What Exactly Are Closing Costs?
By mortgage writer: Dave Leonhart

One of the most commonly asked questions are about closing costs. Admittedly, this can be confusing at first, or if not properly explained, but I think you’ll find it fairly easy understand, so let’s get started.


 Points
   

Recurring closing costs
   

Non-recurring closing costs
   
Fees connected with purchase transactions
   
1. Points or Discount Points
   
  Paid at closing, this is a one-time fee that you can spend to lower (or buy-down) your interest rate over the life of the loan. It’s a "you can pay me now, or you can pay me later” situation. You can calculate this easily by going to the mortgage calculators located here, and choose the “Should I Refinance” calculator. This is a simple calculation determining how long it will take you to recover the cost of the loan based on how long you will live in the home.
   
2. Recurring closing costs
   
  Don’t let the term scare… this is the stuff that you would have to pay regardless of getting a new loan or not.

We find a lot of confusion here, not just with borrowers such as you, but with many ‘loan agents’ who simply don’t understand how to calculate these costs correctly. In fact, I would spend quite a bit of time explaining the good faith estimate a potential client gave me from another lender is different from mine because the loan agent didn’t even bother to calculate these fees, or did it incorrectly.

So pay attention to this part of the story!

Recurring closing costs consist of:
   
  Prepaid interest
   
 

Remember, mortgage interest is paid in arrears (behind). This means when you are making your July 1st payment, it is for the use of the money for June.

So, let’s assume your loan closes December 15th, you must pay the interest on the new loan from December 15th through December 31st, which is collected from you and put into escrow. This also gets your payments situated to be due on the 1st of the month rather than due on the 15th.

Okay, so now December is out of the way and paid up since you will be living in the home beginning December 15 through the 31st and you have paid the interest that was due. This is the term “Pre-paid Interest” you will find in your good faith estimate.

Note: If you’re refinancing, you’ll also owe the previous lender interest until they receive the funds which are collected and dispersed through escrow. This sometimes creates an overlap where you’re paying interest on two loans for a day or two… or three... or four. (We recommend not closing your loan on a Friday to minimize the interest you have to pay on both loans, which would be four days if closed on a Friday)

Are you still with me? Now, here’s why you seem to get a break in your payments for a month after just getting your new loan.

You’re also going to be living in the home through the month of January, right? Well, since mortgage interest is in arrears your first loan payment will actually be due February 1st, for the use of January. (There, that’s some good news isn’t it?)

Property Taxes

Now this is just a simple matter of timing. Here in California, the property tax year runs from July 1st through June 30th, and your property taxes are due in two installments.

So, for example, if you are refinancing in October then your first payment isn’t due on your loan until December, so your property taxes could become delinquent before your first payment is even due! (December’s property taxes are considered delinquent after December 10th)

Therefore, if you haven’t already made this property tax payment before refinancing in October, you will be required to pay this amount which is collected in escrow and paid out to the appropriate County.

Hazard (fire) Insurance

When you close your loan the lender may require that you have paid 3 to 4 months of fire insurance. Often when refinancing you may only have a couple of months left on your policy. If this is the case, the lender wants you to have paid at least six months of insurance before they will fund your loan.

As usual, the escrow or attorney will contact your insurance agent to bring the policy up to date. Note: If your property is a condo, and insurance is paid thru the homeowners association, then this will not apply.

Impound Account (Property Taxes & Fire Insurance)

This can be a pain in the neck. If you are refinancing near the time when your property taxes are due (as I explained above) your ‘old’ lender may have all or part of your tax payments in an impound account, and will be unwilling to part with it until they are paid in full. Therefore, you have to pay one installment of your taxes for the new lender, and will be refunded, at a later date, the impound money from your old lender.

   
3. Non-recurring closing costs
   
  Title Insurance

The fee is given to the title company. Whether you’re purchasing a home or just refinancing your existing loan the lender will require that you obtain a title insurance policy. This gives the lender a guarantee by the title insurance company, as to what liens are connected to the property on the day the loan closes.

