What Does “No Closing Costs” Really Mean on a Mortgage?

The phrase "no closing costs" can make it sound as though the expenses associated with obtaining a mortgage have simply disappeared.

Usually, they haven't.

Mortgage transactions involve services and expenses. When a mortgage is described as having "no closing costs" or "no out-of-pocket closing costs," the more important question is:

How are those costs being paid?

Understanding that distinction can help borrowers compare mortgage offers more accurately.

Mortgage Closing Costs Don't Simply Disappear

Depending on the transaction and loan program, mortgage-related costs can include items such as:

• Lender origination charges
• Appraisal fees
• Credit-related fees
• Title and settlement services
• Recording and government charges
• Flood-related services
• Discount points, if selected
• Other applicable third-party costs

There may also be prepaid expenses and initial escrow deposits associated with a transaction. These are not necessarily the same thing as lender closing costs, even though they can affect the amount of cash required at closing.

When a lender describes a transaction as having "no closing costs," the costs may be handled in different ways.

Structure 1: Eligible Costs Are Financed

For certain transactions and loan programs, eligible costs may be incorporated into the new loan amount when sufficient equity and program guidelines allow.

Structure 2: A Lender Credit Offsets Costs

Another structure involves a lender credit.

In many cases, the borrower accepts a higher interest rate than would otherwise be available for the same loan, and the lender provides a credit that offsets some or all eligible closing costs.

The advantage is lower upfront expense.

The tradeoff is generally a higher interest rate and potentially greater borrowing costs over the period the loan is held.

Lender credits aren't inherently good or bad. They are simply one way of changing the balance between upfront cost and ongoing borrowing cost.

Structure 3: A Combination

Depending on the loan program and available pricing, a mortgage may use a combination of financing eligible costs and lender credits.

That can create different combinations of:

• Loan amount
• Interest rate
• Upfront cash requirement
• Monthly payment
• Total borrowing cost

This is why two mortgage structures for the same borrower can look substantially different even when both are described as "low-cost" or "no-closing-cost" options.

How Can You Tell What You're Actually Paying?

For most closed-end mortgage transactions, your Loan Estimate is an important place to start.

Review items including:

• Loan amount
• Interest rate
• APR
• Monthly payment
• Origination charges
• Discount points
• Other loan costs
• Lender credits
• Estimated closing costs
• Estimated cash to close

Keep in mind that some products, including HELOCs, use different federal disclosure requirements rather than the standard Loan Estimate.

Don't Confuse "Closing Costs" With "Cash to Close"

This distinction is particularly important.

Closing costs are not necessarily the same as cash to close.

Depending on the transaction, cash to close can also reflect items such as down payment, deposits or credits, prepaid interest, property taxes, homeowners insurance, and initial escrow funding.

A transaction can therefore reduce or eliminate certain lender or closing costs without necessarily eliminating every dollar a borrower may need at closing.

Which Structure Is Better?

Neither a lender-credit structure nor financing eligible costs is automatically better.

A lender credit may be worth evaluating when preserving upfront cash is particularly important.

Financing eligible costs may be worth evaluating when the borrower wants to reduce cash due at closing without accepting as much of a rate increase, assuming the transaction and program permit those costs to be financed.

Paying costs directly may also be worth comparing.

The best way to evaluate the choices is to compare them over the period you realistically expect to keep the mortgage.

Consider:

• Cash required at closing
• New loan balance
• Interest rate and APR
• Monthly payment
• Total cost over your expected holding period
• Break-even period
• Available equity
• Your plans to sell, refinance, or retain the mortgage

The Bottom Line

A "no-closing-cost" mortgage generally doesn't mean nobody is paying the costs.

Instead, the transaction may be structured so that eligible costs are offset, financed, reduced, waived, paid by another permitted party, or handled through a combination of methods.

Ready Rate can help you compare different mortgage structures side by side so you can understand the rate, costs, payment, loan balance, and longer-term tradeoffs before deciding which option fits your goals.