This lesson covers the costs you incur
when you get a mortgage loan.
Understanding these costs will make you
an informed buyer, much better equipped to choose the mortgage
package that best meets your needs.
Interest Expense and Points
The most important mortgage-related costs are interest expense and
- Interest expense. Interest expense is the amount
paid on mortgage debt. The amount of interest expense is determined
interest rate. For example, if you borrow $100,000 at a 7%
interest rate, you would pay $7,000 in interest in the first
- Discount points. Discount points (also referred to
as points) are an upfront fee paid to the
lender, in order to lower the interest rate on the loan.
One point equals 1% of the loan amount. Thus, if you get
a $100,000 mortgage at 2 points, you will need to pay 2% of the loan
(i.e., $2,000) at closing. Since you are required to pay $2,000 upfront,
you actually only receive $98,000 from the lender.
Normally, paying discount points is voluntary. You can pay discount
points upfront and get a lower
interest rate, or you can avoid discount points and pay a higher
Should you pay discount points? The answer
depends on many factors (the interest rate, the number of points,
of the loan, etc.). This is an important consideration in the choice
of a loan - one that can save you thousands of dollars. We show you
how to sort it all out in the
case study on points.
A prepayment penalty is a fee charged by a lender
when the borrower repays the loan before the end of its term.
Prepayment penalties exist to compensate the lender for interest
and other charges that would otherwise be lost.
Normally, prepayment penalties are only charged during the first
3 to 5 years of the mortgage. And loans with prepayment penalties
usually have lower interest rates than loans without prepayment
Other Mortgage-Related Expenses
In addition to interest rate, discount points, and prepayment
penalties, home buyers may incur other
mortgage-related costs, which are paid at closing.
Some are negotiable and may be avoided altogether.
- Origination fee. This is an upfront fee paid to
the lender at the time of closing. Like discount points, the
origination fee is stated in the form of points. Thus, if you get
a $100,000 mortgage with a 3-point origination fee,
you will need to pay 3% of the loan
(i.e., $3,000) at closing. Since you are required to pay $3,000 upfront,
you actually only receive $97,000 from the lender.
Unlike discount points, the interest rate on the loan
is not affected by the origination fee.
- Appraisal fee. This covers the services of a professional
appraiser, who estimates the fair market value of the property.
- Attorney fee. An attorney may handle the settlement
transaction for the lender. This fee covers those
- Credit report fee. This is a fee paid to a credit-reporting
company. Its purpose is to verify the financial status of the borrower.
- Document fees. These fees cover the preparation of
documents and other papers required to complete the property
- Homeowner's insurance. This protects the lender and the
buyer in the event that the home is damaged by fire, weather, or some other
event. The premium is often made part of the monthly mortgage
- Private mortgage insurance (PMI). This protects the lender, if the
buyer defaults on mortgage payments. It is often required for loans with
small down payments (less than 20% of the home's fair market value).
Buyers can avoid this expense by increasing their down
- Property survey. A property survey defines the exact
location of a house and its boundaries. Many lenders require that a property
survey be conducted. However,
lenders will sometimes accept the seller's old survey in lieu of a
new survey, which saves the expense of conducting a new survey.
Check with the lender.
- Recording fees. These are fees imposed by local
juridictions for recording the new deed and other
- Termite inspection. A termite inspection is often recommended
and may be required in some parts of the country.
- Title insurance. Many lenders require title insurance on
the property. This protects the lender against liens and ownership problems
that arise after the mortgage is purchased. Since this protects only the
lender, you should get separate coverage to protect yourself, as well.
The cost to you is often greatly reduced if you buy title insurance at
- Title search. Most lenders require a title search to
verify that the property has no liens against it.
As we move through the remainder of this tutorial, we will talk more about these
cost factors. We will show you how to collect cost information efficiently,
and how to use the information you have collected to identify the mortgage
plan that best meets your financial needs.