Most purchase contracts include an inspection contingency. Sometimes, the buyers remove this contingency without asking the seller to make any repairs. But if the buyers ask the seller to remedy a defect, the resolution often takes the form of a credit from the seller to the buyer that is applied toward the buyers’ nonrecurring closing costs.
Closing costs are the miscellaneous fees that buyers pay at closing, such as title insurance, transfer taxes and loan origination fees, to name a few. Nonrecurring closing costs are those fees paid at closing that are paid on a one-time-only basis, such as title insurance and points. Recurring closing costs are paid on an on-going basis, like homeowner’s insurance and mortgage interest.
You may wonder why the credit is for the buyer’s nonrecurring closing costs rather than for repairs. One reason is that if you mention repairs in an addendum to the purchase contract, the buyer’s mortgage lender could require that you get the work done by closing. This could be difficult or impossible depending on the type of work and on the amount of time you have to get it done.
Lenders used to allow sellers to credit money that was held in an escrow or trust account for work do be done after closing. Few lenders will allow this anymore. Today many lenders sell their loans on the secondary money market soon after the loans are originated. A lender might have difficulty selling the loan with a holdback until the work is complete. If so, the lender loses time and money. Plus, it’s an administrative hassle for the lender.
Lenders limit the amount a seller can credit to ensure that a credit to the buyer doesn’t reduce the amount of the buyer’s cash down payment. From the lender’s standpoint, the security of a loan is in part determined by the amount of cash the buyer is investing. The more the buyer has invested in a property, the less likely he is to default on the mortgage. A credit for the buyer’s nonrecurring closing costs does not change the amount of the buyer’s cash down payment.
HOUSE HUNTING TIP: Negotiating a nonrecurring closing cost credit from the seller can be tricky. Some sellers are suspicious of buyers who request a monetary credit. They assume that it’s just a ploy to get money out of the seller. You may have an easier time negotiating a credit if it’s presented to the seller as an option.
For example, the buyers of a new home discovered during their home inspection that the home lacked adequate ventilation in the crawl space under the house. The inspector recommended the installation of a mechanical ventilation system. Instead of simply asking for a monetary credit for the recommended work, the buyers gave the seller the option of either installing the ventilation system or crediting them money at closing to be applied toward their nonrecurring closing costs. The seller chose to the credit the money.
One advantage of taking a credit rather than having the seller do the work before closing is that you can select your own contractor to do the work. Also, you can oversee the work to make sure that’s it’s done right.
Before asking for a credit for nonrecurring closing costs, check with your lender to see how large a credit the lender will allow. It’s often no more than 3 percent of the selling price. Also, the credit usually cannot exceed the actual amount of the buyer’s nonrecurring closing costs.
THE CLOSING: So, if you’re buying a $500,000 house, the lender would theoretically allow a credit of up to $15,000. But, if your nonrecurring closing costs total $11,000, the lender will limit the allowable credit to this amount.
Dian Hymer is author of “House Hunting, The Take-Along Workbook for Home Buyers,” and “Starting Out, The Complete Home Buyer’s Guide,” Chronicle Books.
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