Closing costs calculator: pad your reserves

December 23rd, 2010

As you prepare for your new home loan and purchase you are wise to use a closing costs calculator. Purchasing a home requires more than just a down payment, it also requires funds for closing costs. A primary stumbling point for loan approvals is lack of funds for closing mainly due to the borrower underestimating how much money would be required to purchase their new home. Avoid this stumbling block when you transition from using mortgage calculators.

Who pays?

One way to reduce the amount of money you need for your closing is to have someone else pay your closing costs for you. Whether you are applying for a FHA or conventional Fannie Mae or Freddie Mac mortgage you can receive credit towards closing costs from another participant in your transaction, the lender, one or both of the real estate agents or most likely the seller of the property. There are limits as to how much of a credit you can receive, but generally for most transactions all of your closing can be paid by the seller or other participant in your new home purchase.

However if you are considering only purchasing a new home where your closing costs are paid by the seller, or some other participant in your transaction, be very patient as you are limiting the market of homes available to you. Many sellers do not have enough equity to pay their own closing costs and yours, or if going through a short-sale you need the bank to agree to have your costs paid.

Non-recurring costs

The closing costs calculator lists most of the closing costs termed "non-recurring" that you can expect to pay. Fees for services such as the lender, settlement or escrow company, title insurance and inspections are labeled as non-recurring because you pay the fees once; you don't continue to pay them once you own the home. These fees are not fixed and can vary from company to company.

Typically the largest of the non-recurring fees are the loan fees, the biggest of which are the points for the cost of the mortgage rate. A small change in your origination points can have a very large impact on your funds needed for closing. For example the difference between one point (equal to one percent of your loan amount) and 1.5 points (one and a half percent of your loan amount) is $500 for every $100,000 of your mortgage, if your mortgage amount is $250,000 the half-point difference is $1,250.

If you used a prequalification calculator with a mortgage rate of 4.25 percent and estimated your cost for that mortgage would be one point and rates have gone up, you may need to pay an additional half-point to get the 4.25 percent when it is time for you to apply for the loan. In an up rate environment such as we have seen since the beginning of November 2010 to ensure you can qualify for your new home loan increase the mortgage rate and estimated costs you input into the mortgage calculators.

Recurring costs

Perhaps the most often underestimated costs in a new home loan transaction are the recurring costs. Recurring costs are labeled as such because they are payments that recur during your homeownership. Those payments include your property taxes, your homeowner's insurance premium and interest on your mortgage. These costs are calculated based upon when you close, what month for property tax purposes or what day of the month for interest calculations.

Where you can seriously underestimate the amount of funds needed for recurring costs is if you have an impound, or escrow, account for your taxes and insurance. A impound account is used for all FHA mortgages and most conventional mortgages with minimum down payments to collect your property taxes and homeowner's insurance premiums monthly. When your insurance renewal and property tax bills are due the lender will make the payment for you from the funds collected.

To establish an impound account the lender will collect at closing enough funds to be able to meet the tax or insurance obligation when it is due to be paid. If the tax payment of six months of taxes is due four months from closing and by then you will have only made a few mortgage payments, your lender will collect enough reserves to ensure adequate funds are in the account to make your payment. Depending on the time of year you close your new home loan and when the property tax payments are due in your state your tax reserve collection can range from one month to as high as eight months' worth of tax payments.

Pad your costs when using a closing cost calculator

To ensure you have enough funds to close with impounds, estimate six months of tax reserves and two months of insurance reserves on top of the initial premium. This ensures you will have estimated enough funds for your closing.

When using closing costs calculators be sure to pad your estimated costs for recurring and non-recurring closing costs; don't be caught short when it comes time for your loan approval.

Posted By :
Dennis C. Smith is co-owner and broker of record for Stratis Financial in southern California. He has over twenty years' experience in the mortgage industry.

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