Buying a house is exciting. You finally own your property and won’t have to pay rent anymore. While you will have mortgage payments, they will go away after you fully repay the loan. Homeownership offers the promise of full equity in your home as long as you make payments. It’s no wonder many people aspire to become homeowners. Knowing your options with closing costs can avoid turning them into obstacles.
You can pay the closing costs upfront to save money or put them on the back of your loan so you can tackle them in the future. Negotiation tactics can lower your closing costs, but are those efforts necessary for an FHA loan? We will discuss if these government-backed loans help with closing costs.
The Average Closing Costs of an FHA Loan
FHA loan closing costs depend on the home’s price. Most FHA loan closing costs range from 2%-6% of the loan’s final balance. For example, a $200,000 FHA loan will likely yield closing costs between $4,000-$12,000. The closing costs will increase if you borrow more money for your FHA loan.
Are FHA Closing Costs Higher than Conventional Ones?
FHA closing costs are within a similar range as conventional mortgages. However, you may have to pay more for FHA closing costs because of a more complicated appraisal process. This appraisal process only adds an additional $50 to your closing costs. The loan amount plays the most crucial role in determining your costs. If you can make a 20% down payment on a conventional loan, you will also avoid private mortar insurance premiums, which stay on your FHA loan for 11 years or the loan’s duration, whichever is shorter.
Different FHA Loan Closing Costs
FHA borrowers incur several closing costs before obtaining capital and securing their new home. Therefore, you can expect these expenses to make their way into the loan’s closing costs.
Lender Fees
The lender creates your loan and performs several tasks behind the scenes. Lenders fees encompass loan origination, underwriting, preparing the documents, and other expenses.
Third-party Fees
The lender handles many elements of your loan, but third parties also contribute. Appraisers, attorneys, notaries, title insurance providers, and other third parties will charge fees.
Pre-paid Fees
The home buyer will have to pay property taxes, insurance premiums, and other costs in advance. Those costs are all under pre-paid fees.
Mortgage Insurance Premium (MIP)
All FHA loans come with a mortgage insurance premium which adds 1.75% to your loan. This closing cost protects the lender in case the borrower defaults on the loan. You will still have to pay monthly premiums as part of your FHA loan. You can get a home refinance loan in the future to get out of monthly private mortgage insurance premiums.
Can You Include Closing Costs in an FHA Loan?
You can include your closing costs in your FHA loan. You can ask for a higher loan amount that reflects the closing costs. If you have a $250,000 FHA loan and your closing costs are $10,000, you would ask the bank to let you borrow $260,000 on the loan. The bank would then cover the closing costs.
How To Lower FHA Closing Costs
If you want to lower your FHA closing costs, you’re not alone. Most borrowers pay between 3%-6% of the loan’s amount as closing costs. While these numbers may seem small, they have significant implications for an FHA loan.
Let’s say you borrow $400,000 to finance your home purchase. If closing costs add up to 3% of the loan’s principal, you will owe $12,000. However, the same loan can produce $24,000 in closing costs if it adds up to 6% of the loan’s principal. The $12,000 gap is a sizable difference, and cutting that down in any way will make closing costs more manageable. We have highlighted some strategies you can use to trim the final bill.
Compare Fees and Shop Around
Don’t rush to do business with the first lender you find. Instead, submit several quotes and review each lender’s loan terms and fees. Reviewing your choices can help you find a financial institution that keeps closing costs as low as possible.
Roll These Costs into the Loan
You don’t have to pay the closing costs right away. Some borrowers roll these costs into their loans. This strategy increases your monthly payments and results in accrued interest. However, the FHA loan can effectively absorb these costs and make them more manageable. Not every borrower has an extra $10,000 or more to cover closing costs. You may pay more long-term, but rolling it into the loan allows you to break the big payment into hundreds of smaller payments.
Ask the Seller to Pay for Them
Some sellers are motivated to sell. They need to part ways with the current house to improve their financial health. Some sellers already own their new home and are incurring two mortgages until a buyer purchases their old home. No seller will want to cover closing costs, but some will do what needs to be done to accelerate the sale, especially in a buyer’s market. The seller may be in a better position to pay the closing costs since they are receiving the proceeds from the home sale.
Use a Gift of Cash
Employers, family members, labor unions, and charitable organizations can provide a gift of cash to help cover the closing costs. If you have a wide enough network, you can trim your closing costs by spreading them across several people and entities. You can look through government programs and agencies that help first-time buyers or people with low or moderate incomes.
Buy Points
Points on your mortgage impact your interest rate. Each point costs 1% of the loan’s value and lowers your interest rate by 0.25%. These points can help you save on interest, but they can also work in reverse. You can reduce your upfront costs with a lender credit, but your interest rate goes up. A lender credit can take 1% off your loan’s principal but also leave you with a 0.25% interest rate hike. You will pay more in the long term, but you save on immediate costs.
Where to Get an FHA Loan
FHA loans provide home buyers with an easier path to entry. You can get an FHA loan with a credit score as low as 500 if you can make a 10% down payment. You can also get an FHA loan with a 580 credit score and a 3.5% down payment. Conventional mortgages have a 620 credit score minimum, making them out of reach for some homeowners. FHA loans make it easier for potential homeowners to buy their first home.
