How To Understand Your Closing Costs And Enjoy Buying More

Certified Mortgage Advisor
NMLS 1701021
Published 
November 3, 2021

Why is closing cost so expensive?

I'm gonna help you understand why closing costs can be so expensive. Who's charging all this money? What are they charging the money for? And then what can you do to actually lower some of these closing costs? So you're in a better position to feel like you actually understand what's happening with closing costs instead of feeling like you see this number and you're unsure of it.

And you're not sure what's right. And you're trying to figure out, okay, should I actually be paying this? Or what is normal in buying a home.

What is in the closing cost?

So first, when we talk about closing costs. This work can be used interchangeably with different things. So I want to clear up what this means. So there are actually several things that kind of go into closing costs and the best way to understand this is it's actually going to be your down payment, plus closing costs minus adjustments equal cash to close.

So closing costs will be the charges that are additional to be able to buy. A home it's for all the people involved in the purchase of your home to help you be able to close on it.

So what we're actually talking about here is the cash to close is that bottom line number. So when you're asking yourself the question of how much do I actually have to bring to the closing table? What check do I have to bring to somebody to be able to purchase a home? And that's your cash to close?

Down payment

So first we have the down payment. So the down payment is basically how much money are you putting up compared to how much money the bank is putting up. So this is normally a percentage of the purchase price. So for instance, on a commercial loan, there's a minimum of 3% down. That means you're putting in 3% as a down payment and the bank is giving you a loan for 97%.

So those equal up to a hundred percent of the purchase price. So the minimum down on conventional is 3% for FHA. It's 3.5% for USDA it's 0%. And for VA it's 0%. And on this channel, I have loan requirements for every single one of these loans that you can search for if you're interested.

So you have the down payment, so maybe we're running with a conventional loan and we're 3% down. So on a hundred thousand dollars home, that's $3,000, $200,000 home that's $6,000.

Closing cost

Then our closing cost. Closing costs are gonna be the other fees that are charged here. They're not just miscellaneous fees or made-up fees, like junk fees. All these fees actually have a purpose.

Adjustments

Then you have your adjustments. So things like Earnest Money Deposit.

Earnest Money Deposit

If you put money down on a contract that would be subtracted because you already paid for it upfront. And so earnest money is just basically like a good faith offer to the seller saying, Hey, we really wanna buy this home. And we're willing to put, let's say $2,000 at stake. So if we back out of the deal, that $2,000 is in jeopardy there in different states handled that differently.

Seller Credits

Then you also have seller credits, which we'll talk about. That's when the seller actually gives you a portion of the money to go towards your closing costs.

Lender Credits

You have lender credits where the lender kind of can do the same. They can give you a credit to lower your closing costs.

Tax Proration

Then tax proration. Every county handles this differently, but basically, this is how much. Tax is being given to you as a credit at closing. And so this all equals our cash to close. And when we talk about cash to close, this is, what does the final check do at the closing table when you sign, when you get the keys? Most of the time, what check is being due.

Random fees are frustrating

What's frustrating about closing costs is I think sometimes they can seem like, it's the lender is going to charge me a bunch of random fees. And that's what closing costs are. And that's not the case at all.

There are people are involved

When you buy a home, there are a lot of people involved, as we can see right here. So this is you in the center, you purchasing a home and these red arrows are showing the money that's actually going to all of these individuals either companies or people here that are getting paid by you purchasing a home.

Part of your closing cost

It's not just you and the seller and your agent. There are a lot of people involved in this. So for instance, you have your insurance agent, right? They're gonna give you a homeowner's insurance policy. They're getting paid through that as well. That's part of the closing cost. Your lender is helping you secure a loan that's part of the closing cost.

YYou have a title company, that's doing a title, search and insurance on your home to make sure there are no problems with the deed or your actual ownership of the home. That's part of closing costs. You probably have a home inspector who is looking at your home and making sure it's up to the quality standards that you're looking for. That's part of closing costs. You have an appraiser. Who's judging the value of your home. That is part of closing costs. The county's gonna charge to record the deed and the mortgage that's part of closing costs. You may have an attorney who's going to review your contract and make sure everything is legal and in your best interest, that's part of closing costs. You might have a home warranty that is part of closing costs.

What will the seller pay?

And then you have a little bit different over here. You do have a buyer's agent and a seller's agent, and they're getting paid, but they're getting paid by the seller. So the seller will pay for a couple of different things here.

The Seller and what you can negotiate

The seller normally will pay both the seller's agent and the buyer's agent which usually comes out of their funds. So the seller does have their own closing costs as well. Then often the seller in contracts can be negotiated to pay the home warranty and possibly some other things like title fees as well, depending on what's common and all contracts can be negotiated as well. But what you can see here is closing costs are here because there are a lot of people helping you buy a home.

