Understanding "Cash to Close:" Your Key to a Smooth Home Purchase

The home-buying journey can be an exciting one, especially if you’re purchasing your first home. You’ll likely come across the term “cash to close” at some point. This refers to the total amount of money you’ll need to bring to the table to finalize the transaction. It includes your initial down payment, various closing costs, and additional expenses you may need to prepay before closing on the sale.

Knowing what to expect can help you better navigate the home-buying process – and prepare your finances. When it’s time to close on your new home, you’ll want to be ready with the right amount of cash on hand.

What Does “Cash to Close” Include?

“Cash to close” is an umbrella term that refers to the various upfront costs homebuyers need to cover. These costs can come as a surprise to first-time homebuyers who aren’t expecting them. Below are some common expenses to note. The total amount you pay depends on the home’s purchase price and location.

Down Payment

This is the portion of the sale price a homebuyer pays upfront. You can then use a mortgage loan to finance the remaining balance. Down payment requirements vary depending on the mortgage company and loan type. Putting down 20% has long been touted as the golden rule, but it’s possible to buy a home with much less.

Putting down 20% has its benefits, though. Doing so allows you to avoid paying mortgage insurance, which can add up to a big expense over time.

Closing costs

Closing costs are additional expenses that go hand in hand with homeownership. They typically add up to 2% to 5% of the purchase price. Closing costs generally include:

• Appraisal fees
• Loan origination fees
• Owner and/or Lender Title insurance
• Real estate attorney fees
• Credit report fees
• Tax service fees
• Mortgage recording fees
• Courier and shipping costs

Closing costs are often due upfront, though it may be possible to roll some or all of these fees into your mortgage loan. If you take this route, you’ll pay interest on these fees.

Prepaid fees

These are additional costs the homebuyer pays at closing before the payment due dates come around. They may include:

• Mortgage interest: You’ll likely have to prepay the interest that may accrue between the closing date and your first mortgage payment.
• Property taxes: Prepare to pay a portion of your property taxes upfront. This cost is usually split between the buyer and the seller based on the closing date.
• Homeowners insurance: Your lender may likely require you to pay your first year’s premium.
• Private mortgage insurance (PMI): You’ll need this if your down payment is less than 20%. You can either pay for it over time by tacking it onto your monthly mortgage payments, or you can pay it in full at closing.
• You may be required to prepay your HOA fees as well.

What Are Seller Credits?

Negotiating seller credits can reduce the total cash amount you need to close the sale. This is when the seller covers additional expenses in order to close the deal. Homebuyers can use this as a bargaining chip if they’re trying to save money at closing or account for unexpected surprises that may have arisen during the inspection, especially if it’s a buyer’s market. Working with a real estate professional can be helpful as they can guide you in the negotiation process.

What is the Closing Disclosure and Loan Estimate?

These documents are provided by the mortgage lender to ensure transparency. Read them over closely and ask questions if there’s anything you don’t fully understand.

• Loan estimate: This clarifies the estimated costs of the mortgage you’re trying to obtain. You can receive this shortly after applying for your mortgage.
• Closing disclosure: This outlines important details about your new home loan, including the closing costs, loan amount, monthly payment, and interest rate. You can receive it at least three business days before closing.

When you receive your closing disclosure, it’s wise to compare it to your loan estimate to make sure they line up relatively closely. If the disclosure is more than you expected, you can reach out to your lender to understand why.

How Does Escrow Fit Into All This?

Mortgage lenders set up escrow accounts to hold prepaid funds on behalf of homebuyers. For example, if you prepay your property taxes or homeowners insurance premiums, that money goes into an escrow account. The lender then uses that account to pay those bills on your behalf when they come due. This gives the lender peace of mind that these essential expenses will be paid. It also takes some responsibility off of the homeowner.

Different Payment Methods For Cash To Close

You and your mortgage lender may both want to use a secure and verified payment method. That means a debit card or a personal check probably won’t work. Accepted forms of payment may include the following:

• Cashier’s check: This is a check that’s certified by your bank. They front the funds, then withdraw that amount from your account after the mortgage lender cashes the check.
• Certified check: Your bank will verify that you have the funds in your account, then freeze those funds until the mortgage lender cashes the check.
• Wire transfer: This allows you to send funds to your lender electronically ahead of the closing date.

How the Type of Loan Impacts Cash to Close

The type of mortgage you’re getting could affect your cash-to-close amount. That’s because your down payment amount may be lower with one loan type than another. If you’re required to purchase mortgage insurance – which you can expect with federally insured mortgages like FHA loans and VA loans – that may also increase your final costs. Lender credits could affect your upfront expenses, as well. This is when the lender offsets your closing costs in exchange for a higher interest rate.

The Importance of Saving For Cash to Close

As a homebuyer (and a borrower), the last thing you want is last-minute financial surprises. Being prepared for cash-to-close expenses can help you avoid unwanted curveballs. When saving to buy a home, factor in closing costs and prepaid expenses on top of your down payment. A real estate professional can help you ballpark your total costs. You can then incorporate those costs into your savings plan.

The Bottom Line

Your cash-to-close amount may add up to a significant expense – which could rock your finances if you aren’t ready for it. Planning ahead and saving over time can help you complete your real estate transaction with confidence and ease. A real estate agent or personal finance professional can help you land on an estimated cash amount that works for you.