What You Need to Know About Closing Costs

Although a few costs and fees for buying a house may be paid ahead of time, the bulk of the financial settlement occurs at the closing table. If you haven’t been paying attention and listening closely to what to expect, you could be in for a financial shock when you sit down to settle up. Included here are costs above and beyond your down payment. The actual fees and costs involved vary but include property taxes, mortgage insurance, title search fees, and more.

Both the buyer and the seller have closing costs and what is traditional varies from state to state. Although there are regional “norms” for which party pays which fee, closing costs can be a point of negotiation. In a buyer’s market, you’ll find it easier to shift more closing costs to the seller. But in a seller’s market, with multiple offers, the seller doesn’t have much motivation to pay the buyer’s closing costs.

Itemized Closing Costs

This list is not all-inclusive but is typical of what buyers should expect in most closing transactions.

• Application Fee. Sometimes known as the loan origination fee, this fee covers the lender’s cost to process the buyer’s application. Most but not all lenders charge this fee and the exact costs vary. It will cover your credit check and might include the cost of the appraisal. Ask your lender what is covered and have him or her explain any costs you are unsure about. The exact charges in this fee can be negotiated and can be a good reason to shop for a lender with lower fees, even after being preapproved.
• Appraisal. This is a fee paid to a professional to assess the current value of the home separate from a real estate broker’s market analysis. Lenders use this assessment to validate the percentage of the buyer’s down payment and that the loan amount doesn’t exceed the home value. This may be paid prior to closing or at closing.
• Attorney fee. An attorney review of the buyer’s closing paperwork is not required in all states. The fee can vary dramatically and you can shop for it.
• Closing fee or escrow fee. This is the fee typically paid to the title company, escrow company, or attorney as an independent third party overseeing the closing of the transaction.
• Discount points. This is prepaid interest. One point is one percent of your loan amount. It is a lump sum payment that lowers your monthly payment for the life of your loan.
• Escrow deposit for property taxes and mortgage insurance. Often you’ll be required to put down two months of property tax and mortgage insurance payments at closing.
• FHA mortgage insurance. For FHA loans, you’ll be required to take out mortgage insurance that amounts to 1.75% of the loan. This often is not paid at closing but instead rolls into the loan.
• Flood insurance coverage. This fee is paid to a third party to determine if the home is located in a flood zone. If it is, the buyer will have to take out a separate flood insurance policy.
• Home inspection. Almost every lender requires the home be professionally inspected for structural defects and to assure it is inhabitable. This is another fee that can be negotiated or shopped for. Buyers can sometime negotiated a lower selling price if serious defects are revealed by the inspection. Lenders may decline to make the loan if serious defects are found.
• HOA fees. Home owner association transfer and fees are only included if the house is part of a home owner association. This transfer should show that the dues are paid current, what the dues are, a copy of the association financial statements, notices, special assessments, legal action, and other items that might be of concern. The buyer should review and understand these documents.
• Homeowners’ insurance. The first year’s insurance is often paid at closing and then rolled into the monthly mortgage payment going forward.
• Lender’s title insurance. Insures the lender that you will own the home and the lender’s mortgage is a valid lien. It protects the lender if there is a problem with the title. The insurance policy is related to the title search but a separate line item at closing.
• Owner’s title insurance. A title insurance policy separate from the lender’s policy that protects the buyer if someone challenges his or her ownership of the property. This may be optional but not taking out the policy is not recommended.
• Origination fee. See application fee.
• Pest inspection. An inspection for termites or dry rot that is required in some states and required for government loans. Expensive repairs can be required if termite, dry rot, or other wood damage is found.
• Prepaid interest. This is different from discount points. You may be required to prepay interest that accrues between closing and the date of your first mortgage payment.
• PMI. Private mortgage insurance. This is for privately held mortgages rather than government backed mortgages. PMI is usually required when the buyer’s down payment is less than 20%. The first month’s premium is due at closing. You can have this removed from you monthly mortgage escrow payment once you own 20% equity in the home (this includes appreciated value).
• Property taxes. Most lenders require the next 60 days of property taxes be paid at closing.Going forward these are escrowed in the buyer’s monthly payment.
• Recording fees. Usually a city or county fee for recording the change of ownership in the public land recorders.
• Survey fee. Not required by all states, this fee pays a survey company to verify property lines, shared fences, shared driveways, etc.
• Title search. Another fee paid to a title company. Also known as an exam fee, it’s a thorough search of property records ensuring that no one else has a claim to the property.
• Transfer taxes. Government taxes paid when title passes from seller to buyer.
• Underwriting fee. Another lender fee for researching whether or not to approve the loan.
• VA funding fee. Only applicable to VA loans, this can be paid at closing or rolled into the loan amount and some borrowers are exempt from the fee.

These are only typical fees and costs. Others may apply.

Closing Disclosure

Buyers are required to be provided a standard Closing Disclosure form at least three business days before the loan closing date. Previously known as a HUD-1, this is now a five page form providing final details about the mortgage loan you are buying (does not include reverse mortgages). It includes the loan terms, the projected monthly payments, and how much buyers will pay in fees and other costs to get the mortgage (closing costs). Use this three-day window to compare the final terms and costs to those estimated in the Loan Estimate that was previously provided by the lender. This also gives the buyer time to ask the lender questions before closing. Here is a link to a Closing Disclosure Checklist: www.consumerfinance.gov/owning-a-home/closing-disclosure/.

There are other important issues you want to consider before accepting the terms of a loan offer. How long you plan to live in the house determines if you are financially better off paying some fees up front or rolling them into the loan (5 to 7 years is a common breaking point). Also, be aware and question what are commonly referred to as “garbage or junk fees”. These include "document preparation fees", "document review fees", “appraisal review fees", and “courier fees”. While there are costs to the lender for these services, they are often in excess of actual costs. These can be challenged, negotiated, or reduced by going with a different lender. Some lenders use these as “profit points” rather than a cost of doing business.

Total closing costs for the average homebuyer will be between about 2% and 5% of the loan amount, excluding the down payment.

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