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Understanding Closing Costs

Closing costs are an essential expense of homebuying and include a variety of payments beyond your property’s purchase price. Part of the closing cost, the real estate agent commissions, is paid by home sellers.

You’ll pay fees for an attorney, a title search, title insurance, taxes, lender costs and homeowners insurance. Some are nonnegotiable, like recording or transfer taxes charged by your state or local government.

However, your lender’s fee can be negotiated. The home seller or lender may cover some of your closing costs. Closing costs depend on loan size and tax laws, but on average, purchasers should expect 2% to 5% of the net purchase price.

Within three days of your loan application’s receipt, you’ll get a loan estimate. Three days before your closing, you’ll receive your closing disclosure with the final details of your loan and your closing costs.

Closing costs can be divided into three sections:

  • Lender’s fees — Some lenders wrap costs into an origination fee. Others break them out: courier fees, appraisal costs, administrative fees, processing fees, credit check, transfer taxes, a flood certification (if required) and underwriting fees.
  • Discount point — This is an optional closing cost equal to 1% of the loan amount. It can be used to lower your interest rate. Consult with your lender for the pros and cons of paying discount points.
  • Title company fees — These are about 70% of closing costs, so shop around for companies offering title search, title insurance and settlement services.
    • Compare settlement fees, which can vary by several hundred dollars. Make sure you understand what’s covered.
    • Buy optional owner’s title insurance to protect your own investment in the home.
      • Both types provide protection if someone claims they have an ownership right to your home or that they haven’t been paid for work on the property and have a lien against it.
      • Title insurance helps if the previous owners failed to pay property taxes.
      • Try to get a reissue rate instead of a new rate to save you as much as 40% — this is available in some situations.
  • Prepaid costs — Most lenders require you to set up an escrow or impound account to collect homeowners insurance and property taxes; if you make a down payment of 20% or more, you can sometimes be exempt.

At closing, you’ll pay one year of your homeowners insurance, with two months of premiums kept in reserve. You will be required to pay two to six months of property taxes, depending on when the tax bill is due.

  • You can negotiate with sellers to finance closing costs.
    • Buyers can ask sellers to raise the purchase price for a credit at the settlement table to cover closing costs. If it’s a buyer’s market, you can ask sellers to pay closing costs outright.
    • You can request lender-paid closing costs. The lender pays closing costs and charges a slightly higher interest rate to recoup the money.

Here are other closing-cost tips:

  • Low-to-moderate-income households can apply for homeowner assistance. These are loans with slightly higher interest rates, but some or all of your down payment and closing costs are covered. They are intended to help families keep cash in reserve for emergencies.
  • You’re not obligated to accept real estate agents’ recommendations about a title company. You can shop around.
  • You can negotiate the settlement date. If you close at the end of the month, the lender will charge only one or two days of prepaid interest, but if you close on the first of the month, you’ll pay the full 30 days. Your closing date impacts when your first mortgage payment is due.

Closing costs may seem excessive but conducting a title search helps you make sure you have legal possession of the home, and the escrow account protects you from neglecting to set aside money for taxes and insurance. However, negotiating, comparing fees, and financing your closing costs with your seller or lender can make closing costs easier to handle.

This is just a summary. Not all situations will allow for all these possibilities. Your best bet is to be aware of them, and discuss them with your real estate agent, attorney, mortgage bank and other financial professionals.