When buying a piece of property, people often forget about “extra fees” such as taxes, homeowners insurance, mortgage insurance, and closing costs. They tend to only focus on the mortgage payment, which will always be significantly lower.
There are also closing costs, which consist of fees associated with escrow, title, loan origination, underwriting, doc drawing, and more. Closing costs can be quite expensive, usually several thousands of dollars depending upon the loan amount.
But if a buyer is short on funds, or needs a little help getting financing, a seller will often offer to pay their closing costs to get the deal done.
Is the Seller Really Paying Your Closing Costs?
This is where things get a little tricky. The seller isn’t really “paying” the closing costs. The seller will offer to pay a certain amount (%) or all of the closing costs by raising the sales price of the home.
Let’s look at an example:
Buyer’s Offer: $500,000 (with $5,000 in seller concessions)
Closing Costs: $5,000
Seller’s Counteroffer: $505,000 (with $5,000 in seller paid closing costs)
So if a prospective buyer makes a $500,000 offer on a home, but doesn’t want (or can’t) pay the $5,000 in closing costs out-of-pocket, the seller can counter by offering a slightly higher sales price to swallow up the closing costs.
In the example above, the seller has agreed to pay $5,000 in closing costs associated with the deal. The buyer isn’t actually getting the home any cheaper, they’re just able to finance the home with less money out-of-pocket, which can be a lifesaver for a buyer short on funds.
However, the difference will be lumped up with the mortgage, and will make the monthly mortgage payments slightly higher. So that $5,000 in closing costs will actually be paid over the term of the mortgage, instead of at closing.
In other words, the loan amount will rise from $400,000 to $404,000, assuming a 20% down payment, with the higher $505,000 sales price.
How Much Can the Seller Pay?
Keep in mind that seller paid closing costs, also known as “seller concessions,” are limited by mortgage lender, loan program, and even loan-to-value ratio. In fact, in recent years many lenders have disallowed seller paid closing costs on 100% financed home loans because of the high foreclosure rate.
However, seller paid closing costs are typically limited to 6% of the loan amount at 90% loan-to-value or lower, 3% between 90-95%, and then usually 3% for 100% loan-to-value at a cost of .25%, which may be taken away from the mortgage broker’s yield spread premium.
Be careful when negotiating seller concessions, as things can get tricky if banks and lenders impose their own rules regarding what will and will not work.
What About a Short Sale?
Over the past several years, short sales have become extremely popular. It’s important to note that you probably won’t get any help from the bank or lender if you agree to buy one.
In short, because they’re already agreeing to sell you a property at or below market value, throwing in seller concessions wouldn’t make much sense. So if you agree to buy a short sale, you’ll more than likely need to come in with your own money for closing costs.
Obviously, this can increase the true purchase price of the property, so the “discount” may not be as attractive as it originally appeared. Regardless, you should always negotiate, because you never know what type of deal they may throw your way.
Read more: Making an Offer on a Home