Purchasing a home is the largest investment most people make in their lifetime. There are so many things to know, so many things to do, and so many things to remember. When it comes to the purchase of a home, due to the size of the purchase price most people require some type of financing. Financing is generally procured from a bank or mortgage lender. Once the buyer is approved for their mortgage, they receive an estimate of potential closing costs related to the loan.
💰 What are closing costs?
When obtaining a mortgage, as with most things in life, there are costs associated with the creation of that loan. Those costs are commonly referred to as the buyer’s closing costs. These closing costs are paid by the buyer during the purchase process. The costs may include title searches, title insurance, surveys, taxes, deed fees, credit report fees, appraisal fees, and loan origination fees. This list is indeed not all-inclusive but gives the general idea of the types of fees and items a buyer may be responsible for or incur through their lender during the purchase process.
💵 What are Closing Costs Based on?
Closing costs can be estimated with relative accuracy. These costs are based on the purchase price of the house. Generally speaking, they are approximately 2 to 5 percent of the purchase price. For example, if a buyer purchased a home for $300,000, they could be reasonably sure that their closing costs would fall somewhere between $6,000 – $15,000.
💲 What are the Typical Closing Costs for Buyers?
Typical closing costs can be broken down into three primary segments. These segments include lender costs, title fees, and prepaid costs. Lender costs vary depending on the type of loan and the fees of the lender. Some lenders list the costs individually, while others use just one line and lump all of the cost into “lender costs.” Either way, the lender’s fees include a wide variety of items. The cost of the appraisal ordered by the lender will be included here. Any administration fees or processing fees can also be found here. The lender may allow “discount points,” which are used to decrease the interest rate on the loan. For instance, a discount point is equal to one percentage point. When that percentage point is paid upfront, the buyer can decrease the interest paid on the life of the loan. This can be an excellent financial decision if the buyer has access to excess cash at the time of purchase.
Title fees are an equally significant portion of the closing costs. This section includes any costs associated with the title of the property. There are transfer fees, settlement services, and fees associated with the title search. This is also where the buyer will pay for their title insurance. Title insurance is a precautionary means to ensure that the buyer receives a title free of liens or other encumbrances. Some buyers mistakenly opt to forgo title insurance in order to save money at the time of purchase. However, this can be extremely risky. Without title insurance, if it turns out that there are liens or other title issues, the buyer will need to hire an attorney to resolve the issues. This can be costly and time-consuming. This is certainly not an area to neglect when purchasing a home.
Lastly, prepaid costs are also accounted for within the closing costs. Prepaid costs include things like payments for home owner’s insurance and property taxes. In many cases, the lender creates an impound account that holds these funds and pays these expenses as needed. This can be a benefit to the buyer as they will not have to worry about a large property tax bill at the end of the year because the property taxes are paid in advance from this account. Some lenders require mortgage insurance, as well, however often if the buyer provides a minimum of a twenty percent down payment, they may be exempt from this requirement.
📝 Which Closing Costs are Tax Deductible?
Unfortunately, the majority of the fees and expenses that create a buyer’s closing costs are not tax deductible. However, the year that the home is purchased a buyer can often deduct mortgage interest and applicable property taxes. In areas with higher property taxes, this can be a significant deduction.