Understanding Mortgage Closing Costs

What Are Mortgage Closing Costs?

Buying a home is a bit like having a baby. And, in that simile, mortgage closing costs are the more painful parts of labor. Conception is finding your dream home. Pregnancy is the seemingly endless admin necessary for your purchase. Closing is giving birth. And that's immediately followed by taking possession of your new home, which is the equivalent of holding your baby for the first time. The worst pain is swiftly succeeded by – and quickly blotted out by – the greatest joy. Which is just as well, otherwise nobody would have more than one kid, or one home, per lifetime.

Mortgage closing costs are the expenses you have to pay to get the home and mortgage you want. We'll get into more detail in the next section, but they fall into four broad categories:

  1. Fees paid to your lender for processing your application, and with some types of mortgage an upfront funding fee
  2. Fees paid to third parties for services such as the appraisal, title search, credit check, title recording, legal services, and so on
  3. Prepayments, such as prepaid mortgage insurance (when required), and sometimes advanced payments on upcoming property taxes and hazard and mortgage insurance premiums
  4. Discount points, which are optional, but can buy you a lower mortgage rate in exchange for an upfront payment on closing

These costs vary widely from place to place and lender to lender, but Realtor.com reckons the total paid for a property transaction typically ranges between 2 percent and 7 percent of the home's purchase price. However, some of that's paid by the seller. Buyers can expect to have to find between 3 percent and 5 percent of that price, according to various sources.

If you're getting a VA loan, your closing costs may be lower or sometimes even nonexistent. Learn more at Can You Make Your Seller Pay Your VA Loan's Closing Costs?

Mortgage Closing Costs Fees

One industrious blogger once listed 27 different types of closing cost. But it seems unlikely any buyer has ever had to pay all of them.

For example, you may not need an independent survey to determine the boundaries of your property. Meanwhile, inspections for the presence of lead-based paints may be unnecessary for recently built homes, and only those buying within the territory of a homeowners' association need to pay an HOA transfer fee. Similarly, pest inspections are generally needed only in areas where infestations are common, and flood determinations may not be necessary everywhere.

But other costs are frequently required for those purchasing with mortgages, and these include:

  1. Application fees – Not all lenders charge these, but those that do on average ask for $300.
  2. Appraisal fees – These can be as low as $200 and can top $450, but probably most buyers pay between $275 and $375. An independent appraiser makes an inspection to determine the market value of the home you're buying.
  3. Attorney fees – Some states insist on your using an attorney, but most make this optionable. Expect to pay $500-$1,500+, depending on the complexity of the transfer and your lawyer's hourly rate. If your lender requires an attorney to protect its own interest, you sometimes have to pay – maybe $400.
  4. Courier fees – If documents need to be hand delivered, you may pick up the tab. But it's unlikely to be much.
  5. Credit report fees – This is sometimes included with an application fee. But you needn't lose sleep if it isn't: The average cost is, roughly, $25.
  6. Escrow/Impounds – Especially if you have a low down payment, your lender may insist you put up to a full year's property taxes and homeowners and mortgage insurance premiums into an escrow account when you close. The money will be paid to the local government and insurers from that account as charges fall due, so these are upfront payments rather than fees.
  7. Home inspection fees – If, as you probably should, you opt for a home inspection to check for structural issues, expect to pay $200-$475. HomeAdvisor says the average in early 2017 was $321 nationwide.
  8. Origination fees – This is often the biggest fee and it covers the lender's costs in processing (documenting, underwriting, administering, auditing, and funding) your loan. It may be a flat fee or it may be a percentage of the value of your loan. Either way, try negotiating it down.
  9. Recording fee – Your city or county is going to charge to register your new home's change of ownership and you lender's "lien" (rights) over it. These fees vary considerably, but you may be able to find yours with a simple internet search.
  10. Title insurance premium – This one-time payment provides insurance coverage in the event somebody else has undisclosed rights over your property. In one famous case, a new homeowner discovered a previous owner had retained the right to store construction materials in the yard only when a truck pulled up outside. This insurance can typically cost from the low hundreds to a couple of thousand dollars.
  11. Title search fees – This normally costs somewhere between $100 and $250. You must read your title report. Title insurance only covers undisclosed rights, so any rights disclosed in the search won't be covered. The homeowner in the last bullet point got zero support from his or her insurer because the previous owner's right had appeared in the unread title report.
  12. Prepaid interest – If you're closing before the last day of the month, you'll owe your lender interest for the days before you make your first payment.

Why Closing Costs Vary

There are two reasons closing costs vary so much on where you live:

  1. Different states, counties, cities, and municipalities impose different legal requirements on home sales. For example, some states insist you have an attorney acting on your behalf, while others let you choose. And, at a more local level, they can impose different charges for recording your transaction.
  2. Different states, cities, and neighborhoods have different home prices. And some charges (origination fees, for instance) are often levied as a percentage of your new home's purchase price. So, someone buying in Hawaii (average listing price in Feb. 2017 just over $900,000) is going to have higher mortgage closing costs than someone purchasing in Kansas, where that average was just over $160,000.

Average Closing Costs by State

One financial website found the nationwide average for closing costs on a $200,000 loan in July 2016 was $2,128, with Wisconsin the least expensive state ($1,863) and Hawaii the most expensive ($2,655). However, if you live in either of those states, don't think that's what you're actually going to pay. Because those figures exclude some chunky expenses that can add thousands to your bill, including your title insurance premium, government taxes and recording fees, title search fees, escrow costs, and any discount points you choose to purchase.

average closing cost by state graph

Source: Average closing cost by state was determined by Bankrate.com's closing cost survey, in which they got a good faith estimate from Lenders for homes that cost $200K.

How You Can Mitigate the Cost of Closing

Within three business days of your lender receiving your loan application, you should receive a "loan estimate" document, which details all the information you need to know about your mortgage, including estimated closing costs. That estimate isn't written in stone and figures frequently change, but they shouldn't do so without the lender having a good reason. Three business days before you close, you should receive a "closing disclosure," which provides a final summary of your deal, including detailed closing costs. If there are discrepancies between the two documents, ask why and try to talk your lender down from any nasty surprises. The two links earlier in this paragraph take you to the website of a federal regulator, the Consumer Financial Protection Bureau, and will show you samples of both documents – along with hints about what to look out for on each page.

Of course, you'll have shopped around for the mortgage best deals (won't you?!), so you'll have a number of loan estimates. When you get them, read them all the way through with great care. Then go to the second page of each to find your expected closing costs, and compare them. Some of those costs are fixed, but there's a good chance you can improve on others. Don't hesitate to play one lender off against another: "I'd like to go with you, but your closing costs are way higher than others I've been offered." Be specific about which costs are higher and are bothering you.

Here are some things that can make a real difference:

  • Section A on page 2 of a loan estimate shows how much your lender plans to charge you for originating the loan. That's often negotiable.
  • Section C is headed "Services You Can Shop For." So shop around! There's a good chance you can find a better deal that you're being offered on everything on that list, including title-related services and insurance.
  • If your prepaids and escrow payments (sections F and G) are higher than you can comfortably afford, ask if they can be made lower.

The stronger you are as a borrower (the higher your credit score, the bigger your down payment, the smaller your non-mortgage debts), the more the lender's likely to want your business – and the greater your leverage. But even weaker borrowers can usually shave worthwhile sums from the mortgage closing costs shown on their original loan estimates.

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