fees
- Discount points
- Document prep fees
- Processing fees
In rare cases, you can negotiate your title fees or appraisal costs. You must provide your own title company or appraiser, though. If the fees the companies the lender uses are too high, consider negotiating the use of your own provider. Not all lenders allow this, though.
Take a Higher Interest Rate
This option doesn’t eliminate closing costs, but it eliminates the cash you need. Some lenders offer a no-closing-cost loan. In name, it sounds like you don’t pay closing costs. However, you pay them with a higher interest rate. Let’s say a lender offers a 0.5% higher interest rate in exchange for no closing costs. You then pay a higher payment every month. The lender still makes the same amount of money; it’s just spread over the life of the loan.
This situation may or may not make sense for you. Let’s look at an example:
Let’s say you borrow $200,000. With Lender A, you pay the closing costs yourself. It costs you $4,000 out of your own pocket, plus the money you put down on the home. The lender quotes you a 4% interest rate. This gives you a monthly payment of $955 for principal and interest.
Lender B quotes you a 4.75% interest rate with no closing costs. The only money you need at the closing is your down payment. Your monthly payment equals $1,043 for principal and interest.
This is a difference of $88 per month, $1,056 per year, and $31,680 over the life of the loan. That’s a big difference! The $4,000 in closing costs suddenly doesn’t seem too high.
When this might make a difference, though, is for borrowers buying for the short-term. If you move within 3 years, you make out on the deal. In this case, you only pay $3,168 extra in interest. This is less than the $4,000 closing costs. Plus, you didn’t have to come up with a large sum of money at the closing.
Every situation is different. It depends on your plans and what you can afford.
Ask the Seller to Pay
In some cases, sellers will pay closing costs. They probably won’t pay 100% of the costs, but every little bit helps. As a part of your sales contract, try negotiating a seller contribution. The seller can pay specific costs or a percentage of the sales price. It’s up to you and the seller. Some sellers are more than willing to contribute if it means they can sell their home. However, in a hot market, many sellers won’t pay the closing costs. Let’s say there are three bids on the home for the same amount. The seller will likely pick the bidder that doesn’t want their closing costs paid for them. It just makes sense. You can gauge the market and demand for a certain home before taking this avenue.
Wrap the Costs Into the Loan
A final strategy, which should be a last resort, is wrapping the closing costs into the loan. There are two ways to do this.
- Some loan programs allow you to wrap the closing costs into the loan, such as FHA loans. If the agreed upon sales price is lower than the home’s value, you may add the closing costs into the loan. You can’t exceed 96.5% of the value of the home, though.
- Ask the seller to pay the closing costs in exchange for a higher sales price. As long as the value of the home supports the price, this can work. Rather than paying the closing costs out of pocket, you wrap them into the loan.
Keep in mind, wrapping closing costs into a loan can get more expensive. The longer you borrow the money, the more interest you pay. If you know this is a short-term purchase, this option can work. If this is your “forever home” though, you may consider other options.
Trimming your closing costs down isn’t impossible, but it does take some work. Make sure you fully understand closing costs and what you pay. Shop around with various lenders and see what options you have. Once you know your options, you can then decide which process works the best for you. Talk to your lender to see what help they may offer as well. Seeing your options all in one place can help you make the right decision.