According to the National Association of Realtors 2016 Profile of Home Buyers and Sellers - First-time buyers who financed their home typically financed 96 percent of their home compared to repeat buyers at 84 percent. The most difficult step in the home buying process was saving for a down payment, as cited by 13 percent of respondents. For 61 percent of buyers, the source of the down payment came from their savings.
Of buyers who said saving for a down payment was difficult, 49 percent of buyers reported that student loans made saving for a down payment difficult. Forty percent cited credit card debt, and 34 percent cited car loans as also making saving for a down payment difficult. Even so, buyers continue to see purchasing a home as a good financial investment.
What few people know is how many deals fell apart when the buyers, who were focused almost completely on the down payment, learn what the closing costs will be for the purchase. The buyers' closing costs can run 4-8% of the purchase price (sometimes more), depending upon the various fees, charges and points that the mortgage lender adds. In Michigan, things that are generally lumped into the term “closing costs” include any transfer taxes or fees that the state or local governmental bodies may levy, plus the cost of a title insurance policy. The local tax pro-ration for the balance of the summer and winter tax years is also levied, since Michigan taxes are paid ahead. It may also include the escrowed funds for upcoming tax bills and the cost of the first year’s homeowners’ insurance.
Even on a starter home in the $150,000 price range; covering the closing costs can mean an additional sum between $6,000 and $10,000 that the buyer has bring to the closing table. Many times that is the deal killer. Even worse is the fact that many buyers aren't adequately forewarned about these costs by their mortgage lender until they have already made an accepted offer and sunk money into things like the inspection and the mortgage application fee. It is quite easy for the buyer to have between $500 to $1,000 sunk into the deal before he/she discovers that they can’t afford to pay the closing costs.
A good Realtor will usually advise the would-be buyer to make sure that they understand this aspect of the sale. Realtors will always require that buyers get a “pre-approval letter” from their lender before making an offer; however, most of those so-called pre-approval letters are really just pre-qualification letters that are based upon a very cursory look at the borrower by the lender. Those pre-approval letters and the advice from the lender to the buyer seldom go into the detail of covering the closing costs.
Realtors advise buyers to try to get a Good Faith Estimate (GFE) from the lender before jumping into an offer. That GFE will detail all of the probable closing costs, based upon what the buyer has told the lender at that time. Some lenders require that you have an accepted offer in hand before they will take that step, but even they should be able to give the buyer a close enough ball-park estimate before the offer to allow them to decide whether they can afford to make the offer or not. The buyer should ask the lender at the time that they get a pre-approval letter for their best estimate on the closing costs.
The buyers’ Realtor can also advise on whether asking for a seller concession to help with closing costs makes sense for the sale. Many times it is possible to ask for those concessions, if the seller is willing to make a full price offer, or close to it. Some loan types have restrictions on how much the seller can make in concessions to cover closing costs; so, buyers should coordinate that with their lender.
Some first time buyers get assistance from their parents on either the down payment or to help cover closing costs. That’s fine, but it must be documented as a gift and not a loan from them. The buyer will need a letter from the parents stating that it is a gift and may need further documentation from the parents to satisfy the mortgage underwriter.
It is possible to get FHA loans with as little as 5% down and some VA and RD loans can be done with zero down. That would allow the home buyer to shift the money that they may have saved for the down payment and use it for their closing costs. Buyers should check with their lenders to see if they support those types of loans and if they might qualify for them. The Realtor should be able to tell them is they are in an area that qualifies for Rural Development loans. First time buyers who are veterans should definitely check to see if they are covered by VA benefits.
In Michigan there is also a first time home buyer’s Down Payment Assistance (DPA) program through MSHDA (Michigan State Housing Development Authority). This program is for first time buyers and required that the loan be an FHA, VA or RD (Rural Development) loan. The program allows up to $7,500 in down payment assistance which can be applied against the down payment and the closing costs.
The bottom line here is that buyers need to be aware of the potential closing costs on any home purchase and should look into the options that they have to try to cover those costs. Being aware of, and saving for, those costs is just as important as saving for the down payment. Don’t let those closing costs sink your home purchase.