What are closing costs on a house?
One of the last financial hurdles in finalizing a home sale is settling closing costs. Closing costs are the fees associated with a mortgage loan that are paid at the very end of the homebuying process and are the final step when buying a home.
Usually amounting to 3% - 5% of the total loan amount, these fees typically include appraisal costs, credit checks, taxes and other associated charges.
How closing costs are calculated
At the beginning of the mortgage loan process, lenders will provide the borrower with a “loan estimate” which lays out what expenses the homebuyer can expect. Closing costs are included in this early estimate.
Lenders are required to provide potential borrowers with a good faith estimate soon after a loan application is filed. While good faith estimates lay out mortgage terms and expenses, such as interest rate and closing costs, borrowers are not committed to those fees until they officially accept the lender’s offer.
The “Projected Payments” section will outline the loan’s interest, monthly installments, as well as a breakdown of closing costs, which can cover appraisal fees, property taxes, escrow fees and other expenses.
Typical closing cost fees
Closing costs are not one single expense at the end of a home sale, but are rather a collection of fees covering several factors and services that were provided during the homebuying process.
Some of the most common fees to be paid upon closing are listed below:
1. Appraisal fees
2. Homeowners insurance premiums
3. Property taxes
4. Escrow fees
5. Miscellaneous fees
In order to assess the collateral value of a home, lenders will schedule an appraisal of the property. The appraiser acts as an impartial third party and evaluates the homes condition, amenities and market outlook.
The appraisal benefits the lending organization by ensuring the size of the loan is an appropriate investment. If a borrower is unable to make their monthly loan payments, and the home is put back on the market, the lender can sell the home at the appraised value and recoup their losses from the failed loan.
While the appraisal is scheduled by the lender, appraisal fees are paid by the borrower at closing. These fees usually amount to a few hundred dollars.
Homeowners insurance premiums
Homeowner’s insurance covers damages that may occur to the home and protects the owner from liability should injury or death occur on the property.
These policies compensate for interior and exterior damage, as well as personal assets or belongings kept on the property.
If there is a fire or a weather event that damages the property, the homeowner’s insurance policy will compensate for the repair costs. These policies also provide protection for the homeowner against any lawsuits that arise from incidents occurring in the home or on the property.
While some homeowners will provide their own insurance, these policies can also be arranged by the lender. If a borrower decides to acquire homeowner’s insurance via their lender, an additional fee will be applied at closing.
Local governments will typically collect taxes on a property when a new owner purchases a home. The amount to be paid is relative to the property’s value and local legislation. Whether this expense is absorbed by the buyer or seller is settled early on in negotiations and is reflected in the language of the contract.
Real estate purchases require several exchanges of funds, documentation and other assets in order to close a sale. To ensure these exchanges happen and the assets are appropriately distributed, buyers and sellers will often use an escrow account.
Escrow companies act as an impartial third party to provide both the buyer and seller with the guarantee that their investments are protected throughout the course of the sale.
Upon closing, the escrow company will allocate the funds and documentation according to the agreed-upon contract. They will also charge a fee for acting as the third party for the transaction, which is often folded into closing costs.
The size of an escrow fee is proportional to the sales price of the home and vary from mortgage to mortgage.
Closing costs can also include a number of other fees that may be unique to a loan depending on the type of loan or resources used by either the buyer or seller. All of these fees are disclosed by the lender in the loan estimate, which explains each cost in detail.
Registration with local governments, attorney fees and credit checks can all result in costs that will need to be settled upon closing of the sale.
Closing costs are outlined in the lender’s “loan estimate,” which is provided following mortgage preapproval.
These projected payments will outline what fees will be paid at closing and provide details on each expense that is listed.