You might notice a section on your Closing Disclosure for your home purchase called “prepaids” “Oh, those are just some extra closing costs,” you might say. You might have noticed prepaids listed on your settlement statement as “Items Required by Lender to be Paid in Advance” or “Reserves Deposited with Lender” if you closed on your home before October 2015, when new closing documentation was introduced.
All fees or charges for actions or items related to originating and closing your mortgage are collectively referred to as “closing costs.” Payment to title companies, government agencies, or even the mortgage lender itself may be among them. Closing costs are used to pay those involved in your loan because they are necessary. You might be able to negotiate with the seller of the property to have them pay all or a portion of the closing costs depending on the type of loan you receive.
You are paying in advance for something, as the term implies. You’ve probably been required to pay in advance for a service at least once in your life. The majority of cable companies demand upfront payment for the following month’s usage. Your car insurance premiums are paid in advance. If you require the services of an attorney, you might be required to pay a retainer. You see, you paid in advance for something you intended to use later. You are also required to make a few prepayments by your mortgage lender.
Types of closing costs
The most frequent items you’ll see listed as prepaids are mortgage interest, real estate taxes, homeowner’s insurance, hazard insurance, private mortgage insurance, and any special assessments (usually connected to real estate taxes). Your lender requires funds to deposit into the escrow account in order to establish the account. A portion of your taxes and insurance, including private mortgage insurance if applicable, will be requested from you at closing as prepaids for this reason. Depending on when you close, you might not have another 30-45 days until a payment is due, which would prevent your lender from fully setting up your account in their system. By including some of these items in your closing, they can prepare your account for future deposits and withdrawals before you make your first payment. From now on, your regular mortgage payment will include all of these payments. The maximum amount that can be deposited into this account at closing is regulated. When combined with the monthly payments, the money collected at closing will be enough to cover the taxes and insurance when they become due. Escrows are required on FHA and VA loans. If the LTV is 80% or less on a conventional loan, they might be waived, according to Bob Dineen, Regional VP and Branch Manager at Atlantic Bay.
How is prepaid mortgage interest calculated?
Your mortgage payment consists of principal and interest. Your loan’s principal is reduced, and interest is paid to the lender as compensation for extending you the loan. It gets a little complicated from here because interest is paid in arrears. The interest is for the previous month when you pay your mortgage. When you make June’s mortgage payment, you’re paying May’s interest. However, there might be a brief time period that needs to be covered when you close, and you’ll pay that as prepaid interest. For instance, if you close on April 15 and the initial payment is due on June 1, the payment you make in June will pay off all of the interest from May. You’ll pay that as a pre-paid interest at closing, but what about the interest from April 15 to May 1? You’ll likely try to get a closing as close to the end of a month as you can in order to minimize the amount of prepaid interest. To ensure you have the money available, your lender can assist you in estimating how much you’ll need in prepaids.
Can the seller pay for your prepaids with the rest of your closing costs?
Maybe. You cannot include prepaids if your sales agreement specifies that your seller will only cover closing costs. It’s crucial that your contract explicitly states that the seller will cover both closing costs and prepaids. However, be cautious as some loan types have limits on how much your seller can contribute. Ask your mortgage banker what is acceptable. Please get in touch with us right away if you have any questions about your closing disclosure or any of the loan costs.
What is the difference between Prepaids and escrow?
Prepaid expenses are one-time payments made when a real estate transaction is completed. Escrow accounts are a recurring expense that the lender typically bills on a monthly basis. The principal, interest, and escrow amounts should be included in the monthly statement.
What are prepaid expenses at closing?
At closing, prepaid costs are payments made for future loan line items. Because you are paying for them before they are officially due, they are referred to as “prepaid” costs. Homeowners insurance, property taxes, and mortgage interest are the three most prevalent types of prepaid expenses.
What does Prepaids mean?
Prepaids are the cash payments you make at closing in advance of certain mortgage expenses becoming due. These include: Homeowners insurance. Property taxes. Mortgage interest.
How are Prepaids calculated?
The first step in figuring out your prepaid interest is to divide your annual interest rate by 365 days. Next, multiply that figure by the amount of your mortgage loan.