REAL ESTATE TOPICS:  CLOSING COSTS

Congratulations - you're buying a new home!  Exciting isn't it?  Even more fun than buying a new car perhaps.  Buying this house is probably the biggest purchase you have ever made.  And, it probably means that you are going to be making a significant down payment of thousands of dollars.  It will also mean that you will be making other up-front payments during the coming days and weeks (known as the escrow period - or simply as "escrow"), and when the deal is done or at "closing".  So called "closing costs" are the charges and monies that are due to a variety of service providers when you sign all of the paperwork, just prior to the recordation of the sale, title transfer and deed - and ultimately your possession of the property.

Simply being financially able to make the down payment is not the whole story.  You will need to have the ability to pay all of those other charges up front.

ASSUMPTIONS

Though every deal is unique, let's make some basic assumptions for a realistic example to discuss here.  Keep in mind that your numbers will vary depending on the specific property you purchase, the actual price, the date of closing, and the terms and conditions of the purchase agreement.  In some cases, the variation in costs can be significant.

In our example, let's say the purchase price of the property is $150,000.  You will be making an earnest money deposit of $2,500 with the purchase offer to be applied to your down payment at closing.  Your total down payment will be $30,000 (20% of the purchase price) meaning that you will pay the additional $27,500 at closing.  This will leave a balance of $120,000 to be financed.  Further, let's assume you will be obtaining conventional 30 year financing from a lender with whom you are preapproved.  Many other variations are possible - each variation is likely to affect your closing costs.

ESTIMATING CLOSING COSTS

Hopefully, this discussion will give you a pretty good idea of what will be involved in your total outlay for this purchase.

Know too that your lender is required by law to provide you with a "Good Faith Estimate" of all the anticipated costs associated with the loan within 3 days of your application.

And, your Realtor should provide you with an "Estimated Closing Costs" statement that will show an estimate of all the rest of the closing costs associated with the transaction.

Insist on receiving both soon after you have an accepted purchase offer - a contract.

Though these "estimates" should be fairly close to the actual costs - remember that they are estimates.  What a particular vendor charges you can vary - sometimes because of choices that you make after the estimate is prepared, or sometimes because of unexpected price increases from the vendor, or because of unforeseen circumstances or inspections that become necessary.

IMPORTANT REMINDER

Don't forget that during this time it is critical that you pay attention to your money matters and spending habits.  This is not the time to start running up the tab on your credit cards.  Make sure that all existing debts are paid on time and in full.  Do not make any major purchases or spend money that you do not have to.  You do not want your credit picture to change, in a negative way, in the eyes of your lender.  You do not have their money yet!  After this transaction closes and records - you are free to manage your financial affairs the way you see fit, but for now, keep it straight and narrow.

LENDER COSTS

Every lender is different and every deal is different.  Many lenders will charge you an application fee - most will want this money up front.  Application fees may sometimes be waived by the lender.  Some lenders charge as little as $14 - their cost in running a credit check.  Some lenders charge a set fee to cover what they see as their costs - it is typically about 1% of the loan amount - but it varies.

There may be other fees the lender charges as well.  Different lenders will have different names for their fees.  These "origination" fees can vary significantly.  It is important to pin the lender down and make them tell you exactly what their charges are going to be, i.e., what they are called and what they are for.  In our example, let's assume they charge $1,200.

Another possible cost could be "discount points".  A discount point is typically one percent of the loan amount.  These so-called "points" are normally a way to buy down the interest rate you will be charged over the life of the loan.

For example, the lender may tell you that you can get your $120,000 at 6-1/2% for 30 years with no points or, at 6% for 30 years with 2 points.  Though this can vary too, generally speaking lenders will charge 1 point for every 1/8 to 1/4% drop in the interest rate.  Those two points mean you have to come up with another two percent of the loan amount, or $2,400, up front - at closing.  That money goes into the lender's pocket - never to be seen again.  Yes, the lower interest rate will mean a slightly lower monthly payment (in this example, about $38 per month less) - but how many months will it take to recover the $2,400 you shelled out to get that lower payment.  Well, in this example it would be about 60 months, or 5 years.  Will you even be in this house for that long?  And, by the way, unlike the interest payments on home loans, points paid may not be tax deductible - check with your accountant.

