The Cost of Closing on Your Dream Home
You’ve done your house hunting and you’ve finally found your dream home. Now it’s time to get serious about the purchase. You’ll hear terms like “closing costs” mentioned. But what are they, why do they need to be paid, and how do they affect you? We’ve compiled a guide to help you understand this part of the process of purchasing a home so you can be better prepared when the time comes.
What are Closing Costs?
Closing costs are fees associated with your mortgage that are paid at the closing of the real estate transaction. The closing is when the title of the property is transferred from the seller to the buyer or when someone is refinancing their home and sign the closing documents.
When you apply for a mortgage, you’ll receive an estimate of what the closing costs on your intended home will be from your lender in an official loan estimate. You can expect the loan estimate within three business days from your mortgage application. With the estimate in hand, you can budget accordingly.
Bank fees are a part of closing costs. They vary from bank to bank and each individual institution may have their own set of fees they charge. Some banks charge an application fee, origination fee, processing fee, or underwriting fee and these amounts can vary as well. As of May 1, 2017, Auburn Savings only charges borrowers a single one-time origination fee of $500.
Third Party Fees
Other fees associated with your closing costs would be third party fees; fees that are charged by other vendors that are passed along to the borrower (you) as the cost of getting a mortgage. These fees include the following:
- Credit Report Fee
- This is the fee charged by the company the bank uses to pull a copy of your credit report to determine eligibility. (See our blog post on credit reports for more information.)
- Verification of Employment Fee
- This fee is passed along to the borrower when their employer requires the bank to use a Verification of Employment Service, such as theworknumber.com rather than providing the information directly to the bank themselves. This is typical with larger employers.
- Flood Determination Fee
- Banks are required to search the property address to verify if it is in a flood zone. There are two fees associated with this search, one for the initial search and a smaller fee which certifies the search and notifies the bank if the flood maps change and the home becomes included in a flood zone.
- Appraisal Fee
- This is a report that is completed by a certified appraiser to determine the property’s market value. Market value is the best indicator of what someone should pay for a property.
- Title Search & Settlement
- Title searches are required by all banks and done by a title company or title attorney to ensure the property you are purchasing (or already own) has a clean title, meaning there are no liens being held against the property and it is available for transfer.
- The Settlement Fee is the fee the title company/attorney charges to conduct the closing and prepare documents.
- Lender’s Title Insurance
- Lender’s Title Insurance is a title insurance policy that covers the bank that will hold your mortgage. Most lenders require this to protect against any potential problems with the title to the property in the event someone were to make a claim against the property. This covers the bank only and not the borrower.
- Recording Fee
- Recording Fees are charged by the county in which your property is located. Whenever a new mortgage transaction takes place, whether it’s a purchase or a refinance, the mortgage deed is recorded at the county’s registry of deeds and is on file as a public record until the mortgage is paid in full.
- Mortgage Loan Inspection (MLI)
- Mortgage Loan Inspections are typically only required when someone is either building a new home or purchasing a home. A MLI is when a surveyor inspects the property based on the town tax maps, current deed, subdivision plan (if applicable), as well as any other knowledge of the property the surveyor may have to determine there are no encroachments and landowners have adhered to the town restrictions. You are typically provided a sketch of the property at the time of closing outlining the work that was completed.
- Transfer Tax
- Transfer Tax is collected during purchases by the State of Maine and is charged at $2.20 for each $500, or fractional part of $500 of the purchase price of the property being transferred. Transfer Tax is split half to the buyer and half to the seller. For example, a purchase price of a home for $150,000 would cost the buyer $330.00. Transfer Tax may also be applicable when refinancing if you are adding or removing someone from the title who is not a spouse or immediate family member.
- Prepaid Interest
- Monthly mortgage interest is paid in arrears, not in advance. This means when you make your monthly mortgage payment on the first of every month you are paying the previous month’s interest. For example, if you are making your payment on June 1st you are paying the interest for the month of May. When you close on a mortgage transaction you are prepaying interest before it is due. This is the daily interest that accrues on your loan between the date you close on your mortgage loan and the end of the month. This also means if you close on your mortgage in May your first payment would not be due until July 1st.
Some closing costs associated with a mortgage are optional and not required; you may choose to omit these costs at your discretion.
- Owner’s Title Insurance
- This is an optional one-time cost to the borrower and is not a requirement. It is very similar to Lender’s Title Insurance; however, this policy covers the homeowner and not the bank. This is typically done during a purchase transaction and not something you have to buy again when you refinance.
- Initial Escrow Deposit
- Although escrow (an account established to pay your taxes and/or insurance) is not a true closing cost, it is money collected at the time of closing to establish your new escrow account. The bank will calculate an amount that needs to be deposited, based on the tax and insurance due dates, to get the escrow account established and ensure that there are enough funds to pay these items when they are due. This is paid to the bank at closing.
- Private Mortgage Insurance (PMI) Premium
- PMI is sometimes purchased by borrowers when they do not have a 20% down payment or in a refinance when someone is trying to reduce their interest rate but they do not have enough equity in their home. PMI can be paid through your monthly mortgage payment or as a one-time cost collected at closing. If you chose the monthly option you would be required to pay one month up front at closing.
How Can I Avoid Paying Closing Costs?
Closing costs are not something that can be avoided; they have to be paid by someone. One way you can reduce your out-of-pocket expense on closing costs when purchasing a home is by asking for the seller to pay some or all of the closing costs as part of your Purchase and Sale Agreement. This is typical and most sellers’ expect to pay at least a portion of buyers’ closing costs. The amount can vary depending on what the seller is willing to cover and this can be negotiated between the buyers’ and sellers’ Real Estate Agents.
When you are refinancing your home you may have the ability to roll your closing costs into your mortgage. Although you still have to pay for the closing costs, as long as there is enough value in your home this will limit the amount of out-of-pocket expenses you have.
Customer Bonus: If you are an existing Auburn Savings checking account customer you may be eligible to receive a $150 credit towards your closing costs with an Auburn Savings mortgage.
How do I Compare Closing Costs Between Lenders?
The best way to compare closing costs from lender to lender is by the Annual Percentage Rate (APR). An APR is a percentage reflecting the interest rate, as well as other costs such as origination fees, points, and some closing costs. The higher the APR is compared to the interest rate, the higher the closing costs will be. Also keep in mind this does not include all closing costs, only items that are considered to be prepaid. To get the most accurate estimate of what a lender’s closing costs would be is to contact a loan officer directly and ask what the estimated closing costs would be for the loan amount you are considering.
Why Closing Costs Matter
Closing costs matter because you can’t buy or refinance a house without them. You may be able to get the seller to pay for some or all of them, but regardless they do need to be paid. This is an expense many buyers don’t think about upfront in addition to their down payment. Closing costs can range from $2,500-$6,000+ depending on your purchase price and loan amount, so you should budget them in to your overall cost when shopping for a home. Although some of these costs may seem unnecessary, you should always remember the services that these costs are covering protect the investment both you and the bank have made.
Branch Manager & Loan Officer