When it comes to buying property, it’s important to comprehend the financial requirements involved in the process. Once you’ve gone through the process, you’ll gain a clearer understanding. But, for a first-time buyer or investor, it can be overwhelming. When considering purchasing real estate, the down payment and closing costs are both essential components to understand. Now, let’s break it down to better understand the difference between closing costs and a down payment.
Closing Costs: The Nuts and Bolts
Closing costs is an umbrella term for the miscellaneous fees and expenses associated with finalizing a real estate transaction. Buyers typically incur these costs at the close or settlement of the deal. Closing costs can vary based on the geographic location, type of loan secured, and other specific circumstances agreed to as a part of the transaction.
Some common components of closing costs include:
1. Lender Fees: These encompass the costs associated with securing a mortgage, such as application fees, origination fees, and mortgage points (optional fees paid to lower the interest rate).
2. Title Services: Title companies play a pivotal role in the closing process. Title services provided include title searches, title insurance, and other related expenses.
3. Appraisal Fees: Lenders often require an appraisal to determine the home’s fair market value. This fee covers the appraiser’s services and averages around $500.
4. Inspection Costs: Buyers may choose to have the property inspected for any potential issues. Inspection costs vary from place to place and depend on property size and type of inspection. Buyers in Arizona can expect to pay between $350 to $425.
5. Taxes and Insurance: This category includes prepaid property taxes, homeowner’s insurance premiums, and mortgage insurance. These all vary greatly depending on circumstances and property type.
6. Escrow Funds: Lenders may require you to set up an escrow account to cover ongoing expenses like property taxes and insurance. Initial funding for this account can be part of your closing costs.
7. Attorney Fees: If you choose to have an attorney review your documents, their fees are typically considered closing costs. Depending on the attorney chosen, the fee can range from a couple hundred dollars to a few thousand.
8. Recording and Transfer Fees: These fees are associated with recording the deed and transferring ownership of the property. Different states have different laws regarding these fees, but Arizonans can expect to pay around $1,000.
9. Other Miscellaneous Costs: Closing costs may also include miscellaneous expenses like courier fees, credit report fees, and notary fees.
Down Payment Investment
While closing costs cover the various expenses involved in the purchase transaction, a down payment is a direct investment in the property at the time of purchase. The down payment is a percentage of the property’s purchase price that a buyer pays upfront; it is not associated with any other fees or services.
Here’s how a down payment works:
1. Size of the Down Payment: The size of a down payment is typically expressed as a percentage of the home’s purchase price. Common down payment percentages range from 5% to 20%. The exact amount will depend on the lender’s requirements, the buyer’s financial situation and the type of mortgage secured.
2. Equity Building: When a homebuyer makes a down payment, he or she is effectively putting their money into the property. This initial investment builds equity in the home, which is the difference between the property’s value and the outstanding mortgage balance. As borrowers pay the loan against the property down and/or value increases, the higher the equity grows.
3. Mortgage Amount: The down payment directly impacts the amount needed to borrow from a lender. A larger down payment results in a smaller loan, which can lead to lower monthly mortgage payments and potentially better interest rates.
While both payments are made at the closing of a real estate transaction, some of the closing costs may be covered by the seller or added to the loan, while the down payment must be made in full. An escrow company handles all the funds, with money securely kept and transferred to all appropriate parties. Both closing costs and a down payment are essential aspects of buying property and it’s crucial to budget for both when planning to purchase real estate.
At Landmark Title Assurance Agency, we’re here to assist with escrow and title services and provide the expertise needed to ensure a smooth, secure and timely closing process. If you have any questions regarding services, please reach out to speak with one of our knowledgeable escrow and title officers.