When selling property, real estate investors need to consider a lot of things in order to finally close a deal. While getting an offer that matches your asking price, they will need to consider closing costs when calculating their bottom line. Depending on the state, closing costs for both the buyer and the seller may vary, with the seller usually incurring a larger percentage of the cost. However, it is not uncommon for buyers to ask the seller to cover part or all of the buyers closing costs during negotiations.
Though it seems like a pretty unfair deal, there are pros and cons of seller paying closing costs, especially in a buyer’s market. Read more to find out when you should consider covering the buyer’s closing cost on your real estate investment and what are the disadvantages of seller paying closing costs.
Why Would the Seller Pay for the Closing Cost of the Buyer?
In most cases, the closing costs will be calculated as a percentage of the selling price. Taking the terms buyer’s and seller’s closing cost, you might be wondering why it is even a discussion for the seller to pay both closing costs when the buyer’s cost is already significantly less. According to experts, some sellers will consider taking on the additional closing costs for two main reasons:
1. It’s a Buyer’s Market
If the real estate market at the time of closing is a buyer’s market, there may be more advantages than disadvantages of a seller paying closing costs. A buyer’s market refers to a real estate market wherein buyers possess more of the negotiating leverage due to the fact that there is supply than demand for properties in that area.
For example, if there are ten houses being sold in the same street but only three potential buyers, those potential buyers will now have the power to negotiate deals in their favor as the sellers are competing for their properties to be sold.
If you are selling your property in a buyer’s market, you may need to be more flexible to attract buyers to your home. Closing costs are paid out of pocket and offering to cover these costs means potential buyers won’t need to shell out cash upfront during the purchase.
You can make do without lowering your asking price but offering to cover the buyer closing cost can be a selling point that will make your deal more appealing than the competition.
2. Urgency to Sell
Another reason to cover the buyer’s closing cost on top of the seller’s cost is your urgency to sell the property. If you are in a rush to sell your property and need to close the deal as soon as possible, you may want to consider taking on the buyer’s closing cost. It will once again make negotiations more appealing to the buyer and most likely help your property get sold as soon as possible. In this case, you may need to settle for a lower profit margin but you will close the deal much faster.
What are the Disadvantages of Seller Paying Closing Costs?
While there are reasons to consider covering the buyer’s closing cost, there are quite a few disadvantages of seller paying closing costs themselves. If the seller pays closing costs, things like loans, bottom lines, realtor fees, and appraisal concerns may cause the sale to go south and in the worst cases, the seller may need to place their property back on the market. Here are some of the disadvantages of the seller paying closing costs that you should consider:
1. Lenders and Fraud Charges
When buyers ask for the seller to cover their closing cost, often, they will offer above the asking price and the surplus to be used as credit. While the practice may seem like a decent idea, it comes with its own set of problems. With every sale, whether it be on a primary residence or an income property, it will need to be appraised for a certain price to secure a loan. If the buyer is offering a higher purchase price and the property is not appraised for that price, it is likely that they will not be approved for their loan, causing the deal to fall through.
Knowing this, some people try to go around loan regulations and have the price increase and credit line off the books; however, these are grounds for fraud. While you may be willing to pay for both closing costs, the US Department of Housing and Urban Development have their own regulations that you need to consider. There are limits on how much a seller can cover as seller concessions often inflate the prices of properties though the value remains the same.
Lenders use the conventional concession limits, FHA concession limit, and VA concession limit as regulations and terms for the buyer’s loan. According to these laws, sellers can only pay around 3% to 9% of the purchase price or closing cost, depending on the loan. Attempting to give money outside of these terms is grounds for fraud and can lead to even bigger legal trouble for the seller.
2. Repairs After the Initial Sale
Most people think that the seller’s responsibilities end as soon as negotiations are over and the keys are turned over. However, there is a period of time after the buyer has moved in that they can still contact the seller regarding repairs, faulty appliances, and other deficiencies. All of these are the seller’s responsibility to fix, but if they have already reached their seller’s credit limit by paying for the closing costs of the buyer, they will not be able to do the repairs.
