The Complete Guide to No Closing Cost Loans

Getting a mortgage to buy a new home or refinance your current one comes with a lot of fees called “closing costs” These costs can run from 2-5% of your total loan amount, which can be thousands of dollars For many buyers and homeowners, coming up with this cash upfront poses a major barrier to getting the financing they need.

Fortunately, there are options to get a no closing cost loan. With this type of mortgage, the lender covers some or all of your closing costs in exchange for a slightly higher interest rate. The lender makes up the money over time from your extra monthly interest payments.

No closing cost loans provide an excellent solution if you want to lock in a low rate now but lack the cash to cover closing costs. But before jumping in it’s important to understand exactly how these loans work and weigh the pros and cons.

What Are Closing Costs on a Mortgage?

When you close on a mortgage, you have to pay various fees and prepaid costs. These closing costs include:

• Origination fees – Charged by the lender for processing, underwriting, and funding the loan. Often 1% of the total loan amount.

• Appraisal fee – For the appraiser to assess the home’s value. Typically $400-$600.

• Credit report fee – To check your credit history. Usually $50-$100.

• Title fees – For title search, title exam, title insurance. Often $1,000-$2,500.

• Recording fees – To formally record your deed and mortgage. Commonly $200-$300.

• Prepaid taxes and insurance – Homeowner’s insurance premiums and property taxes need to be paid upfront at closing.

On a $300,000 mortgage, you might pay anywhere from $6,000 to $15,000 in closing costs. Obviously, coming up with this chunk of change can be a stretch.

How Do No Closing Cost Loans Work?

With a no closing cost loan, you don’t have to pay closing costs out-of-pocket. Instead, the lender covers some or all of the fees, and you pay a higher interest rate in exchange.

For example:

• Standard rate/costs: 4.5% interest rate, you pay $5,000 closing costs
• No closing cost option: 5% interest rate, lender pays $5,000 closing costs

By charging you a higher rate, the lender earns enough extra interest over the life of the loan to recoup the closing costs they fronted.

Depending on the lender and program, no closing cost mortgages may cover:

• Lender fees only – Like origination and processing fees
• Lender fees + third-party fees – Such as the appraisal and title exam
• All lender fees, third-party fees, and prepaid costs – This is the most complete version

The more closing costs the lender pays, the higher your interest rate will be. So it’s essential to compare “apples to apples” quotes where the lender is covering the same items in each offer.

The Pros and Cons of No Closing Cost Loans

Before deciding if this type of mortgage is right for you, weigh the potential advantages and drawbacks:

Pros of No Closing Cost Loans

• Immediate savings – You avoid thousands in upfront closing costs
• Access home loans now – Even if you lack cash for closing costs
• Lock in low rates – Secure today’s rates without waiting to save for costs
• Lower payments – Payments may be lower than renting if rates are low enough

Cons of No Closing Cost Loans

• Higher interest rate – You’ll pay more interest over the long run
• Higher monthly payments – To cover the larger interest charges
• Longer break-even point – It takes longer for savings to outweigh extra costs
• Harder to qualify – Lenders may have stricter requirements for these loans

As you can see, the main tradeoff is saving money now for higher long-term costs.

No closing cost loans tend to work best for borrowers who:

• Plan to move again soon
• Are struggling to pay rent and need lower payments now
• Simply lack the cash to cover closing costs

How Much Higher Are the Interest Rates?

Just how much more will your interest rate be with a no closing cost loan? That depends primarily on two factors:

1. Your credit score and financial profile – The stronger your credit and financials, the lower your starting rate will be before the increase.

2. How many closing costs the lender is covering – The more fees they pay, the more your rate has to rise to compensate.

Here are some examples of potential rate increases:

• Paying just lender fees: Increase 0.25% – 0.5%
• Paying lender + third-party fees: Increase 0.5% – 0.75%
• Paying all costs: Increase 0.75% – 1%

However, it’s impossible to know exactly how much your rate will rise until you get quotes from lenders. Be sure to get offers covering the same closing costs for an apples-to-apples comparison.

No Closing Cost Loan Eligibility and Requirements

To qualify for a no closing cost mortgage, you’ll generally need:

• Credit score – 620 or higher
• Down payment – At least 3% for conventional loans, 3.5% for FHA
• Debt-to-income ratio – Below 50% is best

Additionally, some lenders may require:

• Higher minimum credit scores such as 640 or 660
• Lower maximum debt-to-income ratios like 45% or 43%
• Larger down payments if using private mortgage insurance

The more competitive your financial profile, the more likely lenders will be able to offer you one of these loans. Work on improving your credit and reducing debt before applying to boost your chances of approval.

No Closing Cost Refinances

You can also get a no closing cost loan when you refinance an existing mortgage. This enables you to:

• Lower your interest rate and monthly payments
• Shorten your loan term
• Switch from an adjustable to fixed-rate mortgage
• Cash-out home equity

Without having to shell out hefty closing costs.

However, for a no closing cost refinance to make sense, your new loan has to have a low enough rate that you still save money in the long run. Carefully crunch the numbers and compare costs.

For homeowners who need to reduce their payments but can’t pay closing costs out of pocket, a no closing cost refi can be an excellent solution.

Alternatives to No Closing Cost Loans

If you’re concerned about the higher interest rate and costs, here are a few other options for covering closing costs:

• Negotiate with sellers – Ask sellers for help with costs; they may agree if it means the deal goes through.

• Sellers assist programs – In some areas, sellers are required to contribute a percentage toward buyer closing costs.

• Grants or loans – Many state and local groups offer grants or low-cost secondary loans to assist with down payments and closing costs.

• Lender credits – Get credits from your lender for taking a higher rate in exchange for closing cost help.

• Split closing costs – You and the seller split costs, each paying about 50%.

• Roll into loan amount – On a refinance, you may be able to add closing costs to your new loan balance.

Explore these alternatives before deciding if a no closing cost mortgage is your best route.

Tips for Getting the Best No Closing Cost Loan

To get the lowest rate increase possible on a no closing cost loan:

• Shop around – Compare offers from 3-4 different lenders
• Get pre-qualified – Being pre-qualified can earn you a lower rate
• Improve your credit – Aim for a score of at least 720
• Lower your DTI – Reduce monthly debts to lower your DTI
• Make a larger down payment – At least 20% down if possible
• Take a shorter term – 15-year loans often have lower rates
• Time it right – Apply when mortgage rates are at historical lows

The lower your starting rate, the lower your no closing cost rate will be. So anything you can do to secure the absolute lowest rate will help minimize how much your rate has to rise to cover closing costs.

When Do No Closing Cost Loans Make Sense?

This type of mortgage really helps borrowers who:

• Need to buy or refinance now but can’t cover closing costs
• Plan to move again within 5-7 years
• Are struggling to afford high rental payments

You’ll break even in 5-7 years typically, so you come out ahead if you sell or refinance again within that timeframe.