Saving up enough money for a down payment is typically the single biggest obstacle first time home buyers face. For those who already own a home and are contemplating selling and buying another, the accrued equity in the home is usually enough to take care of a down payment for the subsequent home. First-time buyers don’t have that option. Different loan programs can have different minimum down payment requirements.
To verify the buyers have sufficient funds to close on a purchase, the buyers provide the lender with copies of the most recent bank statements or other types of accounts the buyers own. The lender must also determine there are enough available funds for a down payment but also to pay for the closing costs on the transaction.
All mortgages have closing costs. Even the so-called “no-closing cost” loan has closing costs. It’s a matter of who pays for those costs and how. One way to pay for the buyer’s closing costs is with a lender credit. A lender can provide a credit to the borrower’s closing costs by making an adjustment to the interest rate on the loan. By adjusting the rate slightly higher, the lender can then issue a credit at the settlement table. Some loan programs also allow the borrowers to roll in some or all of the closing costs into the new mortgage. Again, there are always closing costs, it’s just a matter of who pays for them.
Perhaps the most common way for buyers to reduce the amount of cash to close on a purchase is to have the sellers pay for part or all of them. When making an offer the buyer and the buyer’s real estate agent will craft an offer and as part of the offer ask the sellers to pay for the buyer’s closing costs. This request can be made as a percentage of the sales price or a particular amount. The buyers could request the sellers pay for up to 1.0% of the sales price to be credit toward the buyer’s closing costs at the settlement table. For a $300,000 sales price, that would mean a $3,000 seller “concession.” Or the offer can simply ask the buyers pay for $3,000 of the buyer’s closing costs.
However, the sellers aren’t obligated to agree to the request. When an offer is made, the sellers can simply refuse or otherwise counter the offer with a different amount. Instead of $3,000 the sellers might come back with $1,500 in potential credit. Negotiations can go back and forth until an amount is finally agreed upon. But there are limits on how much the sellers can concede based upon individual loan program guidelines. Seller concessions can be common for the area when home sales are somewhat in the doldrums and sellers entice potential buyers with a seller credit. In areas where homes don’t stay on the market for very long, sellers will be reluctant to pay any of the buyer’s costs whatsoever.
Conventional mortgages, those underwritten to Fannie Mae or Freddie Mac standards, issue the maximum amount of seller-paid closing costs depending upon the down payment. Note, sellers are not allowed to concede more than the actual closing costs.
With a conventional loan and a down payment of less than 10% of the sales price the sellers can only contribute 3.0% of the sales price. With a down payment of more than 10% of the sales price, sellers can contribute up to 6.0% and with a down payment of more than 25%, the maximum is 9.0%.
It’s important to point out here that closing costs shouldn’t add up to anything near 6.0%. For a $300,000 sale, that’s $18,000. Closing costs are closer to 2-3% depending on the state and loan amount. Further, when a seller concedes more than what is typical for the area, the appraiser may take that into consideration and lower the current value of the home.
With an FHA loan, the maximum contribution is 6.0%. The minimum down payment for an FHA loan is 3.5% of the sales price. VA loans allow for seller contributions of up to 4.0% of the sales price plus reasonable and customary loan fees. The 4% can be used to pay for property taxes and insurance, discount points, the funding fee and even paying off a buyer’s judgments and debts appearing on a credit report. USDA loans, like the FHA program, also allow for a seller contribution of up to 6.0% of the sales price.
Addressing closing costs is just important as a down payment and lenders will verify sufficient funds to take care of closing costs in addition to any down payment needed. Before you get too far into the process, a phone call to your loan officer is needed. Your loan officer will provide you with financing options that meet your requirements as well as an estimate of funds needed to close at your settlement.
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