How to Budget for Closing Costs When Buying a Home
Many home buyers, especially first time buyers, focus all of their savings on the down payment. However, they also need to factor in closing costs, which may require almost as much money. Total closing costs vary from one home to the next, even if some of the related expenses stay the same. Home buyers need to budget for their closing costs just as they would for a down payment. With this information, buyers will have a better idea of the amount they will need to save, and how they can pay for it.
How Much Are Closing Costs?
As a general rule, home buyers can expect to pay about 1-5 percent of the home’s value in closing costs. This is quite a large range, from $2,000-$10,000 for a $200,000 home. The amount buyers pay depends on their circumstances, the loan, and the type of home they choose. When creating the initial purchase offer, buyers may often ask the home seller to cover some or all of the closing costs. However, buyers should plan for the possibility that they may need to pay for all closing costs themselves.
What Are Closing Costs?
Often, when potential home buyers begin to plan for closing costs, they can get confusing. Some of the closing cost expenses are static and some are not. While the actual charges may vary depending on the lender, these payments are generally consistent regardless of the time of month or year the buyer purchases a home:
- Origination Fees: The costs for the lender to prepare and execute the mortgage
- Title Fees: Expenses related to a title search and insuring the title against future claims on it
- Credit Check: Nominal fees that some lenders may charge related to obtaining borrowers’ credit reports
- Home Warranties: A type of insurance policy that covers some of the appliances and systems of a home
- Recording Fees: The cost to record the sale with the county recorder
- Broker or Agent Fee: The price of the real estate agent’s services covered by the buyer
- Inspections and Appraisals: The price of a home inspection or property appraisal, which is often scheduled by the lender but paid by home buyers
If buyers decide to use the same lender throughout the home buying process, they can usually expect these closing costs to remain the same.
Variable Closing Costs
Other closing costs can be more difficult to budget. For example, buyers who purchase a home in a high property-tax area will probably have to pay more than they would for a home in a lower property tax area. Another variable closing cost expense is based on timing – as a buyer who closes at the beginning of the month may pay more in prepaid interest than someone who buys toward the end of the month. Common variable closing costs include:
- Property Taxes: Costs paid to the county, city, school district or other entity, to fund the operations of that entity
- Prepaid Interest: Interest on the loan prorated by the number of days until the end of the month
- Homeowners Insurance: Coverage to protect the homeowner’s and lender’s investment in case of damage
- Private Mortgage Insurance: Protection for the lender on low down payment mortgages, in the event that the buyer defaults on the loan
- Discount Points: Percentage points of the home’s value, paid by the buyer to lower the loan’s interest rate
The difference between closing on the second of the month compared to the 30th could be hundreds or even thousands of dollars. As such, buyers on a strict budget should carefully consider the closing date before they agree to a particular timeline.
Considering Different Closing Cost Options
Adding closing costs to the amount of a down payment may have buyers wondering if there is any way to decrease the amount of closing costs. While some of these closing expenses may be negotiable, many are not. Higher closing costs may include discount points that require more money up front, but lower the monthly mortgage payment. In some cases, buyers may have to pay higher closing costs in order to qualify for the interest rate that they need to buy the home for a specific price. Buyers should keep in mind that lenders offering very low closing costs may charge a higher interest rate to compensate.
Closing costs often require thousands of dollars, so buyers need to prepare for them. By understanding when closing costs can be higher or lower, buyers can create a budget that will allow them to save enough for the day they close on a home.