The following is a guest post from Tali Wee of Zillow. I don’t typically take guest posts, but this week I am writing about financial bruises and a painful one (that I will share in detail tomorrow) for me revolves around unexpected closing costs when we purchased our home two years ago. Here is some great info on closing costs thanks to Zillow!
First-time homebuyers often overlook or underestimate the expenses of closing costs. During the process of buying a home, prospective buyers have numerous factors to focus on including saving down payments, maintaining credit scores, evaluating neighborhoods, comparing home values and budgeting affordability.
As buyers financially prepare to purchase homes, they should calculate reasonable monthly mortgage payments of principal, interest, property taxes and insurance. Additionally, buyers should budget the one-time charges of their down payments and closing costs.
What Are Closing Costs?
When homebuyers close on their purchases they pay both their down payments and several fees related to acquiring loans and transferring property titles. These fees are known as closing costs and vary by lender and local municipality.
Lenders charge fees known as origination costs, including charges for securing loans, processing paperwork, courier costs, wire-transfer fees and clerical fees. Lenders also charge underwriting fees for evaluating loan applications. The borrower my also choose an option to pay the lender fees called discount points, which is a way for them to “buydown” their interest rates.
Along with origination fees, closing costs cover third-party fees associated with approving properties and borrowers for loans, such as running credit reports, property inspections, appraisals, property line survey fees, pest inspections and flood certifications. Additionally, lenders charge title search fees to clear property titles of unpaid tax liens or mortgages; plus borrowers pay lenders’ title insurance.
Borrowers are also responsible for highly-variable recording fees. These government fees compensate the city or county for recording the title transfers and lien information. Some municipalities or states also require real estate transfer tax or documentary stamp tax to record new titles and/or lien information.
Buyers must open escrow accounts and deposit funds for property taxes, homeowners insurance, homeowners association fees and private mortgage insurance (PMI). Lenders typically require at least a couple months of prepaid insurance and taxes. PMI only applies to borrowers who pay less than 20 percent of the purchase price of their homes as their down payments.
How Much Are Closing Costs?
On average, a U.S. homebuyer spends between 2 and 5 percent of the purchase price of the home on closing costs, roughly $3,700. For instance, a $200,000 home might cost the buyer $4,000 to $10,000 in closing costs. Buyers pay these fees at closing, unless otherwise negotiated in their contracts.
By law, lenders must provide loan applicants with good faith estimates (GFE) within three days of submitting a loan application. The GFE details the estimated line items buyers can expect to pay at closing. Buyers should use their GFE quotes to shop for lenders offering the most affordable interest rates and closing costs. Just prior to closing, borrowers receive HUD-1 statements itemizing their finalized closing costs. HUD-1 statements for lenders’ charges cannot deviate more than 10 percent from the GFE and lender-required third-party fees or lenders are required to make restitution to borrowers.
Who Pays for Closing Costs?
Generally, buyers pay the majority of closing costs, but they are negotiable items between buyers and sellers. Sellers are usually responsible for the real estate commission paid to both buyers’ and sellers’ agents. Sellers also pay closing costs to absorb the annual property taxes for the portion of the year they lived in the home.
Borrowers of Veterans Affairs (VA) loans are disallowed to pay specific closing costs. Often times, sellers will cover the majority of closing costs on VA loans to enable sales. Or, buyers might negotiate higher sale prices with credits back from sellers to cover closing costs.
Alternatively, a buyer might accept a higher interest rate to spread the closing costs out over the life of the loan. Though this costs more for the borrower long term, it might be more feasible to pay slightly higher monthly payments than a lump sum up front. This is also the structure of a no-closing cost mortgage; one way or another, the fees must be paid.
Are Closing Costs Negotiable?
The most negotiable element of closing costs is the lender’s origination fee. Buyers can work with their lenders to limit administration costs. However, most third-party fees are either flat rates or locally established pricing that rarely changes.
Which States Have Steep Closing Costs?
Origination fees are fairly flat within communities to enable lenders to stay competitive, though borrowers should always shop for quotes. Bankrate complied state-specific closing costs on a hypothetical $200,000 mortgage with a 20 percent down payment and excellent credit. The five U.S. states with the highest origination fees are California ($1,977), Hawaii ($1,970), South Carolina ($1,935), Alaska ($1,925) and Pennsylvania ($1,920).
Third-party fees are often dictated by local municipalities, making some counties, cities or towns more expensive than others. Bankrate’s third-party costs excluded variable fees such as title searches, title insurance, government fees, taxes and escrow fees. According to the report, the states with the highest third-party fees are Hawaii ($949), New York ($827), Texas ($778), New Mexico ($760) and Delaware ($760).
Roughly a third of U.S. states charge no real estate transfer fees according to the National Conference of State Legislatures. However, a handful of states charge steep tax percentages on the total sale prices of real estate transactions. These charges are referred to as transfer taxes, documentary stamp taxes or transaction stamps. Regions with the highest rates are New Hampshire (1.5 percent), Delaware (1.5 percent), Washington (1.28 percent), Vermont (1.25 percent), New Jersey (1.21) and District of Columbia (1.1).
How to Avoid Closing Cost Surprises?
Homebuyers must financially prepare by reviewing the customary charges in the areas they plan to buy. Buyers can shop for lenders with the lowest rates and negotiate reduced origination fees. They can save appropriately for purchases in pricey locations like Hawaii or Delaware. Additionally, buyers can cushion their budgets by preparing for higher closing cost averages of 5 percent of the total sale prices of homes. If buyers are alert to the common costs and save accordingly, they’ll be primed to close on properties.
Have you had to pay closing costs? Were you surprised by how much they were?