Exactly What Are Closing Costs?

I have been surprised, lately, at the number of people who have been asking me "Just what are closing costs? And why do I have to pay them?"

Whether you are a buyer or a seller, you will most likely have some responsibility for some closing costs in most real estate transactions. When you are the buyer, it is more likely that you will actually have to bring a check to settlement (also known as a 'closing' of a real estate transaction). Often, although not always, the seller's closing costs can come out of the proceeds of the sale. In either case, though, there are usually fees for both sides involved in a real estate transaction and these fees are called the "Closing costs".

Closing costs are normally enumerated for both the buyer and the seller on what is known as a "Settlement Statement". Imagine the confusion, and the opportunity for mistakes, or worse, misrepresentations, if everyone had different "Settlement Statement" formats!

As a result, the US Government developed a standard Settlement Statement form that is used nationwide. It is known as a HUD-1 sheet. It is so named because it was developed under the auspices of the US Department of Houseing and Urban Development, or HUD (pronounced "hud").

The HUD sheet is a legal sized sheet of paper, printed on both sides. It has a header area that has information about the transaction like the type of loan, the loan number, the names & addresses of the borrower, the seller, the lender, property address and the settlement agent.

Each space for data is labeled with either a number or letter so that it is easy to reference any particular piece of data, even over the telephone, if necessary.

The remaining space is divided into 2 columns. One is labeled "Summary of Borrower's Transaction" (also section "J.") and the other is labeled "Summary of Seller's Transaction" (also labeled as section "K.").

Each column then enumerates charges and credits in the appropriate column(s). The most obvious one and the one that appears first is the "Contract Sales Price". It appears as a debit on the borrowers' or buyers' side and as a credit on the sellers' side.

Other charges and fees include such things as the city, county and school taxes. These are paid by the buyer for the time that is remaining in the taxing period from settlement day onward. These are credited to the seller for the time period paid for in advance up until settlement day. This approach is called prorating.

Other fees for the buyer include such things as wire transfer fees, Appraisal Fees, Tax Service Fees, Administrative fees or Application fees.

One of the largest charges a buyer will generally see is the Buyers' share of the Transfer Tax. In the state of Pennsylvania, the Transfer Tax is often split between the Buyer and the Seller, although, as is the case with any item in a contract, this is negotiable.

Other fees include Document Preparation, Notary Fees, Title Insurance, Closing Service Letter fee, Recording Fees, andoveand hing Fees.

Any deposits or earnest monies which have been paid by the buyer are shown as credits on their side of the HUD sheet. Any monies paid by lending institutions in the form of mortgages are also reflected as credits to the buyer's side. Any Sellers' assist also shows as a credit. All of these funds are indicated as "Paid By or On Behalf Of Borrower".

When all of these items are added together and debits subtracted, the bottom line is the amount the borrower has to pay, or in some rare cases, gets refunded.

Similarly, the Summary of the Sellers' Transaction lists the typical debits and credits, which are added together to come up with a bottom line. This bottom line is usually unt of cash to the seller, but in some instances, the seller may have to come up with some cash as well. This can occur if the loans taken against the property exceed the amount of the sale.

The back side of the HUD sheet itemizes in more detail the items "Paid From Borrowers Funds at Settlement" and the items "Paid From Sellers' Funds Settlement". These totals are then transferred to the front of the sheet in the appropriate columns.

A Real Estate Transaction may involve upwards of 40 - 60 individuals, each one a professional in their specific area. The fees listed above are used to compensate each of those individuals for their professional involvement.

It is fairly accurate to say that Closing Costs are one of the largest barriers for most Home Buyers to bring a successful Real Estate transaction to conclusion.

Your Real Estate Agent should always provide you with an estimate of closing costs. This is referred to as a "Good Faith Estimate" and it should give you a very good idea how much money you will need to bring to settlement.

Terms and fees vary by state, so make sure that you check with your Real Estate Agent to see how your state may be different.