Closing costs — you’ve probably heard about them. They are the fees you need to pay anytime you get a mortgage, whether you’re buying your first home or refinancing a current loan to take advantage of lower rates. When you pay those fees or costs depends on the type of mortgage you get. Some lenders that offer mortgage services give you the option of either no cost loans or full cost. Before you decide which one is the right pick for you, you need to understand what each means.
Typical closing costs
Closing costs are the fees you need to pay to complete the loan process. Usually, the company providing the mortgage services includes the origination fee, application fee and underwriting fee in the closing costs. If you worked with a lawyer, an attorney’s fee is usually part of the closing costs, as is the cost of the appraisal and the cost of any inspections on the home. The exact amount of closing costs varies based on where you’re buying a home and the size of the mortgage. In Georgia, for example, the average closing costs for a $200,000 home were $2,433 in 2013. If you have a full cost loan, you pay the fees at closing.
How a no cost loan works
A no cost loan doesn’t make those fees simply disappear. The lender providing the mortgage services will give you a credit for the costs at closing. In some cases, the closing costs are added to the amount of the mortgage, so that you are repaying them over the life of the loan. In other instances, you make up for not paying closing costs upfront by agreeing to pay a higher interest rate. The lender slowly recoups the credit it gave you as you make payments on the mortgage.
Picking the right one
There are several instances when a no cost mortgage makes more sense than a full cost loan. One case is when you want to refinance because interest rates have dropped, but you don’t have the cash on hand to cover closing costs. Even with the slight increase in interest you pay with a no closing cost loan, it may still be less than your current rate. A no cost loan can also make sense if you only plan on staying in the home for a few years.
One thing to look out for when you get a no cost loan is the break-even point. With a no closing cost mortgage, the goal is to pay off the mortgage or refinance it before you’ve paid the same costs you would have paid with a full cost loan. If you’re only in the home for a few years, paying a higher rate for those years can still be cheaper than getting a lower rate with upfront fees.
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