Property investors have a lot to consider to close a deal. Closing costs will be factored in a while, getting an offer that matches your asking price. Closing costs for both buyer and seller may vary, with the seller typically asking for more. However, the seller may offer to pay part or all of the buyer's closing costs.
Although it might seem unfair, there are pros and cons to a seller paying closing costs. Check out when you should cover the buyer's closing cost on your real estate investment and what the disadvantages are.
How Can Sellers Cover the Buyer's Closing Costs?
A closing cost is calculated as a percentage of the sales price. It might seem silly to discuss the seller paying closing costs when the buyer's cost is already low. Two main reasons cause sellers to consider taking on additional closing costs:
1. Buyer's market
It may be more beneficial to have the seller pay closing costs during a buyer's market. Due to a shortage of available properties, buyers possess more bargaining power in a buyer's market.
Suppose ten houses are for sale on one street, but only three people are interested; those potential buyers have more power to negotiate deals as the sellers compete for their properties.
It may be necessary to be more flexible if you're selling your property in a buyer's market. By covering closing costs, potential buyers won't be required to pay cash upfront. Offering to pay the buyer's closing costs can make your deal more appealing than your competition.
2. Sale urgency
It would help if you also covered the buyer's closing costs on top of your own. Take on the buyer's closing cost if you need to close the deal as soon as possible. Your property will most likely get sold faster with this strategy. Your profit margin may be lower, but you will close the deal faster.
Why Should Sellers Pay Closing Costs?
Sellers paying for closing costs has some benefits, but also some disadvantages. Even if the seller pays the closing costs, things like loans, bottom lines, realtor fees, and appraisal concerns can hurt a sale, and the seller may need to place the property back on the market. Consider these disadvantages of the seller paying closing costs:
1. Fraud charges by lenders
In most cases, buyers asking for closing cost coverage will offer over the asking price, and the surplus will serve as credit. It may seem like a good idea, but it has its own set of problems.
For every sale, whether on a primary residence or income property, an appraisal is required to secure the loan. A buyer who offers a higher purchase price may not qualify for a loan if the property isn't appraised for that price.
Some people attempt to skirt loan regulations by having a price increase and credit line off the books, but this is fraud. Whether you are willing to pay for both closing costs or not, the HUD has its regulations to consider. Even though property values remain the same, seller concessions often inflate prices.
Conventional loan terms, FHA loan terms, and VA loan terms determine the concession limits. Sellers can only pay 3% to 9% of the closing cost, depending on the loan. The seller could face even bigger legal trouble if the money is given outside these terms.
2. After-Sale Repairs
Most people think the seller's responsibilities end when the keys are handed over. The buyer can still contact the seller about repairs, faulty appliances, etc., after they've moved in. If the seller has already exceeded their credit limit by paying for the buyer's closing costs, they will not be able to fix these.
The disadvantages of Seller Financing
Repairs after a certain period are the seller's responsibility.
3. Closing costs
What are they? On average, a seller will pay around 6% to 10% of the total purchase price in closing fees instead of the buyer's closing cost of around 2% to 3% of the purchase price. It may not seem like much, but it can impact your bottom line and return on investment. It will reduce the profit margin significantly, causing the property to become a lousy income property investment.
The seller should do a thorough calculation against a seller's net sheet to break down the total selling costs, including both the buyer's fees and net earnings. Property investment tools can also be used to estimate your net earnings after breaking down closing costs.
Closing fees covered by the seller are disadvantageous to the buyer
The buyer may insist on the seller covering their fees in a buyer's market, which the seller doesn't want to do due to the disadvantages they will have to deal with. It may help to know that buying fees may be a disadvantage to the buyer in this case.
The seller will not be directly affected, making negotiations more straightforward. The following things will help you save the negotiation without paying the buyer's closing fees:
1. Increase in mortgage payments
The buyer who offers more than your asking price may end up paying more interest than if they were to pay the buyer fees themselves. You ask for $250K, and they offer $260K intending to use the extra $10,000 for purchase fees. The mortgage payments and interest terms may increase as it is a higher buying price.
Using a 4% interest rate and paying the buyer's fees will result in a much lower interest rate and mortgage in the long run than having to repay a $260,000 loan at the same interest rate.
2. Down payment increase
The buyer must cover some out-of-pocket costs for every loan. An expensive down payment means a higher price means a more significant down payment. The buyer will only need to pay $40,000 down if you sell your property for $400,000 with 10% down.
The buyer, however, will be required to put down an additional $10,000 if they intend on paying the buyer's fees of around $410,000. There are a lot of little details that can make or break a negotiation.
There are more disadvantages than benefits to the seller paying closing costs. While you may have the opportunity to sell the property faster in a buyer's market, you also risk compromising your bottom line and possibly losing the whole deal. All these issues come with closing fees, including appraisals, loans, and fraud.
In most cases, a buyer's fee is only justified when you have been struggling to find a buyer for months. It might make sense to pay the fees in this case. You do not have to negotiate the seller's concessions in a seller's market, where you have multiple offers on your property.
It could be possible for your home to sell without the seller's concessions or if you should sacrifice your bottom line to make a sale. Discuss this with your agent.
The Bottom Line
If you shoulder the buyer's closing costs, you must weigh the pros and cons. If you need to sell immediately, you may shoulder the costs. Real estate investors should always study the market thoroughly to get the most for their money and do not compromise where they don't need to. Our tools will show you the median selling prices of similar properties around your area and help you list your property to reach more buyers and receive more offers, giving you the advantage in negotiations.