Though different people feel differently about this issue, generally speaking it probably is not wise to pay points if you do not have to.  Some times in order to qualify for the loan you want, paying points is the only way to do it.  Certainly, you should consider the options and make your best decision based on your circumstances and expectations.

A lender may have any number of other costs or charges - often called "junk fees" by those of us in the business who do not approve of such practices.

PRIVATE MORTGAGE INSURANCE

In this example, we are assuming a down payment of 20%.  As long as you put 20% or more down on your purchase, lenders should not make you obtain "private mortgage insurance" (PMI).  If your down payment were less than the required 20%, the lender will require you to pay for this insurance.  The insurance would pay the lender some agreed upon amount if you were to default on the loan.  They would pay the lender - not you.  It does not protect you in any way.  If you go into default for nonpayment, you still suffer the consequences - late fees, interest, penalty charges, and possibly foreclosure.

To add insult to injury, the cost of PMI is rather significant.  On a loan this size, there may be an initial fee of about 1-1/2% of the loan amount - $1,800 in our example.  And, the monthly premium (added to your monthly payment) would be approximately $50 to $100.  That ends up being $600 to $1,200 per year for PMI that you can never benefit from.  And you will continue to pay that amount until you have at least 20% equity in the property - either through paying down the principal balance (which can take a very long time) or through appreciation in the value of the property (which would have to be substantiated by an appraisal that you would have to pay for).  And, once again, the cost of PMI may not be tax deductible.  Clearly, avoiding having to pay for PMI by putting at least 20% down is very desirable.

APPRAISAL

Assuming that there is to be financing, an appraisal will be performed as a basis for the lender to evaluate whether a loan should be made or not and if so, in what amount. It can also serve as some assurance that you are paying an appropriate amount for the property.  Since the lender will likely be the one choosing the appraiser, they most often collect for the cost of the appraisal themselves - asking you to write a check to cover that cost when they take your loan application.  An appraisal may cost as much as $300 or more depending on the property.  If not paid directly by or through the lender, most appraisers will require you to pay for this up front - at the time of service, some may allow it to be paid from escrow at closing.

ESCROW SERVICE

The escrow company provides a package of services that facilitates the closing of the transaction.  Upon opening an escrow account, they will deposit your earnest money in an insured account, order the title examination and insurance, communicate with all parties involved in the transaction, coordinate with the lender, prepare all of the paperwork, calculate all of the prorations and charges, explain all of the documents at the time of signing for both sellers and buyers, collect and disperse all of the monies, and record all of the necessary documents to transfer legal ownership of the property.  They do all of this in a fiduciary manner without bias to either sellers or buyers.  They must only follow written instructions signed by all parties to the contract.  The amount they charge for this bundle of services is customarily split evenly between sellers and buyers.  Every escrow company has a slightly different rate - Title Security Agency in Tucson, at the time of this writing, would charge $460 ($230 to both the sellers and buyers) to handle the transaction in our example.

There are additional direct costs that they will pass along as well:  courier fees, Fed Ex charges, wire fees, recording fees, etc.  Every deal has different circumstances - rarely do these costs exceed $100 total.

TITLE INSURANCE

Title insurance is one of those necessary evils that we all dislike paying for and, in most cases, never have need for.  But, it is more than worth it if you ever do need it.  It protects us from defects in title - claims against rightful ownership.

The cost of title insurance will vary from company to company.  In our example, Long Title Company would charge the sellers $836 for what is called owner's insurance.  This is because the seller is responsible for conveying "clear" title.  It provides protection for the buyer against defects which could be determined by inspection of public records, such as:  forged documents, incompetent grantors, improperly drawn or delivered documents, unknown or undiscovered heirs, misfiled documents, etc.

An ALTA title policy to protect the lender is paid for by the buyers.  In our example this would cost $408. This protects the lender's interest in the title, and therefore it protects the buyer's interest as well.  All of the same coverage mentioned above is provided, plus protection against:  existing encumbrances of record, defects known to the insured, and zoning ordinances or changes in zoning.

FLOOD CERTIFICATION / INSURANCE

Your real estate agent will take care of determining whether your property is located in a flood plain of any description.  There is no charge for that.  However, your lender and hazard insurance company may do so as well.  The lender will often pass this cost along to the buyers directly.  Normally this is less than $20.

If the property is in a flood plain, the lender will require flood insurance.  This can be rather costly:  in the range of $500 to $1,000 per year or more.