It's not just the buyer, agent and the seller

Sometimes we forget that there are actually a lot of people involved in just one person buying a home. It's not just the seller and your agent. There are a lot of people. And all of these people and companies end up getting paid through closing costs, and that's why they exist, and they're all needed to be able to help you purchase a home because they all do different things.

Seller paying you when you are the buyer

There's one instance where the seller actually will pay you a little bit. You're still gonna have closing costs that go to other people, but there's a time when you are also going to get closing costs paid by the seller.

So what's interesting here is you have both an arrow going towards the seller and coming back to you. So the area going towards the seller is you're paying them money for the home, right? Maybe you're purchasing a home for $300,000 and you're paying the seller that amount of money. However, you can negotiate for the seller to pay closing costs as a credit to you.

Negotiating seller credits

So in this sense, this is where you can negotiate seller credits. Seller credits are just where you are in the contract. When you make an offer on a home, you ask the seller to pay a percentage of the purchase price towards your closing costs. And it's important to remember the more that you ask for the less competitive your offer is cuz think to the seller, if the seller has two offers and one person is saying, I don't need help with closing costs. And the other person is saying, I need $5,000 to help with closing costs. The seller gets $5,000 less over here. They're less likely to go with that offer. So it's important to keep that in mind.

Different loan types, different limits for closing cost

So different loan types allow you to have different limits on closing costs. So for a conventional loan here are all of the different seller con concession limits on conventional loans. And it's a little bit confusing and complex. So basically if you have less than 10% down on a conventional loan, you can do up to 3%, 10 to 50 10 to 25% down is 6%. Greater than 25% down, you can do up to 9%. And if it's an investment property up to 2%, so you don't have to ask for any, but these are the maximums.

Conventional

So on a conventional loan with less than 10% down, you cannot ask for 4% seller concessions, conventional loans will not allow it.

FHA

On FHA loans, you can ask for up to 6%.

VA and USDA

On VA loans, you can ask for up to four, and on USDA loans, you can ask for up to 6%. And keep in mind, the more that you ask for, the less competitive your offer does become, but this can be a strategy that you use to help lower some of these closing costs.

Loan estimate

So then what ends up happening is you have all of these people that we talked about earlier, who are helping you close on a home. They're providing all of these services to help you be able to do this. All of these are going to then be itemized on a document called a Loan Estimate. Your lender is going to prepare this document that basically is going to give you a map, a general estimate of all of the fees that are happening.

The lender need to come up with an estimate

Now at this point, your lender doesn't actually know the bottom line number which can be frustrating. But the reason they don't is that we had all of these people. The lender, day one. When you sign your contract, doesn't know what every single one of these people is going to charge for the services they're going to provide to you.

And so what ends up happening, while you're under contract, which is normally 30 to 45 days, those fees are getting finalized. So usually your loan officer is getting invoices from the title company, for instance, from your home homeowner's insurance agency, they're finding out what taxes are going to be. They should have a good idea of what it's going to cost to record with the county. So they're trying to finalize these.

Loan estimate is based on the loan type

What they would do first is give you a loan estimate. And the loan estimate is just that it's an estimate of the fees of what they think you're going to run into as the final cash to close. So they're gonna, they know what your down payment is based on the loan type and they're going to estimate your closing costs based on some other information from the loan. And they're required to give this to you three days after you're under contract for a home.

Closing disclosure

So then during the time that you're under contract, they're working on finalizing those fees to give you then a closing disclosure and a closing disclosure actually has two more pages.

So you can see there are three pages for Under Contract and five pages for Closing. The closing disclosure is required to be given to you three days, at least three days before closing. The closing disclosure is very similar to the loan estimate, but it should have those fees more locked in. So they're getting more accurate numbers. So you can figure out what the total cash to close is.

A little bit higher and a little bit less

So normally what ends up happening is a loan estimate is quoted maybe a little bit higher than it actually will be. And then ideally you'll get a closing disclosure and it should be a little bit less. If you're working with a good loan officer, they should be estimating in a way that helps you understand a good ballpark of where it's at, but in a way where you're not gonna get the closing disclosure and costs are going to be more because nobody wants that unexpected jump in costs.

What is in the closing disclosure?

This is what one of the pages of the closing disclosure looks like. It does a couple of different, interesting things here. The first thing is it actually compares the loan estimate versus the final closing disclosure fees. So it helps you compare side by side what everything is, but then it also uses a system of debits and credits to figure out what your cash to close is.

This can be a little bit confusing and I wouldn't be too concerned about figure feeling like you have to figure it out. I think it's just interesting to note. Where are all these numbers coming from and how are they coming together with all this? Because of what it is they're taking basically everything in this section and then subtracting everything in this section from it.

