This is Mortgage Secrets Episode 8

In this episode of Mortgage Secrets, we’re going to talk about one of the most important aspects of getting a mortgage: closing costs. Don’t miss this—a mistake here could cost you thousands of dollars. This is Mortgage Secrets Episode 8, and I’m John Downs.

Closing costs: What are they?

How much? How do you figure them out? How do you budget for them? So many people start with “I have 10% down to buy a house,” but then they kind of forget about this thing called “closing costs.” I think the idea of this podcast is to go over every single piece.

What are closing costs?
How are they bucketed?
How can you make sure that your estimate is put together perfectly and flawlessly so that there are no surprises in the end?

First, let’s just say what closing costs are.

These are fees that are absolutely required for the purchase of the home. These things are, typically, one-time fees that never come back: transfer, taxes, title, insurance, lender’s fees—all the different little pieces that go into transferring the deed of that property from one person to another.

Closing costs can really be bucketed into three different sections.

Section one is just what the lender controls, and I will say that many people are totally shocked at this point. They make a decision looking for lenders based on the sum of all the costs when lenders control a very, very, very small number of this—many transactions where you see closing costs at $20,000, and the lender controls $1,000 of it.

It’s very important to understand: What exactly is the lender charging?

You’ll hear things like “origination fees,” “points,” “processing fee,” “underwriting fee,” “commitment fee,” “lock fee,” “wire fee,” “appraisal,” “tax service.” If you get multiple quotes, you will see these multiple different times. Generally speaking, they’re not overly expensive. I would say, on average, it’s $1,000 to $2,500, depending on where you are around the country, and the high-cost markets are typically a little bit lower than the low-cost markets. These are lender’s fees. It’s very important, if you're shopping, to pull those out.

The lender only controls the interest rate on the loan and their fees, nothing else. Now, we’re also tied to disclosing what all the other fees should be. I call them “third-party fees,” fees that exist that are not in the lender’s control, but quite frankly, the lender should be able to nail these things perfectly. There should be no confusion here. I review lots of estimates (and we’ll talk a little bit about pitfalls later), and the third-party fees are things like the title company. When you buy this house, you have to go somewhere where you're going to take your money. They’re going to collect all the funds. They’re going to transfer the deed. They’re going to pay off the seller’s mortgage. They have to run title reports. They might need to order a survey. They kind of aggregate everything that exists within that property, and they bring it to light, they research it, and they make sure it’s perfect.

The third section is what we would call “prepaids.” Prepaids are, basically, the recurring costs that happen every year. Really, it’s pretty simple—it’s just your property taxes and your home insurance. This is also the section where you’ll find some daily interest. One thing that actually gets lost is, if you think about it, your mortgage payments are always full-month payments, so if you wind up having a settlement on the 15th of the month, well, you’ve got 15 days of interest that needs to be collected. It’s not collected in your first mortgage payment; it’s collected the day of closing. That’s very important. Prepaids: recurring fees, except for the daily interest, but mostly taxes and home insurance.

There are a few important things to know about closing costs.

One thing I said is that lenders should be able to nail these things, and they really should. If you do enough loans, and you're certainly in the local market, you should know exactly what the tax structures are. It’s just math. You can Google it. Google whatever county or state you're purchasing in, and then have the words “transfer and recordation tax,” and you’ll see some little grid pop up. I’m in the D.C. market, and it’s 1.5% of the sale price, paid by each buyer and seller. It’s a very specific percentage.

Where a lot of things go wrong in closing costs (and this is specifically for people who are shopping for a mortgage based on these loan estimates that they’re receiving) is, time and time again, I’ll get this phone call where someone will say, “Hey, John, your rate looked good, but man, your closing costs were high!” Luckily, they call me. Some people don’t. Some people just disappear, and then I find out they went somewhere else. When they come back, and they’re like, “Oh, you know, John, I chose the other person because their closing costs were less, but man, the day of settlement, they were actually a little higher than yours!”

