Mortgage rates are near their lowest levels of 2014 with many consumers reporting loan APRs in the 3s. However, as mortgage rates have dropped, closing costs have climbed.
According to Bankrate.com, mortgage closing costs are 6 percent higher as compared to last year. Following new loan regulations and installing additional financial safeguards has added to bank costs, which banks have passed on to consumers.
However, there are ways to limit what you’ll pay to the bank at closing; and to ensure you get a better mortgage loan, too.
Avoiding the common errors consumers make during the loan selection process is the best place to start.
Mortgage Closing Costs: How They Work
All mortgage loans require closing costs. The costs can be paid by the borrower, by the lender, or by a combination of the two.
Mortgages for which the costs are paid by the lender in-full are known as “zero-closing cost mortgages”. In exchange for paying such costs, mortgage lenders raise the mortgage interest rate of borrower by some nominal amount.
Mortgage rates for a zero-closing cost mortgage will typically price one-eighth to one-quarter of a percentage point higher than a mortgage for which the borrower is paying closing costs on his own.
Closing costs are broken down into two types — mortgage lender closing costs and third-party closing costs.
Mortgage lender closing costs may include such items as origination and discount points; underwriting fees; and, document preparation fees.
Lenders often give their fees unique names which can make it difficult to compare specific loan costs between banks. This is why it’s better to compare total lender costs rather than any one specific line-item.
Lender fees are summarized in Section 800 of a Good Faith Estimate.
The second type of closing costs — third-party closing costs — are costs paid to companies other than your lender. Third-party closing costs may include appraisal costs, credit report costs, tax service fees, and title insurance.
Your lender may recommend a particular third-party service but, as the borrower, you are under no obligation to use the recommended provider.
According to Bankrate.com, the typical borrower should expect to closing costs of $2,539 for a $200,000 mortgage.
4 Mistakes That Lead To Unnecessary Closing Costs
Closing costs accompany every mortgage loan made. You can’t get around that. However, you can take steps to make sure you don’t pay more closing costs than are necessary.
These five tips should help you minimize what’s owed at closing.
Don’t Overpay On Discount Points
Discount points are a one-time, upfront fee paid at closing which gets a homeowner access to lower mortgage rates than “the market”. They’re paid as a percentage of your loan size such that 1 discount point carries a cost equal to 1% of your loan size.
A $200,000 loan with 1 discount point, therefore, would require $2,000 in “points” to be paid at closing.
For homeowners who plan to keep their mortgage for 7 years or more, paying discount points can be a sensible way to pay a little bit upfront in exchange for longer-term mortgage savings.
However, discount points have the secondary effect of lowering a loan’s APR. Because of this, lenders will often use discount points as a way to make rate quotes look more attractive in the marketplace.
Lenders know that consumers shop by APR even though they shouldn’t.
One way to reduce your closing costs, then, is to pay the proper number of points for your particular situation, which may actually be zero. Discount points can be tax-deductible, but they can’t be refunded once they’re paid.
Opt For Low- Or “Zero-Closing Cost” When Appropriate
Opposite from paying discount points, mortgage borrowers will typically have the option of doing a low-cost or zero-closing cost mortgage. Loans of these types don’t reduce the total cost paid — they reduce the cost paid by the borrower.
With a low-cost or zero-closing cost mortgage, closing costs are paid by the lender on behalf of the borrower. In exchange for paying the fees, the lender will raise the mortgage interest rate for the borrower’s loan.
The more costs that the lender covers for the borrower, in general, the higher the increase to the mortgage interest rate.
Low- and zero-closing cost mortgages are appropriate in a number of situations including scenarios in which the borrower plans to move or refinance within the next 36 months or so; or, when the borrower expects that mortgage rates may drop in the future.
Low- and zero-closing cost mortgages are a good way to “step down” with your mortgage rate while the market gradually improves.
Choose The Proper Loan Type For Your Needs
Today’s home buyers have access to a bevy of mortgage products. Buyers can choose from between conventional loans, FHA loans, VA loans, USDA loans, jumbo loans, and more. Each loan type meets a specific borrower need.
For example, FHA loans are typically best for buyers with less-than-perfect credit and minimal funds for a downpayment. VA loans, by comparison, are best for homeowners with military experience who wish to put little or nothing down.
Conventional loans are the default choice for buyers with twenty percent down, and USDA loans can be terrific is sparsely-populated parts of the country.
Each loan, however, comes with its own set of closing costs. Select the wrong loan type for your needs and you may pay more than is necessary.
For example, a FHA loan requires 1.75% of the loan size to be paid at closing, or $1,750 per $100,000 borrowed. For borrowers able to make a downpayment of five percent or more, using a conventional loan instead could be giant money-saver.
The same is true for the VA home loan. VA loans allow for 100% financing, but typically require a two percent “funding fee” to be paid at the time of closing. That 2% cost must be weighed against the cost of not using a VA loan.
USDA loans carry upfront closing costs, too.
Therefore, when choosing your loan type, consider more than just the mortgage rate — consider the loan’s upfront costs as well.
Choose A Realistic Rate Lock For Your Loan
Another way to reduce your loan closing costs is to lock your mortgage rate for the appropriate time frame.
Rate locks are typically available in 15-day increments up to 60 days, and then in 15- or 30-day increments thereafter.
Mortgage lenders “charge more” for longer rate locks. A 30-day mortgage rate lock is less expensive than a 60-day rate lock, for example, and a 60-day rate lock is less expensive than a 90-day rate lock.
The additional costs of a longer-term lock are paid as either cash as closing, or in the form of higher mortgage rates. An extra 30 days on your rate lock may add 25 basis points (0.25%) to your mortgage rate, in other words.
However! Lenders also charge fees for “blowing” a rate lock. That is, not having the loan funded during its current lock-in window.
Blowing a rate lock require a rate lock extension, and rate lock extensions carry high costs. It’s more expensive to extend a 30-day rate lock by fifteen day, for example, than it is to select a 45-day rate lock at the start.
Keep your closing costs low by selecting a realistic and appropriate rate lock for your loan.
Get Today’s Live Mortgage Rates
Mortgage rates are near their lowest levels of 2014 but that doesn’t mean mortgages are cheap. Rising closing costs can take a bite out of savings and increase your costs of homeownership. Be smart about your loan and how you pay your fees.
See today’s rates now and consider comparing a “full-cost” loan with a “zero-cost” one. Rate quotes are available online at no cost and with no social security number required to get started.
By: Dan Green