By David Insley on 8/5/2021Tags:
mortgage basicsbuying a homebefore you buyclosing
Given the considerable costs associated with buying a house—both upfront and in the years ahead—most homebuyers want to make sure that what has been promised is what will be delivered.
This means not only getting an affordable home loan, but receiving the actual mortgage terms and rates they signed up for and not something switched, altered or plain wrong. While it’s nice to have a Loan Estimate, access to a closing costs calculator or a phone call from your loan officer explaining things, nothing beats a clearly formatted itemized document that spells everything out in plain language and clear numbers just prior to closing.
To help facilitate a transparent process (and educate consumers) legislation has been passed in recent years to ensure every homebuyer receives a Closing Disclosure from their lender that outlines important terms, conditions, costs, rates and more.
In this article, we’ll take a closer look at both the required Closing Disclosure associated with today’s mortgage process. We’ll walk through the terminology and examine what to do if you think something doesn’t add up. We’ll even take a peek at the predecessor of the Closing Disclosure: the HUD-1 Settlement Statement, or simply the closing statement.
A brief history of required disclosures
There are few things more important in the homebuying process than examining the required Closing Disclosure. This document grants you a final opportunity to pore over all the details regarding your loan and ensure they all make sense and reflect the agreement as previously outlined by your loan officer and presented in your Loan Estimate.
Of course, once there was a time without disclosures, a time when the mortgage process was less defined and some loan officers engaged in behavior that was not always to the benefit of the borrower. To improve the process, regulators realized that there needed to be a way to level the playing field so that homebuyers could achieve the dream of homeownership free of unfair or misleading credit practices.
Beginning in the late 1960s, federal lawmakers began to make concerted efforts to provide homebuyers with greater loan transparency and fairness so they would not fall victim to unscrupulous lenders and, as a result, pay more in costs or enter into dubious agreements they may later regret. In 1968, the first of these statutes was signed into law: the Truth in Lending Act (TILA). It was designed to primarily protect consumers from a variety of unfair and predatory lending practices. It also was the first federal piece of legislation to require disclosures.
This was followed a few years later by the Real Estate Settlement Procedures Act (RESPA), which protected consumers from lender kickbacks and the opening of unnecessary escrow accounts; it also required settlement disclosures for federally related mortgage loans. While both TILA and RESPA significantly boosted consumer confidence and provided much-needed loan transparency, the specific components that dealt with required disclosures contained language that was deemed inconsistent, repetitive and difficult to read by many consumers, often resulting in borrower confusion.
Dodd-Frank legislation and the emergence of TRID
After the fallout of the Great Recession of 2008, the federal government established the Consumer Financial Protection Bureau (CFPB) as part of the Dodd-Frank Act of 2009. Under this newly minted agency, a decision was made to take important features of previous consumer-lender legislation and move them into their own statute and address them with clear, easy-to-read language. The result was the TILA-RESPA Integrated Disclosure (TRID) rule.
TRID, or the “Know Before You Owe” disclosure, was the result of long-range discussions between the CFPB and members of the banking, mortgage and title community and it yielded two main gains for consumers in the form of the following required documents:
- Loan Estimate
- Closing Disclosure
The objective was to create clear, uniform documents that could assist homebuyers as they approach the closing process. The Loan Estimate is issued within three (3) days of the borrower filling out a mortgage application. It’s designed to aid the borrower by going through all the terms, conditions and costs as they appear at this stage in the mortgage process.
The five-page Closing Disclosure is what your lender provides to you near the end of the mortgage process and is intended to be used as a comparison tool with the Loan Estimate as well as a full summation of all closing costs. Together, these documents provide an enormous level of transparency that help educate the homebuyer and prevent fraud, manipulation or costly errors from occurring.
What is a Closing Disclosure?
Under CFPB rules, the Closing Disclosure must be provided to you at least three business days prior to the loan closing. It’s designed to present a uniform accounting of rates, terms and costs and the clearly marked sections make it easy to compare to the previously issued Loan Estimate. It’s issued for new home purchases as well as refinances.
The federally mandated timeline makes it easy for you to get organized and set expectations. Typically, the loan disclosure timeline looks like this:
- Mortgage costs are calculated by your lender
- The Closing Disclosure form is issued
- The three-day review period commences
- Meticulously review the disclosure
- If all looks good, you sign the form and prepare for closing
Closing Disclosure sections and what they mean
The Closing Disclosure details every fee and charge that the borrower is responsible for as part of obtaining a federally related mortgage. There are several main categories to a Closing Disclosure:
- Loan terms
- Projected payments
- Costs at closing
- Loan costs
- Other costs
- Calculating cash to close
- Summary of transactions
- Loan disclosures
- Loan calculations
- Other disclosures
- Contact information
- Confirm receipt
Knowing and understanding the terms of your loan is essential—and this section helps borrowers immensely by spelling everything out in clear and abundant detail.
