Buyers, sellers, and sometimes even real estate agents get confused with how closing cost credits work.
Closing cost credits are a great tool to help buyers pay their closing costs and have more money after closing. This is important because buyers often have lots of expenses such as making repairs, upgrades, buying furniture, etc. Closing cost credits don’t hurt the seller in any way. In fact, they help sellers because many buyers cannot buy without them.
The Confusion about Closing Cost Credits
Buyers:
Some buyers think that they will actually receive money back at closing that they can walk away with for their own use. That is no longer allowed; around 2009 all mortgage companies and regulators put a stop to it. Buyers instead can use this money toward all allowable closing costs such as pre-paid interest, escrows, taxes, etc. This enables the buyers to bring less money to closing. If the credit covers the entire closing cost amount then the buyer would only need to bring the down payment to closing.
Sellers:
Sellers often think THEY are actually paying the buyer’s closing costs and may even say or think “I am not paying their closing costs.” Though it may sound that way on the offer, sellers are actually not paying the closing costs. The buyer just inflates their price in order to get the credit.
Example of a Typical Closing Cost Credit:
| Offer Price | $400,000 |
| Closing Cost Credit | $5,000 |
| Net Sale Price | $395,000 (Sellers should pay attention to this number) |
Common Questions from Buyers and Sellers
Buyers
Q: What do Buyers typically pay for closing costs?
- Fees charged for obtaining a mortgage
- Title insurance both lender and owner.
- Settlement fees
- Property taxes
- Transfer taxes like in NH where they are shared with the sellers
- Homeowner’s insurance (usually needs to be paid for prior to closing)
Q: What are the typical closing costs?
Typical closing costs range from 1% to 5% of the home’s price.
Q: Why would I still need to bring money to the closing if I’m getting a closing cost credit from the sellers?
Buyers should understand that their total closing cost could be more than the credit they requested. At the time of the offer, it is impossible to determine exactly how much the closing costs/escrows/prepaid interest, etc. will be on the day of the closing, because those numbers change based on the exact day of the closing. At the time of the offer, the closing cost credit is always an estimate of what the closing costs will be, and you should always take a credit for slightly less than the amount of the closing costs, because if your credit is too high, it could result in the seller getting more money, or a delay in the closing.
Q: How much of a closing credit am I allowed to ask for, is there a limit?
It all depends on the type of loan. Some loans only allow credits of 2% and some go up to as much as 6%.
- Mass Housing– 3%
- VA– 4% (can cover Funding Fee)
- FHA– 6% (can cover Upfront MIP)
- USDA– 6% (can cover Guarantee Fee)
- Fannie/Freddie: For Primary Residence:
o >90% LTV 3%o 75-90% 6%
o 75% or less 9%
o All investment properties 2%
Q: Can the credit be put towards the down payment?
No, it cannot. The down payment needs to come from the buyer.
Sellers
Q: What do Sellers typically pay for closing costs?
- Loan Payoff
- Real estate commissions to brokerages
- Transfer taxes
- Notary fees
- Attorney fees
Q: Why does the buyer need a closing cost credit? I never had one when I bought.
The closing cost credit simply frees up money for the buyer. The reason a seller never had one maybe because either the credits were not available at that time or the purchase price at that time was much lower.
Q: Does a Seller pay stamp fee on the offer amount or on the net sale price?
Sellers do pay stamp fees based on the offer amount. Sellers should remember that the typical stamp fee in Massachusetts is $4.56 per thousand.
Both Buyers and Sellers
Q: Who is responsible for paying closing costs and for which fees?
Both buyers and sellers can expect to pay closing costs.
Q: What if the closing costs aren’t that much and there’s money left over?
It is very important that the buyer works with their mortgage broker and buyer’s agent to come as close as they can with how much of a closing cost credit they will need. It is actually better to request a credit that is slightly less than the expected amount so that you don’t have an excessive credit.
If the closing cost credit exceeds the actual closing costs, technically, the parties would have to do an amendment to the contract and adjust the purchase price. However, this is normally so late in the process that all of the paperwork and loan documentation would need to be adjusted and it could result in a delay in the closing. Therefore, it is always wise to err on the side of caution and put a closing cost credit in the offer that is slightly less than what you think the closing costs will be.
Q: Does the appraisal need to come in at the offer price or at the net sale price?
The appraisal does need to come in at the Offer Price. This is usually not an issue.
Q: If the buyers request a credit after a home inspection, what are the benefits of giving the credit towards closing costs vs price reduction?
This is another case where sellers just need to pay attention to the net number (see chart above). Whether the buyer requests a decrease to the offer price or requests a closing cost credit really does not matter to the seller. It’s the same either way.
With respect to the buyer, the benefit of a credit instead of a reduction in the sales price is that it will allow a buyer to keep cash on hand to do repairs, etc. If a buyer and seller negotiate a price reduction following the home inspection, it won’t actually give the buyer money to do the repairs. By doing a credit, the buyer essentially “puts cash in their pocket” by virtue of the fact that they are bringing less money to the closing.