HOME INSPECTION

Though not an absolute requirement, a home inspection by a qualified licensed inspector is extremely important and highly recommended on all transactions - even new home purchases.  Prices vary significantly from company to company and may be based on the age, size, and complexity of the property.  A good home inspection may cost anywhere from $250 to $1,000.  The cost for an inspection of the home in our example would probably be about $485.

TERMITE INSPECTION

Termite inspections are typically ordered and paid for by the buyer during the ten day inspection period, after there is an accepted offer.  Who pays for it is a negotiable item in the purchase contract.  However, the thinking is that it is better from the buyer's perspective to have the inspection company working for them - not the seller.

The fee for this service can vary widely - anywhere from $10 to $100 typically.  In our example, let's assume the charge is $55.  It may be worth shopping around, but it is also true that you get what you pay for.  Is this really the place to scrimp and try to save a few bucks?

Not all, but most home inspection and termite inspection companies are now requiring payment at the time of service.  Some companies may still allow payment from the escrow company at the time of closing.

SURVEY

For the vast majority of real estate transactions in Tucson - at least for typical single-family residences - a land survey is not performed.  Typically, the property lines are pretty apparent and well established and most people do not feel that the cost of the survey is justified.  The legal description of the property is recorded on the deed.

However, buyers are certainly free to choose to have a survey performed.  The cost of this service will vary widely.  Some people would argue that it is advisable to have it done.  In some parts of the country, a survey is performed on virtually every sale.

OTHER INSPECTIONS

If the property is served by a septic tank, the sellers will normally be required to have it pumped, inspected, and certified at their expense.

Depending on the property there may be other inspections and discovery desired.  Maybe an inspection for asbestos or lead would be appropriate, or some other environmental survey.  Whatever inspection the buyers would like must occur during the contract prescribed inspection period.  Normally, this will be 10 days, but any period of time may be agreed upon by both the sellers and buyers.

INSPECTION CONTINGENCY REMOVAL (Repair Request)

Based on the findings of the variety of inspections made, the buyers will decide if they still want to pursue the purchase or not.  If you do, and there are significant material defects in the property, you may request that the seller make repairs.  So, upon completion of all of the desired inspections, you will fill out a Buyers Inspection Notice and Sellers Response (BINSR) form.  This is your communication to the seller of your acknowledgment of receipt of all necessary discovery information and your request for repairs, if any.  If material defects were found, it is perfectly reasonable to request that they be corrected.  Any structural or systematic defects found during a buyer's home inspection is an opportunity for you to request repairs.  If the sellers do not agree to the repairs, the buyers can rescind their offer.

You may also wish to consider asking the sellers for a dollar amount credit at the time of closing in lieu of repairs.  If you are capable of making the repairs or are willing to defer them, this may be a good way of saving some up-front money outlay.  Not all sellers are going to be willing to do this.  And, some lenders will not allow this to happen either, depending on the amount of money and what needs to be repaired - but if desired, it is worth a try.

HOME WARRANTY

It is not uncommon for the seller to agree to pay for a Home Warranty as part of the contract terms.  Many buyers see this as a big plus.  It offers them the assurance that the major mechanical systems and the appliances are covered for at least the first year.  Some sellers will refuse to pay for a Home Warranty and it can become a sticking point in the negotiations.  Regardless of who pays for it, generally speaking it is probably a good idea to have one.  A typical Home Warranty will cost about $350 for the standard coverage for one year.  Optional coverage for things like swimming pools, spas, roofs, etc., are available at additional cost.

HOMEOWNER ASSOCIATION

When the home being purchased is located in a subdivision, there is often a homeowners' association (HOA).  Most HOAs have dues that are payable on some regular frequency.

They may charge any variety of up front fees like a transfer fee or an application fee, or a document fee, or any other fees they or their management companies can think up to collect money.  The purchase contract should identify whether the sellers or buyers will be responsible for paying these fees.

The HOA dues, of course, will vary with each association.  The cost can run anywhere from a few dollars a month to several hundred.  The dues may be payable monthly, quarterly, semi-annually or annually.  Let's assume $20 per month, payable annually in our example.

Homeowner associations may also impose periodic assessments to supplement their regular dues for special maintenance or improvement projects.

All of this is required to be disclosed and sellers and buyers should have agreed in the purchase contract as to who is responsible for what.  Minimally, the routine is to have the regular dues prorated to the closing date.

