Would you rather pay $237,500 for your new home or $250,000? Would you rather have a 4.25 percent interest rate or 4.5 percent? The instant reaction is to say you would rather pay the lower price and get the lower rate. The more prudent reaction would be to ask, “What’s in it for me if I pay more in price or rate?”
Credits! That’s what’s in it for you! Closing cost credits! Here are some areas you can save thousands of dollars at closing for your new home mortgage or mortgage refinance. Use mortgage calculators to see the positive trade-offs you can make between cash needed to close your transaction and your monthly mortgage payment by using credits from others in the transaction.
Credit limits
Currently FHA will allow credits of up to 6 percent of the sales price, or loan amount on a refinance, for the borrower’s closing costs. This amount is being reduced to 3 percent of the value in September 2010. Typically 3 percent is enough to cover all non-recurring (fees for services like lender, title, settlement agent) and perhaps a portion of the pre-paids, or recurring costs (interest, taxes, insurance). On a $250,000 sale with FHA financing you may receive up to $7,500 in credits for closing costs beginning next month.
For conventional mortgages, Fannie Mae and Freddie Mac, the credits increase as you put more money down. For 5 percent down you are allowed up to 3 percent in closing cost credits, for 5.1 percent to 19.9 percent you may receive up to 6 percent and for 20 percent or more down a whopping 9 percent credit towards closing costs. Note that the credits may be used to prepay taxes, buy down the interest rate an in many cases actually pre-pay the interest into the coming year.
Note that whatever the amount of credits you are receiving they cannot exceed the actual closing costs on your transaction. If the seller agrees to pay $7,500 in closing costs for you and your total closing costs are only $7,100 the seller will only pay the $7,100 in actual costs.
Who can provide credits?
Only “interested parties” to the transaction may pay closing costs. This means only the buyer, seller, lender or real estate agent. Regardless of who is providing the credit against your closing costs the same limits above are in effect. This means if the limit is 3 percent of the purchase price you can get 1 percent from the seller and 1 percent from each agent — provided of course they all agree.
Note that any credits must be made through the settlement agent and must show on the closing statement, known as the HUD-1. Any credits or payments made outside of settlement that are not disclosed to all parties are in violation of RESPA regulations.
How much do you save?
Using the monthly payment calculator and the mortgage closing costs calculator you can see how much you can save by purchasing a home for $250,000 with a $7,500 credit from the seller instead of paying $242,500 and paying those closing costs yourself. Assuming 10 percent on either purchase price and a 30-year fixed-rate loan at 4.25 percent, the $250,000 price will give you a mortgage payment of $1,107 per month and the $242,500 price will have a payment of $1,074. Only $33 per month more saves you $7,500 in cash at closing. If you divide the savings, $7,500, by the higher monthly payment, $33, you discover it will take you almost 19 years to “save” the extra cash to close through your lower mortgage payment. In this case there is a definite benefit to paying a higher sales price for your home and having a credit to pay your closing costs.
What about on a refinance? Is it worth it to pay a higher interest rate? Using a refinance calculator you can see that it often makes sense to have a higher interest rate and have the lender pay your closing costs or take a no-point loan.
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