- Loan amount: This is the total amount of money you intend to borrow from your lender after subtracting your down payment and taking into consideration costs or charges you decide to roll into the loan. This is the perfect time to compare this figure to what is contained in your Loan Estimate. If there is a change, you need to find out why.
- Interest rate: Undoubtedly, you “locked in” a certain interest rate when you applied for your mortgage. Check the rate and make sure it hasn’t changed.
- Monthly principal and interest: This is NOT your total monthly payment. This is just the principal + monthly interest payment.
- Prepayment penalty: If your loan has a prepayment penalty associated with it, it will be listed here: Note: Formerly quite common, these penalties are increasingly rare, especially since the Dodd-Frank legislation.
- Balloon payment: This is when your lender asks for a one-time payment at the end of your loan term. This is an extremely risky loan component and Guaranteed Rate does NOT allow this in the mortgages they issue. In fact, all qualified mortgages prohibit balloon payments.
- Payment calculation: This is where you’ll find the the three main categories that comprise your monthly payments over the life of your loan:
- Principal and interest: it will be the same figure as above.
- Mortgage insurance (if applicable): Do you have to pay PMI? If so, that charge will be listed here.
- Estimated escrow: The escrow account is established by your lender at closing and is used to store your property taxes and homeowner’s insurance fees. Not all lenders require an escrow account. Furthermore, taxes and homeowner’s insurance can only be estimated at this early date, and may change in the future.
- Estimated total monthly payment: This is the total of the above monthly charges. If you don’t think you can afford this then talk to your lender and look into other loan options.
- Estimated taxes, insurance and assessments: If you choose NOT to provide funds to an escrow account (note: a fee may apply) or if escrow is not offered, the costs for taxes, homeowners insurance, private mortgage insurance, flood insurance and other assessments will be listed here.
Costs at closing
- Closing costs: This is the total amount of closing costs you need to pay before accounting for deposit, seller credits and other adjustments.
- Cash to close: This is essentially the amount of funds (not typically cash by the way) that you’ll need to bring to the closing table in order to finalize the loan and complete your home purchase. Total closing costs and your down payment will figure heavily into this figure. On the plus side, things like an earnest money deposit and seller credits can help reduce the total amount of funds needed at closing. See below for more details.
- Origination charges: This fee is typically 0.5% – 1% and it represents the administrative cost the lender charges for originating your loan and processing your application, including underwriting. This fee is commonly negotiable but it should NOT change between the Loan Estimate and the Closing Disclosure. If you notice a discrepancy, contact your loan officer right away.
- Services borrowers did not shop for: This is a miscellany of fees that you, the borrower, did not shop for but are required to pay. This typically includes several items such as appraisal fee, credit report fee, flood determination fee, tax monitoring fee and more. Always check to make sure these are fees that you previously agreed to pay for and that they are consistent with market prices.
- Services borrower did shop for: There are certain services where you as the borrower do have an opportunity to shop around for the best deal on the market. This includes fees regarding pet inspection, surveys and a range of costs related to title search, title insurance(for lender) and settlement agents fees.
- Total loan costs: Add up the various loan costs and service fees and you have the total loan costs.
There are a few other costs and charges to itemize before determining total closing costs, and the loan disclosure has a specific place to present them in the Other Costs section. These other costs include:
- Taxes and other government fees: a recording fee is charged when you enter a deed and mortgage into the public record, and that is one of the charges itemized here. You can also expect to see transfer fees (applicable when property changes hands or when a mortgage loan is made). County, city and state taxes may be included here as well.
- Prepaids: We mentioned having an escrow account earlier. This section instructs you on how much you need to set aside for each item. This can include such things as homeowner’s insurance premiums, mortgage insurance, prepaid interest and property taxes.
- Initial escrow payment at closing: This is the deposit you make into your escrow account at closing to begin your account. It may be different from what you end up paying on a monthly basis. As previously outlined, these fees are related to mortgage insurance, homeowner’s insurance and property taxes.
- Other: Anything not included in the above fields and due at closing is included here. You can expect to see certain homeowner associationprocessing fees along with home inspection fees, home warranty fees, real estate commission fees (if applicable) and owner title insurance (if applicable)
- Total other costs: Your Closing Disclosure will provide the Other Costs subtotal here.
- Total closing costs: This is the total of Closing Costs + Other Costs. Make sure this total lines up with your expectations and that there are no errors. While it may not be apples to apples, use the Loan Estimate as a guide.
Calculating cash to close
This section provides clarity about the various items that are involved when determining cash to close. It’s an itemized list that incorporates select data from previous pages in your Closing Disclosure and places it side-by-side with information from your Loan Estimate. This makes it easy to compare the estimate with your final calculations—there’s even a “Did this change” ledger that simplifies comparison.