So you have all your debits up here in the top section and the credits below. So for instance, if the sale price of the home, is $180,000, all of us right away, have a $180,000 bill due. Then we have closing costs, $9,000 on top of it.  So we have this big bill due. The loan covers 162,000. That's removed from the hundred and 80,000. Then we also have an earnest money deposit. So you'll see this on your own closing disclosure where it's itemizing every single thing, and then showing you all the adjustments with it to give you that cash to close. So at this point, you're probably like, all right, there's a lot going on with closing costs. There are a lot of people charging, closing costs.

Shop lenders

How do I keep these low? There are a couple of different ways that we can do this. The first one is to shop lenders. This is the one that most people are common with, but it's important to realize that lenders only control the lender's fees. If we remember there are a lot of people involved, and the lender was only one piece of the puzzle.

There are a lot of other people who are charging fees in there as well. Your lender will only control their fees. They cannot control everyone else's fees, but sometimes people have this assumption that they will then shop lenders and the lender will then control all the fees. And that's just simply not the case. The lender will only control their fees. So when you shop with lenders, you only want to see what are your fees. And so these are called Section A fees.

Section A Fees

It's directly what the lender charges. Because sometimes what can happen is you might talk to one lender and in the loan estimate, they're estimating that the title company is going to charge $2,000. You talk with another lender and they're estimating the title company is gonna charge $3,000. Sometimes people make the mistake and they like titled fees are cheaper with the first lender. So I'm gonna go with them. They're estimating, they don't know what the title fees are. They don't control the title fees.

Choosing a lender based on Section A Fees

So don't choose a lender based on fees that they don't control. Only choose a lender based on Section A Fees, the fees that the lender directly controls.

Shop for Home Owner's Insurance

Also, shop for homeowner's insurance for a lower rate. So you could shop for any homeowner's insurance than you would like, and you could put in potentially choose a higher deductible if that would help you lower that as well.

Ask for closing cost credit from the seller

That is probably the easiest way to get this done. So asking the seller again, back to that limit, maybe it's 3%, maybe a 6%, maybe it's 4%, or anywhere in between. You can also talk to your lender about getting a lender credit.

Exploring Grants or DPA options

Then also explore grants or down payment assistance options with your lender to see if that's something that you have access to.

Ask for long proration

Also, something that you can do is ask for long proration. If that's not already common in your area. So different counties handle this differently.

Long proration

So in my area, there's actually a difference between short proration and long proration. In long proration basically means is since taxes are normally paid semi-annually or annually, there's gonna be a time when you move into the home, you're gonna get a tax bill for a time that you weren't in the home. So proration is just when the seller at closing is giving you a credit in advance for that tax bullet about to be due.

Around here, you can actually do a long proration, which is a little complicated, but basically, you can get an extra six-month tax credit from the seller. And that can be a really great way to add in some closing costs credit if you need it. And again, this is all negotiated in the contract. So the seller doesn't have to agree to that.

Explore not getting a owner's title insurance policy

Now, this is risky and optional. But basically what happens is you have, when you look at your loan estimate, you're going to have an optional owner's title insurance policy, and this helps protect you against any errors found in the recording of your deed or of your mortgage, any title issues that you run into, it's gonna cover you for. And it can be really risky to not have it. Sometimes, if you're really strapped for cash, it could be an option. And usually, title companies will allow you to then purchase a policy sometimes 60 or 90 days after you close on a home.

Definitely talk to your title, and insurance agent about that, cuz it is extremely risky to do and you need to make sure you understand the risks of doing it before you actually choose to waive that fee.

Explore lender credit

So what you can ask your lender for is actually a higher interest rate in exchange for a credit towards your closing costs. If you need help there.

Look at closing at the end of the month

It doesn't have to be on the last day, but if you do close at the end of the month, it reduces the amount of prepaid interest that you have to pay between the time that you close and your first payment is due to help lower closing costs a little bit.

So only probably gonna save you a couple of hundred bucks. But if you really need that or you're doing a combination of all these, those can help add up to some pretty good savings for you.

When is all this due?

That is one of the big questions that people have. The cash to close is due at closing. So when you look at your loan estimate or your closing disclosure, you're going to get probably multiple versions of those while you're under contract for a home. And those that bottom line cash to close is not due until closing and closing looks different for different lenders and different people.

But normally what's standard is you come to a closing table. There's a closer there, maybe your lender or your realtor is there. You bring a check for your cash to close. So this would be a cashier's check or a wire transfer and that money is due at the closing table.

Charges that are required upfront

However, there are a couple of charges that are required upfront, so something like the appraisal that's due upfront. If you have a home inspection, usually the inspector's gonna require to be paid upfront. And then if you have earnest money that is due as well. It does get applied as a credit towards your closing costs since you already paid it, but it is due, upfront. Everything else like your down payment and all other closing costs is only due at the closing table.