Escrow or Attorney's Fee

The fee is given to the escrow (or attorney). An Escrow (or attorney) is an independent third party whose responsibility is to gather all the paperwork together for you to sign and also manage and distribute the funds to the appropriate parties.

Appraisal Fee

The fee goes to the appraiser for the purpose of appraising the property. The lender requires an appraisal for most loans to assure the value is correct since their loan will be attached against the property for security. Appraisers are paid either COD at the time of arrival or paid at the close of escrow.

Appraisal Review Fee

If the appraiser is not on the lender’s list of approved appraisers, or if the value seems to be out of line with other properties in the area, the lender will request that another appraiser review the original appraisal. This is generally done by what is called a desk review where the review appraiser simply gives the appraisal a cursory overview.

Origination fee (Sometimes called an Origination point)

In some states it is a common practice for the broker to charge a 1% "origination fee" and even require an "up-front" non-refundable deposit. Regardless, if the lender is charging this fee, it is usually a percent (1%) of the entire loan amount. Some loans, such as FHA loans, actually require this fee to be charged or so designated.

Lender's Fee

These are the most varied fees from lender to lender and can be labeled many different ways depending on the lender. Typically, they consist of: a) Underwriting Fee (the person who actually reviews and approves your loan) b) Document Fee (the cost to print and arrange your loan documents c) Processing Fee (the cost to gather up and properly arrange all your paperwork so the lender “approves” your loan) d) Etc. if applicable

Typically, these fees range from $295 to $895 depending on the loan type and the lender.

Flood Certification

The entire United States is divided into separate flood zones that specify how susceptible the property or lot is to flooding. If it’s located in a flood zone you will need flood insurance because your regular insurance excludes floods.

The Flood Certification is simply an assurance to the lender as to what the flood zone classification is. However, the Flood Certification is not actual flood insurance, but rather it is a guarantee that flood insurance is not required.

Tax Service Fee

This is often confused with property taxes but it has nothing to do with it. This payment goes straight to a processing company which assumes the responsibility of informing your lender if you become ‘delinquent’ in your property taxes. That’s all. No more… no less.

Credit Report Fee

This is what the broker or lender requires you to pay to get your credit report. The credit reports used in the mortgage business are more detailed than a basic report and usually consist of two or three credit bureaus run simultaneously to obtain every scrap of credit available on you. They range in cost anywhere from $10 to $70.

Mortgage Verification Fee

If you are refinancing, your old lender may charge as much as $60 to simply provide the new lender with the specific payoff information which the escrow agent or attorney needs in order to close out your old loan. (Years ago this was free)

Reconveyance Fee

Again, this is charged by your old lender in the case of a refinancing. This is the cost of generating and recording the ‘Deed of Reconveyance’, which is a public record documenting that your old loan is paid off.

Notary and Recording Fees

This is paid to the person who notarizes certain loan documents which the Country Recorder will charge the escrow company for recording them.

Fluff & Stuff

Well, not the best description I suppose, but most lenders have an allowance plus or minus $200 for things such as courier or overnight delivery fees, wire transfers, etc.

Taxes on Loans

Some of your States such as, Florida have taxes on just refinance transactions!
   
4. Fees Connected with Purchase Transactions

These fees can include:

Owner’s title insurance policy

As long as you own the property you will have this policy. Even if you refinance, you will not need a new owner's policy, but you will need a new lender's policy. (see above) Most often this is paid by the seller to assure that you have a good clear title to the property.

Inspections

From termite; to roof; to well or septic; to an overall property inspection, to assure the lender, and you, that the property is clear of bugs and/or latent defects

Transfer Fees

These are charged by County and local Municipalities and can vary greatly. They are most often paid by the seller.

Proration

If the seller has prepaid part of the property tax for the period during which you will now own the home, the seller will get this ‘portion’ of her money refunded back.

Note: When a lender says they are offering a "no cost" loan option they are referring only to the "non-recurring" closing costs" which a lender can have some control over.