So, know that, although loan officers are supposed to disclose fully and honestly… And I’m not saying people do it dishonestly, although I think some do, but they do need to disclose everything that exists, and it’s just too easy. When I hire brand-new people in the business, I can have them write a flawless estimate and train them in two days, and they nail it every time, so it’s just too easy, but things that I’ve seen… I’ll give you some raw examples.

The person that would call and say, “Hey, your closing costs are higher than the other,” what they’re looking at is the final, final number, the total cash to close, and that total cash to close number has different meanings, depending on who you talk to. I view “total cash to close” as all of the money required to buy this house: down payment, closing costs, prepaids.

What some lenders do is they might put in some deduction, like an earnest money deposit. I said you need $35,000; they say you need $30,000. Well, if you really unpack the numbers, there might be this little deduction of earnest money deposit. What if that earnest money wasn’t $5,000? What if it was just an estimate? What if you didn’t know that that was there, and you thought you needed $5,000 less than that?

Other things where we see errors would be title insurance. When you unpack a loan estimate, and you look at the third-party fees, specifically with what the title companies do, it’s important to know that title insurance is virtually fixed in most every state around the country. When I say “fixed,” the insurance companies go to the insurance commission to give their rates, and coincidentally, every single insurer gives the exact same rate. No matter where you go, you're kind of paying the same fee for title insurance.

But there are different grades of title insurance. There’s owner’s coverage, lender’s coverage. There’s enhanced, basic, eagle, premier—I’ve heard it all. Lenders should, in my opinion, always disclose the most expensive, but what I find is some lenders not disclosing owner’s insurance, as an example. It is optional. They don’t have to disclose it, but most people get it. Others will wind up showing the basic coverage and not include the more expensive premiums that most title companies recommend. The reason I point that out is I’ve seen estimates be as far apart as $2,000 based solely on under-disclosed title insurance.

Another area would be simple things like surveys. I always disclose a survey on a single-family home. Do you need it always? No. If you did, it’s $200 or $300, but most title companies will have that conversation with you, but if you didn’t look at the line item, you would think John Downs was $200 or $300 more expensive even though that was a fee that was totally your discretion and your title company’s.

Other fees would be your real estate admin fee. Most real estate companies around the country have an admin fee. It’s like when you buy a car, and you get that final invoice, and they have the processing fee on there. It’s the same thing, but if that’s omitted, again, you think I’m more expensive, but it’s a real fee. When you show up at settlement, that fee is going to be there. Wouldn’t you rather know right up front?

Other fees could be things like home association fees or move-in dues. Let’s say you’re buying a condo, and they have this transfer fee. It’s $250, and I’m showing two months of condo dues because you're settling in the early part of the month, and I know that condo association is going to charge the following month condo fee as well.

Those things could easily make one estimate look a lot more expensive that the other. To go a little further, the other big area where there could be massive difference is the prepaid section. The prepaid section, again, is property taxes and insurance, and daily interest. If you're closing on, let’s say, the 15th of the month, and you’re supposed to collect 15 days of interest, some lenders just show one. And what if you're supposed to collect 6 months of property taxes, but that lender only disclosed 3? Take it a step further: What if that person didn’t look up tax records to get the exact tax bill? And what if their monthly payment for taxes were $200 less? Well, collecting 6 months at $100 or $200 less—that’s a big difference!

I think the best way to understand how different closing costs could be from lender to lender in how they disclose is to tell a very real, very recent story.

To paint a picture of someone who was receiving quotes, completely online and over text—never, ever a phone call. Random questions with not enough information most of the time, but the things they gave were “I’m buying this property, and I’m putting this much down. My credit score is this, and I want this type of loan.”

So, as a lender, you can really easily prepare quotes on that. You can take that address, go to Google, look it up. You can see what type of property it is. Based on what type of property it is, it would then show you what corresponding fees you should be quoting. Not knowing when they are settling, I used 15 days of interest. After quoting, I send a follow-up email and text.

I then get a text back that says, “I’m sorry, I chose another lender. Their payment was lower and so were their closing costs.”