If the seller does choose to cover the buyer’s closing costs, the best solution is to fix all deficiencies before the move-in date as they will not go to the seller’s credit limit. Offering repairs after they have moved in when the seller’s credit limit has already been maxed out will also result in a possible fraud case as this is seen as trying to give money outside of the loan terms.
3. Total Closing Costs
How much does the seller pay at closing? On average, a seller will pay around 6% to 10% of the total purchase price in closing fees as opposed to the buyer’s closing cost of around 2% to 3% of the purchase price. While 2% to 3 % may not seem like a lot, it can make a big difference to your bottom line and return on investment. If a seller chooses to cover both fees, it will significantly lower the margin of profit they were hoping for and may actually cause the property to be a bad income property investment.
If the seller is truly considering covering the buyer closing cost, it would be advisable to do a thorough calculation on a seller net sheet to break down the total costs of selling, covering both the buyer’s fees and the expected net earnings. You can also use Mashvisor’s property investment tools to get a rough estimate of your net earnings after breaking down the costs of closing.
Disadvantages to the Buyer if the Seller Covers Buyer’s Closing Fees
Sometimes, buyers may insist on the seller covering their fees in a buyer’s market, which the seller may not want to cover due to the many disadvantages they will have to deal with. In this scenario, it may help to have knowledge on how covering buyer’s fees may actually be a disadvantage to the buyer as well. While it may not be a seller’s concern as this will not directly affect them, it may help in negotiations. If you want to save the negotiation without covering the buyer’s closing fees, there are a few things you should mention:
1. Mortgage Increase and Higher Monthly Payments
When the buyer offers more than your asking price as a way to negotiate you taking both closing fees, it may actually cost them more in interest than simply paying the buyer fees themselves. For example, you are asking for $250,000 for your property and they offer $260,000 with the intention of the extra $10,000 to be used as credit for the buyer’s fees. This may actually lead to an increase in their monthly mortgage payments and interest terms as it is a higher purchasing price.
When the buyer asks for a loan to cover the $250,000 at a 4% interest rate without asking you to cover the buyer’s fees, their interest rate and mortgage will be much lower in the long run compared to having to pay off a $260,000 loan with the same interest over the same period of time.
2. Increase in Down Payment
With every loan, the buyer will have to cover some cost out of pocket that will work as their down payment. The down payment is calculated by a percentage of the purchase price, meaning that a higher price means a more expensive down payment. If you are selling your property at $400,000 and the buyer’s lender requires a 10% down payment, they will only need to pay a $40,000 down payment. However, if they offer a higher price in the hopes of your paying the buyer’s fees of around $410,000, they will need to put down an extra $10,000 to purchase the property. While this may not seem like too much of a difference, these little details can be major factors in a negotiation going south.
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Is It Worth It for the Seller to Pay Closing Costs?
In general, there are more disadvantages of seller paying closing costs for both parties than there are benefits. You may be able to sell the property faster in a buyer’s market, but you risk not only compromising your bottom line but also risk the entire deal falling through and having to list your property all over again. Appraisals, loans, fraud, and other issues all come with paying the buyer’s closings fees as well.
Most experts say that the only time you should truly consider paying for buyer’s fees is when you are in desperate need of a buyer for your property or you have been struggling for months to sell. In this case, paying the fees may be your best option. On the other hand, if you’re currently selling in a seller’s market, meaning you are getting multiple offers for your property, there is no need for seller’s concessions to be part of the negotiation.
If you are not sure of what to do, you should consult your real estate agent about the possibility of your property selling without the seller’s concessions or if you should compromise your bottom line for the sake of a sale.
The Bottom Line of Sharing Closing Costs
Like every negotiation, you will need to consider the pros and cons of shouldering the buyer’s closing costs. The disadvantages of seller paying closing costs may compromise your bottom line but if your goal is to sell immediately, it may be a viable option for you. However, as a real estate investor, you should always study the market thoroughly to ensure that you are getting your money’s worth from your property and not compromising where you don’t need to be.
With Mashvisor’s property investment tools, not only will you see the median selling price of similar properties around your area but you can also list your property to reach more buyers and receive more offers, giving you more negotiation leverage as the seller.
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