Items used to calculate your final cash to close numbers include the following:
- Total closing costs
- Closing costs paid before closing
- Closing costs financed (paid form your loan amount)
- Down payment/funds from borrower
- Funds from borrower
- Seller credits
- Adjustments and other credits
As mentioned previously, closing costs plus down payment will make up the bulk of what’s owed at closing. This can be offset by an earnest money deposit, seller credits and other adjustments. Considering the many fees, costs and credits, it’s essential that you take time to eyeball all the details. Mistakes happen and mistakes can be fixed—but only if you catch them in time.
Summaries of transactions
This is an itemized list of the full suite of transactions from both the borrower and the seller side. For homebuyers, much of this section has to do with what you and your lender will be paying to the seller at closing, including what’s already been paid by you or on behalf of you by your lender, title company and other entities. This also includes any adjustments made. Your cash to close total is neatly marked down below.
The ledger dealing with the seller’s transaction ticks through what’s due to the seller at closing and due from the seller with adjustments.
Much of this is generalized fine print about what you and your lender are agreeing to in terms of property transfer, early repayment, late payment, negative amortization features, partial payments, security interest and your old friend escrow account. It’s important to review each item and make sure it reflects what you and your lender have agreed to. This section is particularly useful in gaining an holistic view of escrow payments (homeowner’s insurance & property taxes) as well as non-escrowed costs such as HOA dues over the course of the year. While only estimations, they can be very useful in determining future payments and how much to set aside.
This section is vitally important in providing you with information over the entire life of your loan. For example, the total payment line is the grand total of what you will pay for principal, interest, mortgage insurance and other scheduled costs. The loan calculations section also runs through the following key figures:
- Total finance charge
- Amount financed (amount after accounting for upfront finance charge)
- Annual percentage rate (APR)
- Total interest percentage (TIP)
Here you’ll find essential information on such things as:
- Contract details
- Liability after foreclosure
- Tax deductions
This is essential and practical information regarding your loan.make sure you read all items and understand what’s at stake. If you have not received the appraisal copy, contact your lender immediately. It should be presented to you no later than three (3) days before closing.
This section contains all the information you need to contact your lender, mortgage broker (if applicable), real estate brokers on both the buyer and seller side and the settlement agent.
All applicants and co-signers are asked to sign the document here confirming you received the Closing Disclosure. Importantly: Just because you sign this form, doesn’t mean you have to accept the loan. Most of the binding documentation comes from your settlement agent during the closing process.
What happens after the Closing Disclosure form?
At this point, if everything looks good and you’ve satisfied all conditions with your lender, you are “clear to close” and the final documents are drawn up and an appointment with the title agent (settlement agent) is made. If you are closing via digital mortgage, much of the next step can be completed through increasingly common e-signature and e-closing technology. The services of a notary—live or remote—will be enlisted, and if everything is filled out correctly and the funds have been made available, you should expect your loan to close successfully.
What is the closing statement?
First things first: The closing statement no longer exists. It has been replaced by the Closing Disclosure as required by the Dodd-Frank legislation.
Also known as a settlement sheet or specifically the HUD-1 Settlement Statement, the closing statement was a form formerly provided by the closing agent. It was issued to both seller and buyer and neatly itemized their respective costs and credits into two separate columns. As a buyer, it was commonplace for the closing statement to be reviewed alongside the seller and other professionals such as an attorney, real estate agent and settlement agent. Once reviewed and agreed upon, it was signed by both parties (buyer and seller).
In many respects, it drew upon the same information as the Closing Disclosure. The key differences were who issued it (closing or settlement agent instead of lender), length of form (it was not quite as long or thorough as the Closing Disclosure) and the fact that it was a transactions-only document that listed sales price, down payment, expenses, adjustments and balances both due to and from the seller. On a more granular level, things like appraisal fees, credit report fees, home inspection fees, real estate commission fees, loan settlement amounts were listed on both the buyer and seller side.
The Closing Disclosure is a streamlined document designed to increase transparency in the homebuying process and provide a measure of calm as you head to the closing table with your cash to close and a date with the settlement agent.
The Closing Disclosure has been an enormous boon to homebuyers everywhere, and its clarity and uniformity make it an indispensable tool when going over the many itemized costs and credits, as well as what’s due at closing. If the disclosure matches your Loan Estimate or if it has been modified as the result of anticipated changes or late-breaking additions previously articulated by your lender, then there’s no reason for alarm. Additionally, certain fees and third-party charges are not controlled by your lender and can therefore vary. That said, never be afraid to question a figure. Mistakes do occur occasionally even among the most trusted lenders.
However, if you analyze the Closing Disclosure and discover discrepancies, confusing anomalies or things that just don’t make sense (and shouldn’t be there), then you need to act and act fast. The three-day window is provided for your benefit. Contact your lender immediately if something looks off, and be prepared to speak to the settlement agent and your real estate attorney as well. A small delay in closing is worth the price to get things right.
As we’ve said so many times in these pages, buying a house is a momentous journey that has the potential to deliver you to the doorstep of your dreams. It’s only prudent to take the time to meticulously go over these documents to ensure consistency and accuracy.
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