Can closing costs be rolled into the loan?

The disappointing answer for most people is going to be, no. So for instance, on a commercial loan, no FHA loan VA loan, no. You cannot roll closing costs into the loan. So if you're purchasing a $300,000 home and your closing costs are $9,000, you can't just say, give me a loan for $309,000. It does not work that way.

The only instance, when you can do this actually can wrap closing costs into a loan is on a USDA loan. If you have a USDA loan and you're purchasing a home for $300,000 and it appraises at $310,000, you actually can wrap up to $10,000 of closing costs into the loan. The only way around this is to wrap closing costs into the purchase price.

So the way that you would do this is if you were looking to buy a $300,000 home and you need let's say $9,000 in closing costs. So you want that as a credit from the seller that's 3%. So you can then ask the seller for 3% of the purchase price in closing costs. But you're then going to offer $309,000. So what you would then do is increase the purchase price to be able to get that closing cost credit back. So instead of offering 300,000, we offer 309. And ask for $9,000 back in closing cost credit.

Now, one important note is that refinances are different. So if you're purchasing a home, you cannot wrap closing costs into a loan. If you're refinancing, usually on most loans, you can wrap some amount of the closing costs into the loan amount, but refinancing is a completely different story.

What if you can't use all of the seller credit?

So let's say the seller gave us $9,000 in closing cost credit. But our closing costs are only $8,000. So we have a thousand dollars left over. What do we do? One thing we can do is renegotiate. So we can make our realtor have an addendum to the contract that says we're going to lower seller credits from 9,000 to 8,000. And maybe if you want lower the purchase price by a thousand dollars. That's something we can do is renegotiate because we don't need all that closing cost credit anymore.

Lower rate by paying points

The other thing that we could do is we could purchase points. And what you do there is it's the inverse of a lender credit. So instead of asking for a higher rate and a credit from the lender, we actually ask for a lower rate, but we're willing to pay prepaid interest. We paid to lower our interest rate. That is something you can do. If you have closing costs concessions from the seller are left over.

Do different loans have different closing costs for the most part?

No, because if we think of things like title, home warranty, appraiser, all those types of things usually are not going to change in cost between the different loan types. However, the main thing that you will see as a closing cost. Is anything with upfront mortgage insurance. So FHA loans, VA loans, and USDA loans all have their own type of mortgage insurance that is charged upfront. Usually, conventional loans don't unless you choose to have upfront mortgage insurance on a conventional loan.

So for instance, on FHA loans, there's gonna be 1.75% of the loan amount added to the loan as upfront mortgage insurance cost, VA has a funding fee and then USDA has what they call a guarantee fee as well. And so that will change your closing costs. However, those fees are usually added to the loan and you won't pay them upfront.

So I know this can be confusing if you're at this point, you're like, this is a little confusing and overwhelming it's okay. It's okay to be there. It's okay to be like, I have no clue what's going on.

This is frustrating and it's a lot of information really. The whole goal here is to help get you acclimated to some of these numbers because your loan officer will be able to guide you through a lot of these fees as well when they give you a loan estimate.

Do you have to prove that you have the money?

So for most people, yes. And normally what a loan officer will ask you for is two months of your bank statements. And so what they wanna see is that you didn't go take out a personal loan for your closing costs or your down payment. And since 2001 with a Patriot act, they also have to check for instances of fraud or money laundering, which can be very frustrating to have to, that you have to show so much information from your bank statements, but what you will need to do is have two months of bank statements to show that you have the money there, and it's really, it's a lot easier to give this to the lender as early as you can in the transaction so they can make sure that they can see all the money is in your account.

So for instance, if your cash to close is going to be $20,000, the lender then needs to see bank statements that would show the $20,000 in an account so that they know that money is from a source that they accept and you'll have the money ready for closing. And then finally, how do you estimate these fees?

2% Rule

One quick and easy roll is 2% of the purchase price. For a $300,000 home, 2% would be $6,000. And so you can estimate $6,000 as your closing costs probably a decent roll of thumb. But there's, it's not as refined as you probably would want it to be.

Loan Estimate Link

Another option is there is a loan estimate explainer: Loan Clarity Advisor. That'll help you take a look at a sample loan, and see what sample fees can look like. You can also talk to a lender and ask them to give you a quote for closing costs as well. And they can itemize and estimate all these other fees.

Loan Estimate Walkthrough

Then finally I have a Loan Estimate Walkthrough. It's about 25 to 30 minutes of me going through a loan estimate line by line and explaining. All of the different sections, like section lender fees and everything that you need to watch out for in your own loan estimate. So you can get a better understanding of closing costs.

Talk with a loan officer
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