Is a No-Closing Cost Mortgage Really Worth It?

Are you planning to buy a house? First, get ready with a substantial amount of cash on hand. Buying a home is a significant investment associated with major financial and emotional strain. First, you have to arrange for the necessary down payment and monthly mortgage funds. Additionally, the upfront closing costs can add to your financial burden and drive up the house's purchase price.

For first-time homebuyers, it is often challenging to cobble together the required funds. But what if you find that you could avoid paying these upfront closing costs? Sounds great, right? This is where a no-closing cost mortgage comes in.

This article will discuss everything you need to know about a no-closing cost mortgage.

What Are Closing Costs?

Before discussing a no-closing mortgage, let's understand what closing costs are?

Closing costs are the various fees that buyers and sellers incur during home-buying. These costs can add up to 3% - 6% of your loan amount. Moreover, if you need mortgage insurance, the closing costs can be even higher. Some of these expected closing costs that mortgage lenders in Florida charge includes:

• Origination fee: For processing your loan application.
• Discount points: To get a lower interest rate on your mortgage.
• Appraisal fee: To conduct an appraisal of the property to determine its market value.
• Home inspection fee: To check for any repairs or defects in the property.
• Credit report fee: To pull out a credit report to fit your creditworthiness.
• Title insurance: To protect against any legal issues arising from a defect in the property's title.
• Attorney's fees: To hire an attorney to review the documents and advise you during the home-buying process.

Depending on your situation, more closing costs can be payable while closing the deal.

How Does a No-Closing Cost Mortgage work?

You must have seen the adverts - "no closing costs," "no fees." They sure sound attractive. But, how does a no-closing cost mortgage work?

In a nutshell, with a no-closing cost mortgage, the lender agrees to front the closing costs on your behalf and later compensate for it by charging you a higher interest rate over the life of the loan.

For example, you're taking out a $300,000 mortgage with a 3.5% interest rate and must pay $9,000 in closing costs. So over the life of a 30-year loan, you would pay $215,609 in interest.

Now, let's say you choose a no-closing cost mortgage with a 4% interest rate. In this case, the lender will pay your closing costs upfront on your behalf. However, because of the higher interest rate, you would end up paying $247,415 in interest over the life of the loan - that's $31,806 more than what you would have paid with the conventional mortgage.

So, is a no-closing cost mortgage worth it? To make up for the upfront fees, lenders will often charge a higher interest rate on a no-closing cost mortgage. Thus, you have to pay larger monthly payments with interest for the duration of your loan. So, while you may not have to pay anything out of pocket upfront, you'll likely pay more over time than a traditional mortgage.

Moreover, the lenders will also include a prepayment penalty provision in the mortgage contract. A prepayment penalty provision prohibits the borrower from selling the house or applying for a FHA mortgage refinance within a certain period before the lenders have recouped their costs. For example, if you sell your home within three years, you would be required to pay a penalty of 3% of the loan amount to the lender.

Nevertheless, you can still refinance your no-closing cost mortgage if you find that the refinancing rates in Florida offered by a refinance mortgage company are significantly low and can considerably help you save on your interest rates and larger monthly payments.

Pros and Cons of a No-Closing Cost mortgage

Like every financial product, a no-closing cost mortgage has its own set of pros and cons.

Pros

You don't have to pay anything up front out of your pocket. Thus you will be relieved of the financial burden while purchasing a house.

• You can use the money to make home improvements or pay a larger down payment to pay your Florida mortgage loans faster.
  
  
• It can be a good option for first-time homebuyers who are tight on cash and don't have enough savings to cover the closing costs.
  
  
• No-closing cost mortgage is also worth it if you intend to live in your house for a short period and then sell it. Thus, you do not have to pay the entire mortgage and can save on interest.

Cons

• You will have to pay a higher interest rate and higher monthly mortgage over the life of your loan.
  
  
• You may be required to pay a prepayment penalty if you sell your house or refinance your mortgage before a specific period.
  
  
• As closing costs are rolled into your mortgage, it may affect your LTV ratio and reduce your home equity. Thus you will have to pay PMI, which adds to your monthly payment.
  
  
• No-closing cost mortgage is not worth it if you intend to stay in your house for a more extended period, as you may end up paying more for your home than its actual value.

Other alternatives to cut-on closing costs

There are other alternatives to reduce or eliminate your closing costs.

• Negotiate with the seller to pay a portion or all of your closing costs.
  
  
• Deal with a real estate agent, attorney, or appraiser to cut-on certain charges.
  
  
• Shop with different lenders to compare mortgage rates and fees.
  
  
• Find out if specific grants and programs cover upfront costs, especially for first-time homebuyers and low-income earners.

Bottom Line

So, before you opt for a no-closing cost mortgage, do your homework and understand all the terms and conditions. Weigh the pros and cons carefully and then make an informed decision best suited for your financial situation.