Credits are money that comes back to the borrower to absorb a portion or all of the closings costs. Credits can either come from the lender or the seller.
Lender Credits: A higher interest rate yields the lender more profit than a lower rate. With the additional revenue that is created from the higher rate, or “yield spread”, that profit can go back to the borrower in the form of a “lender credit”. This is a recent change, with the passing of the Dodd–Frank Wall Street Reform and Consumer Protection Act. The manner in which loan originators are compensated was changed in 2011. No longer does a loan officer make more money from a higher interest rate or less money from a lower interest rate. Now, differences in rate will affect the credit a borrower is eligible to receive.
Example: Let’s say a 3.50% interest rate is the “par” rate or break even rate for the mortgage lender. This means it doesn’t cost the borrower any money to get this interest rate (in “points”), but at the same time it doesn’t give the borrower any additional money (“lender credit”) towards closing costs. However, a 4.0% interest rate is “above par” and therefore the mortgage lender is able to give a lender credit to cover some or all of a borrower’s costs.
How does this translate to your mortgage loan?
The borrower has the option to go with the lowest or “par” rate available or go with a slightly higher interest rate and use the additional yield spread profit to cover closing costs. The slightly higher payment difference might not be as important as parting with the additional money for closing costs. Only the borrower can decide whether having a reduced amount of money out of pocket at the beginning will be enough to offset slightly higher payments for the remaining term of the mortgage.
Sellers Credits: A seller credit is just what it sounds like. This is when the Seller of the property agrees to give a portion of their profits from the sale to cover the buyer’s closing costs. This is commonly referred to as a “seller’s concession” (the seller is conceding a portion of their profit). It seems unlikely the Seller would agree to do that, but in fact, Seller concessions for “closing costs & prepaids” are very common in Massachusetts.
Closing cost credits can be utilized for the following:
- Processing, underwriting, application & credit report fees
- Attorney Fees, Settlement Fees & Title Exams
- Title Insurance Premiums – Owner’s & Lender’s
- Recording Fees
- Prepaid items such as taxes, insurance and mortgage insurance
How To Structure A Seller Concession Home Purchase In Mass.?
The property you have found is listed for $200,000 and you & your real estate agent would like to offer $195,000.
Your agent could offer the price of $195,000
OR
Your agent could offer $200,000 with $5,000 back at closing towards closing costs & prepaids
The NET amount is still the same for the seller ($195,000), but it’s structured in such a way as to reduce the amount of out of pocket expenses for the buyer.
Tips for Structuring a Seller Closing Cost Credit Offer in a Mass. Home Purchase?
- It must be listed in the initial offer
- FHA maximum is 6%, VA maximum is 4%, USDA has no maximum
- Conventional Max varies from 3-9% depending on the downpayment, so ask the Mass Mortgage Buddy prior to putting in an offer
- Be sure to specify as “closing costs & preaids” so as not to exclude one or the other category. Listing only “closing costs” will not allow prepaids to be offset
- Make sure the amount requested is not in excess of the actual closing costs & prepaids, otherwise a portion of the concession may be lost later when the final numbers are prepared. This happens quite frequently on lower priced home purchases.
- Remember the lender must still appraise the house at contact price
Negative Side of a Seller Credit: Keep in mind, you may have reduced the amount of money you are required to bring to the closing table but, you are financing a larger loan size and therefore paying more in interest over time.
Your real estate agent and attorney should help you structure and negotiate your home purchase offer for you, and part of that offer will include the seller credit if that’s the route you decide to take.
