Getting approved for a home loan can be exciting, but before you act too fast, you should know how to save money on it. Did you know that closing costs can amount to as much as 5% of your loan amount? That’s some serious money. Let’s say you borrow $300,000, you would pay as much as $15,000 in closing costs, and that’s money you must come up with on your own.
Before you sign on the dotted line, use the tips below to help you save money on your next home loan.
Improve Your Credit Score
The first thing lenders look at and use to determine your interest rate and some of your closing costs is your credit score. That first impression of you should be a good one or you can brace yourself for higher rates and closing costs.
Take the time to pull your credit report here. You have access to one report from all three bureaus annually. This could be a good time to pull all three, this way you know what everyone reports about you. Go through the report and see if everything reported is accurate. If it is, next see what you can do to improve your credit history. Look for things like:
- Late payments – Bring them current
- Overextended credit – Pay your balances down
- Too much revolving debt – Pay your credit cards off
- New inquiries – Let them age/drop off and don’t apply for new credit
Once you make one or more of the changes above, give your credit score some time to change. It won’t happen overnight and could take as long as a couple of months.
Make a Down Payment
Lenders assign interest rates and closing fees based on your risk level. One of those factors is your ‘skin in the game.’ Lenders like to know that you have some of your own money invested in the home. With your own money invested, you are more likely to make sure you make your payments on time. This is because your own money is at risk.
While you don’t have to make a 20% down payment, a nice sized down payment would help. For example, FHA loans require just a 3.5% down payment. If you can swing it, even putting 5% down can help lower your rate and/or the closing costs the lender charges because you have more of your own money invested.
Pay Points Upfront
This tip may seem counterintuitive, but if you are in your home for the long-term, this can help. Paying points upfront means you pre-pay your interest. In exchange, lenders often give you a lower interest rate. This means you pay less per month for the next 30 years (if you take a 30-year mortgage). Looking at the big picture, this means that you’ll pay less over the life of the loan.
Here’s an example.
Let’s say a lender will give you a 4.5% interest rate on a $200,000 loan for 30 years with no points. Your monthly payment would be $1013.37 (just principal and interest). Over the life of the loan, you would pay $164,813 in interest.
If you paid one point or 1%, the lender may give you a 4.25% interest rate on a $200,000 for 30 years. Your monthly payment would then be $983.88. Over the life of the loan, you would pay $154,196 in interest. That’s a savings of $10,617 over the life of the loan. If you deduct the $2,000 you paid up front, you’d save a total of $8,617 and that’s paying just one point. If you paid more points, your savings would increase.
This only works if you plan to stay in the home for the long-term, though. If it’s a short-term purchase, it may not be worth it.
Consider a Shorter Term
If you are able to afford it, a shorter term can be the best way to save money. Again, lenders take a risk by loaning you money for a long time. If they can shorten that period, it lowers the risk of default. If you look at the rate difference, you’ll see that lenders offer a lower interest rate for 15-year loans versus 30-year loans.
Not only will you pay off your loan faster, but you will also pay a lower interest rate, which means paying less interest over the life of the loan. We showed you the difference that just 0.25% difference in an interest rate can do for a 30-year loan. Now let’s look at the difference a 15-year loan can provide.
Using the same rate for comparison purposes, let’s see what the payment is on a 15-year loan and a 30-year loan with a 4.0% rate.
- 15-year loan – $1479 with $66,287 paid in interest over the life of the loan
- 30-year loan – $954 with $143,739 paid in interest over the life of the loan
As you can see, you’ll save a significant amount of money choosing the 15-year loan.
The final step and everyone should do this regardless of what they can afford is to shop around. Every lender has different programs, requirements, and fees. You won’t know which lender has the best program unless you shop around to find out.
Plus, when you shop around, you can negotiate with lenders. If one lender offers you a lower rate than another, you can let each lender know that you are shopping around. They may be more willing to negotiate your rate and/or closing costs in order to earn your business.
The bottom line is that you shouldn’t just jump at the first offer given to you. Instead, shop around and see what offer is the best. You should also ask for different terms and programs so that you can compare each one to see which offers the best bottom line.Click to See the Latest Mortgage Rates»