Closing Cost

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21 Aug, 2024

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Closing costs are expenses usually incurred by buyers or sellers over and above a property's price to finalize a real estate transaction. They cover things like searches on a home title and home appraisal. Individuals pay such costs whether they purchase a home or refinance a mortgage.

These costs usually include discount points, appraisal fees, title insurance, deed recording fees, credit report charges, etc. Lenders must use a loan estimate form to show such costs within three days of submitting the home loan application. Individuals may also incur such charges if they sell real estate to a friend or relative at a price below the market value.

What Is Closing Cost?

The closing cost definition refers to the overall charges borrowers must pay to finalize the sale of a property. Survey fees, transfer tax, application fees, escrow deposits, and credit report fees are a few examples of such fees.
Usually, the closing cost ranges from 3-6% of the total mortgage loan amount.
Unlike cash to close, this cost does not include the down payment or earnest money.
Individuals can use an online closing cost calculator to break down the total charges and expenses with the total estimated cost.

Closing Cost Explained

The closing cost definition refers to a range of fees incurred by individuals for services related to completing a real estate sale and applying for a mortgage. The charges one must pay depend on the location, the property's price, and whether they are refinancing or purchasing. The closing cost range is around 3% to 6% of the overall loan amount. So, for a mortgage worth $500,000, one can expect to pay $15,000 to $30,000.

Let us look at some standard fees included in these costs.

Attorney Fee: This is the fee real estate attorneys impose to prepare and assess home purchase contracts.
Courier Fee: The party handling the closing, i.e., the escrow company, attorney, or title company, receives this payment, depending on the state law.
Application Fee: A lender charges this fee to process the home loan application.
Credit Report Fee: Lenders impose this fee on homebuyers to pull their credit reports from the major credit bureaus. Some lenders receiving a discount from reporting agencies do not charge this fee.
Escrow Deposit: Some lenders require individuals to deposit two months of mortgage insurance and property tax payments into an escrow account to finalize a transaction.
Points: Also referred to as discount points, these are optional, upfront payments made to the lender to decrease the interest rate on the loan.
Pest Inspection: This fee covers the cost of professional pest inspection services.
Property Tax: Homebuyers must pay local property taxes due within sixty days of purchasing the property.
Survey Fee: The surveying company charges this fee to check shared fences and property lines to confirm the property's boundaries.
Transfer Tax: The local or state government imposes this fee to transfer the property title to the new homeowner.
Lead-Based Paint Inspection: Individuals pay a fee to a certified inspector to check whether the property has lead-based paint.
Rate Lock Fee: This is an optional charge imposed by lenders to guarantee homebuyers a certain interest rate for a specific duration. This safeguards individuals from a sudden increase in interest rates.
Title Search Fee: The title company charges this fee to analyze the property records.

One must remember that these costs do not include the down payment.

If a buyer wants to reduce such costs, they can ask the sellers to pay the expenses entirely or partially, depending on the negotiation. If sellers help buyers cover the closing costs, it is a win-win situation for both. This is because the seller can make a faster sale, and the buyer gets to pay a lower amount at closing. Individuals must remember that their bargaining power depends heavily on the market. They must ask sellers to contribute after understanding how much the latter can contribute.

In addition, one must note that if market conditions are in the seller's favor, negotiating for too many concessions can lead to a rejection of the offer.

Besides negotiating with sellers, buyers may consider looking for lenders that offer discounts or do not charge any origination fee.

How To Calculate Closing Cosst?

Various factors, for example, the size of the down payment, credit score, property location, etc., influence the closing cost. To get an idea of this cost, most lenders recommend estimating it to be 1% to 5% of the property purchase price. This means if the price is $800,000, the cost will range from $8,000 to $40,000. Individuals can also use a closing cost calculator to get an accurate estimate.

This calculator provides individuals with the following information:

Projected Total Costs: The online tool displays the estimated total closing costs (in dollars). Moreover, it expresses the overall cost as a percentage of the total loan amount.
Breakdown Of Costs: It shows a breakdown of the usual costs, including fees payable for home appraisal, loan origination, and title insurance.

Such a calculator's default setting projects various charges included in the closing costs. That said, the fees vary widely. So if individuals know certain charges, they can enter them in the calculator to get improved results.

Example

Let us look at this closing cost example to understand the concept better.

Suppose John takes out a loan of $600,000 to purchase a home from Andrew. According to the purchase contract terms, the former will pay the closing costs. The amount payable at the closing table is 4% of the loan amount, i.e., $24,000. This will include all charges and expenses included in such costs, for example, the survey fee, transfer tax, etc.

Difference Between Closing Cost And Cash To Close

One can go through the following points to understand how these costs differ from cash to close.

Closing cost is the amount an individual must pay the lender to close on a home loan. On the other hand, cash to close refers to the entire amount one must bring to the closing to complete the purchase of the property. Therefore, closing costs are a component of cash to close.
Cash to close includes the down payment, unlike closing costs.
The cash to close is the sum of the overall closing costs and down payment minus all credits or refunds and earnest money already submitted with the agreement.

Closing Cost vs Down Payment vs Earnest Money

Individuals often find down payment, earnest money, and closing cost confusing. If they do not clear this confusion, they may fail to calculate the amount they must pay to purchase a new property. To understand how these concepts differ, one must know their distinct characteristics. So, the table below highlights the key differences between them.

Closing Cost	Dow Payment	Earnest Money
It refers to the fees, charges, and points individuals must pay to finalize their home purchase.	This amount is a portion of a property's overall purchase price paid at closing when financing the purchase using a mortgage loan. It is not financed within the loan.	It is a good faith amount that a property's buyer transfer to an escrow account to show the seller their commitment to purchase.
One does not need to consider this when computing cash to close.	The down payment is a part of the cash to close.	One must consider the earnest money to compute cash to close.

Frequently Asked Questions (FAQs)

1. Are closing costs part of the loan?

No, they are not part of the mortgage loan. Additional costs range from 3-6% of the total loan amount that homebuyers must bear to close on a loan. One must remember that such costs do not count toward the down payment or the mortgage balance.

2. When to pay closing costs?

As a rule, such costs are payable when a property's title changes hands or the title's transfer occurs from the property seller to the buyer.

3. Are closing costs tax deductible?

In most cases, one cannot claim any tax deduction against the total cost. That said, the only home loan closing costs deductible on an income tax return for a tax year in which one buys a property are the real estate taxes paid upfront and points paid to decrease the mortgage loan interest.

4. Do closing costs include first mortgage payment?

No, these costs do not include the first mortgage payment. One must check the closing documents to know when the payment is due.