Learning about the common closing costs associated with FHA mortgages can help you better prepare for them. Closing costs vary by lender and by state, but understanding average costs with closing on FHA loans is a good first step toward creating a budget to buy your new home.
What Are FHA Loan Closing Costs?
The Federal Housing Authority (FHA) insures loans so that lenders can offer consumers better deals through several types of mortgage programs. For example, one popular FHA-backed mortgage allows borrowers to make a down payment for as low as 3.5%. However, like most mortgages, FHA loans include closing costs such as lender fees, third-party fees, mortgage insurance premiums, and prepaids like future property taxes. As the term implies, you’ll typically need to pay these fees during the closing process, which is when you sign the final documents to officially take ownership of the home.
Lender Fees
Lender fees may have a variety of other names, such as administration fees, processing fees, and underwriting fees. They all fall under the “origination fees” umbrella, Chris Shoemaker, mortgage loan officer at Red Diamond Home Loans in Southlake, Texas, told The Balance. Origination fees are intended to cover the cost of processing the loan. “Origination fees can vary greatly by lender,” Shoemaker said in an email. “For example, a few lenders charge no origination fees and, instead, revenue comes solely from the profit margin on the interest.” However, many lenders just set a flat fee of, say, $1,200 to $1,800, since this allows them to offer more competitive rates, Shoemaker said. Others charge a flat percentage, such as 1% of the sales price, for example.
Third-Party Fees
Third-party fees are charged by other parties that were involved in the mortgage process. They include title insurance, settlement fees, and any attorney fees to draft closing documents. “Other third-party fees include a flood certification of the property paid to FEMA, the cost of the credit report to the credit report company, as well as appraisal fees and inspection fees,” Shoemaker said.
Mortgage Insurance Premiums
If your down payment amount is less than 20% on your FHA loan, you’ll also need to pay mortgage insurance premiums (MIPs). This money will then be paid to the FHA, which is part of the U.S. Housing and Urban Development Program. Your local lender is actually lending you the money to purchase your home, but the FHA insures your loan. “If a homeowner with an FHA loan begins the foreclosure process after defaulting on payments, the lender can file an actual insurance claim with the FHA,” Shoemaker said. The FHA will pay that lender with funds you paid through your MIPs. The upfront Mortgage Insurance Premium is a 1.75% fee that is paid at closing. The monthly MIP, in contrast, is paid monthly along with your principal, interest, taxes, and insurance. The amount of your monthly MIP will depend on the loan-to-value ratio (the relative difference between your loan amount and what your house is worth).
Prepaids
Prepaids include items such as interest, property taxes, and homeowners insurance. You pay these expenses at closing, before they are technically due. “For example, homeowners insurance companies require the first year to be paid to them at closing in order to initiate the policy coverage,” Shoemaker said. “Buyers also establish their escrow accounts with the equivalent of approximately three months’ worth of taxes and insurance on the day of closing.” Lenders accept this upfront money, then pay annual property taxes and insurance costs directly when they are due.
Saving on FHA Loan Closing Costs
FHA loan closing costs can quickly add up, but there are ways you can reduce them.
Seller Contributions
In many cases, you can ask the seller to pay some of the closing costs. If a seller is more motivated to sell their property, like when the market is in the buyer’s favor, they may be willing to contribute toward the closing costs.
Comparison Shopping
Shopping around for the services you need for closing can ensure you’re getting the best price. While real estate agents and lenders may have preferred companies for services like title insurance and inspections, you may be able to get a better rate with other providers.
Personal Financial Assistance
The FHA allows closing costs to be covered by financial gifts, such as assistance from your family members, close friends, employer, or even a charity. They may need to fill out an FHA gift letter form, certifying their name, relationship, and gift amount. You’ll need to provide the account number into which the money was deposited so your lender can verify it.
Nonprofit Funds
You can also consider applying for closing cost assistance from a government program or nonprofit organization. For example, in Arizona, the Home + Plus Home Buyer Down Payment Assistance program provides closing costs, down payment help, or a combination of financial help. Many states have some type of assistance program in place to help homebuyers struggling with the closing costs and down payments.
Negotiate With the Lender
Finally, you can try to reduce your closing costs by negotiating with the lender. In some cases, they may be willing to reduce or eliminate some of the closing costs associated with the loan so you can close on the home.
