When you’re buying or selling a home, budgeting for closing costs is critical. Closing costs can have a significant impact on your financials at the end of your real estate deal! And knowing what to expect gives you a smoother, less stressful closing.
But there are a lot of questions about closing costs. What exactly are closing costs? Who pays them? How much are closing costs? And how are they calculated? We’re going to answer all of those questions for you.
Consider this your introduction to closing costs.
What Are Closing Costs?
Closing costs are the expenses of transferring property from a seller to a buyer.
There is so much more to a real estate deal than having the buyer pay the purchase price and having the seller turn over the keys.
First, there are expenses like property taxes and homeowner’s insurance that come with property ownership and need to be paid upfront.
Then there is the team of real estate professionals it takes to successfully close a deal. You’ll have real estate agents, escrow officers, title insurance representatives, appraisers, and lenders who will all need to be paid for their services.
Who Pays Closing Costs?
In many cases, buyers and sellers each pay their own closing costs. Here’s how costs are typically divided.
Closing Costs for Buyers
As a buyer, you can expect to pay for:
- Property taxes. Property taxes cover local services, including schools, roads, police, and firefighters. You might be asked to pay property taxes for the coming year at closing.
- Transfer tax. Local governments often charge a transfer tax to cover their time in updating the home’s title and putting the property in your name in their systems.
- Homeowner’s insurance. This is the insurance you’re required to carry to protect yourself financially if the home is damaged or if someone gets injured on your property.
- Private mortgage insurance. PMI is only required for buyers who make a down payment of less than 20%. This insurance is to protect the lender in case of default on the loan.
- Homeowner's Association (HOA) fees. If your new home is part of an HOA, you may need to pay the first month's fees upfront. These fees are used to help cover maintenance expenses for common areas including pools, clubhouses, and/or private roads within the HOA community.
- Loan origination fees. These fees cover the administrative cost of creating your new mortgage loan.
- Appraisal fees. A certified appraiser will need to confirm the value of the property before your lender will agree to fund your home loan.
- Attorney fees. Some states require the involvement of a real estate attorney in drafting the paperwork needed to transfer the property’s title from the seller to you.
- Survey fees. Some states require a land survey to confirm property lines before closing.
- Title search fees. Title researchers look for potential claims someone else may have on the property before you purchase the property. Liens, unpaid taxes, divorces, and bankruptcies can all potentially cloud the title and may need to be resolved before you close on the house.
- Escrow reserves. In many cases, your lender may roll ongoing expenses (like property taxes, insurance, and PMI) into your monthly mortgage payment. Then your lender would pay the expenses out of this special escrow account on your behalf. It’s normal for lenders to want a reserve of funds available just in case you’re late on a payment.
- Miscellaneous fees. You might also pay small amounts for things like a copy of your credit report, recording your new deed, and couriers to transport documents.
Closing Costs for Sellers
Sellers don’t have as many closing costs as buyers, but they are typically responsible for the single largest closing cost expense: the real estate agent fees.
As a seller, you should expect to pay for:
- Real estate agent fees. You’ll pay your agent or broker a fee for marketing your home and representing you in the transaction, and they will split that fee with the buyer’s agent.
- Attorney fees. An attorney might be required in your state to draft your legal contracts related to the sale.
- Title insurance. Title insurance offers some protection in case someone tries to claim that you never had full ownership with the right to sell the property.
- Prorated property taxes. If your property taxes are paid in arrears (meaning that payment isn’t due until the end of the period instead of the beginning), you’ll need to pay the property taxes from the beginning of the period until closing day.
- Recording and/or transfer fees. Some local and state governments charge sellers for recording the transfer of the property in their systems.
- Seller concessions. In some cases, sellers agree to pay some of the buyer’s closing costs in order to sell the house quickly. The negotiated amount would be included in your closing costs.
In the vast majority of home sales, these expenses simply come out of your proceeds from the sale, and the remainder of the proceeds is wired to your bank account. But if they exceed your proceeds, you’ll need to cover the difference out-of-pocket.
How Much Are Closing Costs?
The exact closing cost amount varies greatly by area. Different cities and states have different taxes and different going rates for these services.
How Are Closing Costs Calculated?
Calculating closing costs is difficult because each cost is calculated independently. Real estate agent fees, for example, are typically a percentage of the sales price. Similarly, the loan origination fee is calculated as a percentage of the loan amount. Other fees, like transfer taxes and recording fees, are set by local governments.
Each of the costs is calculated individually, then totaled to show you the final amount due. While your house is under contract, you might see a few drafts of the Closing Statement, which would itemize your closing costs. The figures in these drafts may change as new information about property tax projections or claims against the title come up. But the drafts can give you a ballpark idea of how much to budget for your closing costs.
Can I Reduce Closing Costs?
In many cases, closing cost amounts are set, and you don’t have much wiggle room to reduce them. But there are a few things you can try.
As a buyer, you can choose a reliable lender with reasonable fees. This can help with your loan origination expense. And, in a buyer’s market where homes are selling slowly, you might be able to negotiate to have the seller cover some of your closing costs.
For sellers: real estate agent fees are negotiable. But remember that your real estate agent will be negotiating with the buyers on your behalf. So you might not want to hire an agent who can’t negotiate his or her own commission. In many cases, you can come out ahead by investing in a good agent.
Recapping Closing Costs
Closing costs are a necessary expense to ensure a smooth real estate transaction.
If you’re buying a home, you should budget for closing costs between 2% and 6% of the purchase price.
If you’re selling a home, you should budget for closing costs between 6% and 10% of the purchase price.
You may have a better idea of your closing costs once your house is under contract and you get your first Closing Statement draft. But with so many moving parts, it’s normal for the exact figures to change as your closing day approaches. Your escrow officer, loan officer, or attorney can keep you updated on your closing cost projections so you can fine-tune your closing cost budget as you go.