When I first started real estate I was pretty young (22 years old) and the truth is I had never owned a home before, so I believed my real estate instructor 100% when I heard him tell the classroom “When you have a buyer ready to write an offer you should request the seller to pay their closing costs. It will save your buyer a lot of money.” Well, now that I’m a seasoned real estate agent who also understands homeownership first hand I am very confident when I tell you the truth behind the term Seller Paid Closing Costs. Many people misunderstand what really happens when agents discuss sellers paying closing costs for the buyer. For a majority of buyers it sounds like someone else is going to pay for something in their place. Let me explain it in an easy to understand outline, so when it’s your turn to buy a home you will know the full truth on how a seller pays for the buyer’s closing costs.
What Are Closing Costs?
When you buy or sell a house you will have a set of closing costs that will need to be paid on the day you close on the property. The seller side will have a set of their own closing costs, as will the buyer side. Your real estate agent (hopefully, that’s me) should have given you an estimate of seller expenses at the time of your listing appointment and if you’re a buyer the agent should have told you about the extra fees you occur at the time of your first buyers meeting with them.
A lot of times a buyer will estimate the cost of their future mortgage through a handful of popular websites designed to help buyers gage what it would cost to purchase the said property online. What happens is most of the time those online tools don’t account for the extra fees like taxes, homeowners insurance, mortgage insurance and the closing costs. Overall closing costs are a collection of fees that are grouped under the same umbrella. To help you fill in the gaps of what these unknown costs are I have listed them out for you.
Closing costs are the following:
- Lender fee / Origination
Varies from lender to lender. Could be a flat fee or percentage of your loan amount also titled origination point.
- Discount points / rate buydown
Varies from lender to lender. You might pay this to get a better loan rate.
The average cost in Minnesota is $350 and it depends on property type, location, and loan program.
- Home Inspection
Home inspections are not required in Minnesota, however I ALWAYS encourage my clients to have one. Some loan programs, like FHA loans, require specific inspections like termite, well, septic, etc…
- Credit Report
You can’t get a loan to buy a house without having your credit checked.
- Title/Escrow Company Fee
Fees paid to the title company for preparing documents, searching title for liens, closing the loan, etc. Every title company charges different rates, however they are all around the same cost.
- Title Insurance (Lender’s Policy)
Insures the lender against any liens that weren’t discovered during the title search.
- Title Insurance (Owner’s Policy)
Insures the buyer against any liens that weren’t discovered during the title search.
- Homeowner’s Insurance
One year premium paid at closing.
- Escrow / Impound Account
This is an account set up by your mortgage lender to pay certain property-related expenses on your behalf like your property taxes and homeowner’s insurance.
How Does The Seller Pay The Buyers Closing Costs?
Generally, buyers can estimate closing costs being between 2 – 5 percent of the purchase price of the home they are buying. For example, if you offer $150,000 on a home, you most likely will pay between $3,000 and $7,500 in closing costs. As a buyer you might consider having that paid by the seller, but is the seller really paying for those fees?!
Here is how it actually works:
To keep it simple we are going to base our math on a $200,000 asking price. The buyer loves this house and wants to make an offer. Due to the current market the buyer is going to offer full price to the seller.
Asking Price: $200,000
Closing Costs: $10,000 (I assume the 5% to play it safe for my clients)
Offer Written: $210,000
At Closing The Seller Gets: $200,000 from the sale
In the example above, the seller agrees to pay $10,000 in closing costs associated with the deal. The seller isn’t actually getting the home for any less or higher than the asking price. You see the buyer is actually financing the closing costs into their mortgage. The buyer can purchase the home with less money out-of-pocket, which can be a lifesaver for a buyer who may be short on funds. I have seen an increase in higher end priced purchases using this method, as well. Having a seller paid closing costs written in the purchase contract doesn’t mean anything other than it’s a financial decision made by the buyer.
There is one more thing you need to be aware of when you are rolling in the closing costs to your loan. The new loan amount can not exceed what’s called the Loan-To-Value ratio (LTV). Which means the amount of the loan compared to the to the value of the house, based on the appraisal needs to still fall in line. In simpler terms, let’s say the house is worth $200,000 and the bank will loan up to a 95% LTV, which means they will loan the buyer up to $190,000.
There is one more step called the appraisal. The appraisal will determine the value of the property. Don’t confuse the price of the house with the value of the house. The bank will review the house and tell you what the value of the house (what they think the house is worth) from the appraisal, which is a report prepared by a professional. The selling price could be higher or lower than the appraised value.
Here is the thing to watch out for regarding appraisals, if you had offered above what the appraisal evaluates as the value of the property then that difference needs to be made up some how and in a lot of cases the seller will tell the buyer to come to closing with that difference. To make sure you don’t get stuck with that type of issue have your real estate agent do a home evaluation on the property you are making an offer on before submitting the contract to the seller.
Closing costs can be quite expensive depending upon the loan amount the bottom line is to be sure you take them into account when making your offer. I hope this helps you to understand the truth behind seller paid closing costs. If you have any more questions, please feel free to reach out to The Ryan And Kelly Team. We are here to assist you with all your real estate needs.