HAZARD (HOMEOWNERS) INSURANCE

Naturally, you are going to want insurance coverage for your new home and its contents.  The lender is going to require coverage on at least the structure.  Rates for hazard insurance vary widely based on the property's location, size, age, materials of construction, amount of deductibles, and zillions of other factors.

And, as we all know, insurance rates will continue to increase.  A real "ball park" guess for the home in our example would be about $600 per year payable in advance.

PROPERTY TAXES

Taxes may be assessed by any number of governmental entities: state, county, municipal, and others.  Every property's tax bill will be unique.  It will be a matter of public record.  Generally speaking, in the Tucson area, a very "ball park" estimate of property tax cost is about 1% of property value.  However, understand that this number can and does vary considerably from one location to another.  The taxes are what they are.  The assessor's office will be able to tell you exactly what they are.

However, if the property being purchased is relatively new - say, less than a year or so old - it is possible that the tax assessor may have not yet assessed the property based on its improved value.  That is to say that the taxes are based on the land only.  And if the closing date is say, for example, September 9, and the property taxes have been $550 per year on the land only - but the assessor is about to reassess based on the improved value resulting in an increase to $1,350 per year.  If the sellers and buyers do not address this matter in the purchase contract, the buyer is going to end up being liable to pay the full assessment for the time prior to their ownership - obviously not an equitable situation.  This little twist can be difficult to address - primarily because you are dealing with unknowns.  One can never be sure whether the assessor is going to get around to valuing the improvement to the land in this tax year - sometimes they do not get around to it for a couple of years.  But even when they do increase the assessment, they will not tell you how much the increase is going to be prior to issuing the increase.  So, all parties are left with trying to negotiate a way for both the sellers and buyers to pay their fair share without being able to determine what that is.  Every circumstance will be a little different.  Competent real estate agents will be able to advise you to the best of their ability.  In the end, some amount of tax liability is going to have to be agreed upon so that the escrow officer has a number to prorate as of the date of closing.

PRORATIONS

Many of the charges discussed here are going to be prorated.  When the regular service provider or entity that is assessing the charge is unable or unwilling to bill the sellers and buyers independently, the escrow company (in accordance with the terms and conditions set forth in the purchase contract) will prorate those charges in as equitable a manner as possible to both parties.  The date of closing is normally the line of demarcation for payment responsibility.

IMPOUNDS

Impounds, or impounded funds, are monies that the lender requires the buyer to pay up front, for disbursement when due during the coming year, from an escrow fund they are going to set up associated with your loan.  This "escrow fund", as it is commonly and mistakenly called, is different than the current "escrow" process we have been talking about.  Property taxes, hazard insurance, private mortgage insurance (if applicable) and possibly other routine expenses that continually occur are going to be made part of this escrowed or impounded reserve.  The lender is basically requiring this so that the borrower does not forget or otherwise fail to pay for these items when they come due - possibly jeopardizing ownership of the property.

CLOSING COST SUMMARY

This Estimated Cost Sheet (PDF file) is typical of what your Realtor should provide you with.  In this case the figures are based on our example.  As you will see, the total estimated cost for the buyers is $34,878.63 which of course includes the $30,000 down payment.  So, the total estimated "closing costs" work out to be $4,878.63 - or, about 3% of the purchase price - pretty typical on most properties.

Copyright © 2006 Brokers Only Realty.  All rights reserved.  Rev 1206

DISCLAIMER

John P. Hale is owner and Designated Broker of Touchstone Residential Realty, Inc., 2485 West Tom Watson Drive, Tucson, Arizona 85745.  He has been a residential real estate agent in the greater Tucson Metropolitan area since 2000.  In addition to being licensed as a Broker rather than a salesperson, John holds the following designations awarded by the National Association of REALTORS^®:  ABR – Accredited Buyer Representative, ASR – Accredited Seller Representative, CRS – Certified Residential Specialist, and GRI – Graduate Realtor Institute.  And, John is among the very few that have been named, MRE – Master of Real Estate by the Arizona Association of Real Estate.

Please note that this article was written by him to reflect the author’s opinion of good practice at the time of its’ writing for the general benefit of those considering sale or purchase of residential real estate, it is not intended as definitive legal advice and you should not act upon it as such without seeking independent legal counsel.  Frequent changes in the law and standards of practice may cause this information to become outdated and no longer applicable or even incorrect.