Your home is probably one of your most valuable assets — so much so that you may be toying with the idea of leveraging it as a source of quick financing. There’s more than one way to collateralize your home and unlock money for any number of reasons, from getting through a financial emergency to making home improvements to consolidating high-interest debt.
But borrowing against your home doesn’t come for free. Closing costs are typically tacked on so lenders can recoup the costs of processing your loan. Unfortunately, there’s no single equation for these costs at work. Every bank is different, and things like your loan-to-value (LTV) ratio and credit score come into play, as well.
The property itself can also affect how much you shell out in closing costs. For example, if you live in a flood zone, it isn’t uncommon for lenders to charge for a flood evaluation certificate.
Andy Krider, vice president of residential mortgage banking at Bryn Mawr Trust in Pennsylvania, said closing costs for home equities can vary significantly by lender, based on how they underwrite and process them.
In other words, it pays to shop around to find the home equity product that makes the most sense for you. When reading the fine print, keep these potential closing costs in mind.
Home equity loan closing costs
A home equity loan is a fixed-rate, lump-sum loan given to a borrower who has enough equity to borrow against his or her property. For example, if your home is valued at $300,000 and you’ve got $200,000 left on your mortgage, you have $100,000 of equity to work with. (You can plug your own numbers into LendingTree’s home equity calculator.)
Dividing your loan amount by the property value will give you your LTV ratio. Most lenders require borrowers to be under 90%, and the best rates and terms for home equity loans generally go to borrowers with higher credit scores.
Now let’s talk closing costs. The good news is that many lenders leave off application fees all together. Lenders like Discover, for example, will even waive the origination fee. However, if the loan calls for an up-to-date home appraisal, the cost for that may be on your shoulders. The average price tag for appraisals is around $300 to $400, but it tends to vary by region.
Total closing costs for home equity loans usually come in at around 2% to 5% of the cost of the loan. So a $125,000 loan will likely cost you between $2,500 and $6,250. This accounts for everything from appraisal fees to potential costs associated with origination fees, title-search fees, notary fees, credit report fees and lawyer fees. Again, every lender adheres to its own criteria.
HELOC closing costs
A home equity line of credit, or HELOC, is structured differently. Once approved, you borrow funds on an as-needed basis (usually up to 85% of the current home value) during what’s called the draw period, which usually lasts around 10 years. You’ll probably have to make interest-only payments during this window until you enter the repayment period, at which point you’ll start paying back interest plus the principal. And unlike home equity loans, most HELOCs have variable interest rates, meaning they’ll change over time.
Generally speaking, HELOC closing costs tend to be lower than home equity loans, but a variable interest rate that ends up skewing high over time could wash out the savings. When all is said and done, you’ll likely shell out 2% to 5% of the loan on things like application fees, appraisal fees, attorney fees, title search and discount points — but not necessarily.
Krider added that a no-closing-cost HELOC might be your best bet if you’re planning on paying off the balance relatively quickly, essentially giving the interest rate less time to fluctuate.
Cash-out refinance closing costs
A cash-out refinance involves taking out a new mortgage loan for an amount that’s higher than your original mortgage. The borrower can then use the excess balance however he or she pleases. It’s essentially just another way to turn home equity into cash.
Closing costs tend to be steeper than home equity loans and HELOCs because you’re taking out a brand-new mortgage. It isn’t uncommon to cough up appraisal fees, title-company fees, attorney fees, inspection fees, credit report fees, loan origination fees and more. Again, it all depends on the lender. With that said, closing costs will likely add up to 2% to 4% of the new mortgage.
A cash-out refinance can still make financial sense, though.
“Oftentimes, the rate is actually better, and you can also get a 30-year fixed term, whereas home equity loans oftentimes don’t go out to 30 years. A lot of banks want to cap them at 20,” Krider said. “It might make more sense to pay the closing costs to do a long-term fixed rate with one loan, rather than do something that’s shorter term with a much higher payment.”
In other words, check your personal financial situation and long-term goals to determine what gels best with your budget. With that being said, a cash-out refinance doesn’t make much sense if the interest rate on the new mortgage is higher than your original one. If this is the case, a home equity loan or HELOC could be cheaper in the long run.
How to reduce your home equity loan closing costs
Krider said one of the most effective ways to reduce your closing costs is to shop around. No two lenders are alike, and neither are their closing costs. It also pays to dust off your negotiation skills to see which lenders are willing to come down on their fees and fight for your business.
One other detail worth noting: Getting approved for a home equity product is tougher if your credit needs work — and it will cost you more. The national average annual percentage rate for a 10-year, $50,000 home equity loan, at the time of this writing, is 6.311% for those with excellent credit, according to FICO. But that percentage jumps to 10.636% for folks whose credit score is in the 620 to 639 range. Monthly payments are also higher. If you’re looking to bring down your costs, begin by working to improve your credit score.
Loans also tend to get more expensive with a higher LTV ratio. “Some banks will only go to 80%; others may go as high as 95% loan-to-value,” said Krider, adding that higher LTVs typically translate to higher rates.
Your total closing costs are a major factor in deciding which home equity product is right for you. It pays to compare offers and read the fine print before picking a lender.