I immediately respond with my normal: “If you’d like a professional opinion or just some other industry pro to take a look at that for you to make sure it’s all proper, I certainly don’t mind doing that for you. Please, reach out, or feel free to forward.” The person disappeared.

Two weeks later, I get a phone call from a real estate agent that says, “Hey, John, I believe you spoke with my client a few weeks ago. They chose another lender, but their mortgage just got declined, and now we’re scrambling.”

So, of course, I’m looking at the issue as being more of a credit issue. Something about the transaction just went awry, and I’m going to try to pick up the pieces and get it to closing quickly.

It turns out the reason the loan was declined is… From what we call an “industry overlay,” there’s a rule that the lender imposes that is, actually, more strict than the actual rules of, let’s say, Fannie Mae or Freddie Mac. In this specific case, the down payment was coming from a gift. All of the down payment was coming from a gift. The lender, when they found that out, said, “No, sorry, our guidelines say you have to put down at least 5% of your own funds in order to get this mortgage.

So, I instantly say, “No problem. It’s very easy—we do that all day long. Let’s move forward.” I send over interest rate quotes—the exact same interest rate. I get a response.

“John, your payment is way higher than the other person, and your closing costs are way higher, too—what gives?”

We finally get on the phone. I convince them to give me the other lender’s quote. This very specific situation uncovered all of the things that could happen. Now, I will say this was a big national lender, and I will also say I do not think they were purposefully being deceptive. I think they just didn’t take their job seriously. I think they plugged in numbers, they put the bare minimum in, and that person was communicating in a digital space. I think most lenders that way say, “Who cares? Let’s just see if they bite and move forward.” And she did, and they did.

So, here are the things that were omitted:
The condo fees were off by $150 a month.
The property taxes were off by $100 a month.
They omitted owner’s title insurance.
They used basic title insurance coverage.
They did not include the condominium working capital fee, which, for those of you that don’t know and are thinking of buying condominiums, when you buy a new condo, you're required to put 2 months of the condo dues into the HOA account on the day of closing. That’s a real fee; it’s in your contract. When I looked at it online, I noticed it was new construction, so therefore, I built that fee in.
They had one day of interest.
They had 3 months of property taxes in the escrow account.

When you put all that stuff together, the person really thought her payment was $250 less per month. She thought, really for real, that she needed $3,000 less than she really needed. So, to her, the declined loan was a blessing in disguise because she was actually able to back out of that contract. But imagine a scenario where she couldn’t back out, and she had this big $15,000 earnest money deposit, or she really wasn’t comfortable paying $200 more a month. What if she didn’t have the extra $3,000? What if that $3,000 was furniture?

Know that closing costs, although they’re very specific, and although we should all be able to peg them very easily, very quickly, many, many, many lenders do not. I think it’s a flaw in the system. There are no consumer protections, by the way, for anything that happened. That entire estimate from that other national lender was 100% compliant. There was nothing there that she could go to the CFPB and say “Bait and switch! They sold me a bag of goods; this is deceptive.” Nothing existed for her to do any of that. She was just exposed, and it was terrible.

Now, she still, to this day, went back and rented, just so you know. She didn’t buy a house. Interest rates are now higher. Properties are now more expensive. It’s a terrible story in my mind. I think, had they picked up the phone, had they just had a conversation, had they leveraged some of the industry professionals to counsel them, they would have made a better decision. They would have had clarity on moving forward.

So, the key takeaway here is closing costs can be complicated, but they should be really easy if you choose the right lender. If you get multiple quotes, and two or three are kind of the same, and one is really low, you should probably ball up that low one in the trashcan and get rid of it.

If you want to learn more about this topic, feel free to download our companion e-book to this podcast at www.DownsMortgageGroup.com/shop, or you can always email us at DownsGroup@VellumMortgage.com. I hope you’ve enjoyed this podcast on shopping for a mortgage. Just know we have much more to come. Feel free to visit our website at DownsMortgageGroup.com. Until next time, this is John Downs.