What are closing costs?
Closing costs are fees that arise from a real estate transaction, typically occurring during the home buying or selling process. These costs, collectively known as "closing costs," are settled at the real estate closing.
For buyers, these expenses are categorized into three main groups:
-
Lender fees (paid to your bank)
-
Title fees (paid to your real estate attorney or title company)
-
Property-related fees (services mandated by your lender)
Usually, a single bank check or wired funds are brought to the closing, covering the costs owed to various parties.
1. Lender fees
There is no shortage of fees that your lender will assess as you officially take ownership of your home. Among these expenses are:
-
Origination fee
-
Mortgage application and underwriting
-
Home appraisal
-
Prepaid mortgage interest
-
Private mortgage insurance
-
Other miscellaneous fees
-
-
Title search and insurance: Ensures the property has a clear title and protects the lender's interests.
-
Survey fee: The cost of verifying property boundaries.
-
Attorney fees: If an attorney is involved in the closing process.
-
Escrow deposit: A portion of property taxes and insurance held in an escrow account.
-
-
Recording fees: Charges for recording the new mortgage and deed with the county.
-
Private Mortgage Insurance (PMI): If your down payment is less than 20%, you may need to pay for PMI.
-
Homeowners association (HOA) fees: If applicable to the property.
-
Property tax: A prorated amount for taxes owed by the seller.
-
Transfer taxes: Taxes imposed by local or state governments for transferring property ownership.
Loan origination fee
The largest closing related expense that you'll pay is your loan origination fee, essentially an additional charge assessed by your lender for processing your loan and extending you financing. Most lenders charge origination fees between 0.5% and 1% of the home's purchase price, so your origination fee could add $2,000 - or more - to your home's effective purchase price.
It has become more popular, however, for lenders to offer no origination fee mortgages. Lenders currently offering this arrangement include:
-
Ally Bank
-
PenFed Credit Union
-
Navy Federal Credit Union
Mortgage application and underwriting
In addition to your origination fee, many lenders charge mortgage application and underwriting fees as well, which are typically due at time of close. In many instances, you can expect these expenses to run between $300-$750.
Appraisal fee
Before your bank clears you to close on your new home, they'll likely mandate that you have an appraisal completed, which will confirm to the bank that they're not lending you more money than your home is actually worth.
Banks may choose the appraiser, but typically must cycle through a list of companies to ensure fairness. As you probably guessed, this appraisal will be completed at your expense, usually about $400, but dependent on your location and the size of your new property.
Prepaid mortgage interest
Depending on the type of loan that you choose, you may have the option to purchase "points," which essentially means that you'll prepay mortgage interest in exchange for lower ongoing monthly payments. Should you go this route, this money will be due at your closing.
The expense will, of course, depend upon prevailing interest rates and the number of points that you purchase.
Prepaid mortgage interest also applies to covering interest on your physical loan for the remainder of the month that you close.
Mortgage insurance premiums
Generally, borrowers that opt for Conventional loans with less than a 20% down payment will need to pay ongoing private mortgage insurance (PMI) until they reach a LTV between 78%-80%. And while PMI is not a closing cost, other programs, like FHA mortgages for first-time buyers, assess fees known as mortgage insurance premiums (MIPs) that are.
FHA loans assess two different MIPs:
-
An upfront premium worth 1.75% of the loan amount (aka the closing cost component)
-
An ongoing annual premium between 0.25%-0.75% of your loan amount
Other miscellaneous fees
Still, there are more fees that your lender is either responsible for or services they mandate you have completed. These miscellaneous closing costs are far less costly than the ones we've talked about already. For example, you may need to pay for:
-
A flood certification
-
Credit reporting fees
-
Courier fees
2. Title and legal fees
You'll also be responsible to pay title and attorney fees, which will ensure there are no liens, others with a stake to the property, or other legal issues with the home that you're about to take ownership of. The main closing costs you'll need to account for in your calculations include:
-
A title search and title examination
-
Title insurance (one-time premium)
-
Closing and settlement fees
-
Notary charges
Title search and examination
The real estate attorney or title company that you hire will perform a title search, an in-depth process that includes a review of public records in order to verify a property's ownership history and ensure that there are none of those legal issues we just mentioned.
You know you're good to go if your title search comes back "clean".
Costs vary by region and attorney, but you can generally expect to pay between $200-$1,000 for a search. Older homes with more complicated ownership histories may be on the higher end of this price range.
Title insurance (one-time premium)
After your title search is complete and any challenges resolved, your lender will likely mandate that you purchase title insurance. This insurance will protect the bank in the event that your title company or real estate attorney missed something or made a mistake in the search process.
Title insurance is normally structured as a one-time premium that will protect you for as long as you own the home, and this premium will be due at closing.
The premium will depend upon the value of your home, but you can expect to pay between about $400-$1,000 or so, on average.
Closing and settlement fees
3. Property fees
Finally, you'll be assessed some property-related fees, which may be payable to your lender or third parties, but are more directly related to your new home than to your home loan. The three most common expenses here are:
-
Home inspection
-
Homeowner's insurance
-
Flood certifications
-
Survey fees
-
Insurance riders
Home inspection
A home inspection is not actually a mandated closing cost per se, but it is a good idea nonetheless. A thorough inspection will help you identify whether your new home is free from any structural or system failures, as well as help you to estimate when they may surface in the future.
Some inspectors also offer well water and radon testing too, as needed.
Homeowner's insurance
Most all home lenders that we've come across require buyers to prepay an entire year's worth of homeowner's insurance as a condition for closing on a home. And your property insurance is not anything to be cheap with either, as it will protect you financially in the event of natural disasters or accidents such as tree damage, flood, and fire.
Those homes with riskier assets such as swimming pools typically carry pricier insurance premiums.
How to calculate your closing costs
With all of these pieces in place, it becomes easy to calculate the total cost of your closing costs: just sum up all the individual components here. This can be tricky, since some are fixed dollar amounts, while others are based upon fixed or flat-rate arrangements.
Fear not, though.
We've built a closing cost calculator for you to use to estimate how much money you'll need to save in order to take ownership of your new home.
How expensive are closing costs in total?
Closing costs around the country vary by state, sometimes by a wide margin. But on average, it's wise to anticipate closing costs at around 2-5% of your loan amount, though they may often hover closer to 3%.
Three primary factors heavily influence the total costs:
-
Real estate taxes in the town of purchase
-
Closing date within the month
-
Existence of a Homeowner's Association (HOA)
Let's delve into these factors.
1. Property taxes
2. Actual closing date
Many home buyers don't realize that the actual calendar date of their closing may impact what they'll pay on closing day. The reason for this? The month of your close is the only time that you'll prepay mortgage interest (outside of buying points). If you close on the first day of July, for instance, you'll pay all of July's mortgage interest upon closing.
Contrast this to someone that closes on the 30th, where only one day of interest will be due.
3. Any potential homeowner's association
If your new home or condominium belongs to a homeowner's association, this will increase your closing expenses a bit. HOA communities typically have transfer fees in the $200-$300 range but may assess other incidentals as well.
All of this is in addition to potentially hundreds of dollars per month in ongoing HOA fees.
Homeownership is expensive, but totally worth it!