Can the Seller Pay for Closing Costs?

Beyond the purchase price, real estate transactions involve additional expenses known as closing costs. These fees are incurred to finalize the sale and transfer of property ownership. Both buyers and sellers typically incur various closing costs, which for buyers can range from 2% to 5% of the home’s purchase price.

Understanding Seller-Paid Closing Costs

Seller-paid closing costs occur when the seller covers expenses typically the buyer’s responsibility. This arrangement is often negotiated in the purchase agreement. Sellers may agree to contribute to make their property more attractive in a competitive market, facilitate a quicker sale, or prevent a deal from falling through if a buyer’s finances are stretched thin. This practice is also known as a seller concession or interested party contribution, designed to reduce the immediate cash a buyer needs at closing. A seller’s willingness to offer these contributions often depends on market conditions, with more concessions seen in buyer-friendly markets.

Methods for Seller Contributions

Sellers primarily contribute through a “seller credit” or “seller concession” applied at closing. This credit directly reduces the funds the buyer needs on closing day. The agreed-upon amount is documented in the purchase contract and reflected on the settlement statement or Closing Disclosure. Sellers can pay for various closing costs, including loan origination fees, appraisal fees, title insurance premiums, escrow fees, recording fees, prepaid property taxes, attorney fees, and discount points to lower the buyer’s interest rate. These contributions are not a direct cash payment to the buyer but rather a reduction in the total amount due at closing.

Restrictions on Seller Contributions

Mortgage lenders and specific loan programs impose strict limits on seller contributions. These limits prevent inflated home prices and ensure the buyer retains sufficient equity. Exceeding them can jeopardize loan approval.

Conventional loans

For Conventional loans, the maximum seller contribution depends on the buyer’s down payment. If the down payment is less than 10%, sellers can contribute up to 3% of the sales price. For down payments between 10% and 24%, the limit increases to 6%. If the down payment is 25% or more, sellers may contribute up to 9% of the sales price. For investment properties, the cap is 2% regardless of the down payment.

Federal Housing Administration (FHA) loans

Federal Housing Administration (FHA) loans allow sellers to contribute up to 6% of the sales price or appraised value, whichever is lower. These funds can be used for closing costs, prepaid expenses, and discount points, but not for the buyer’s down payment. If seller contributions exceed the 6% limit, the excess is deducted dollar-for-dollar from the sales price for loan calculation.

VA loans

For VA loans, sellers can contribute up to 4% of the sales price toward specific items. This limit applies to costs like prepaid property taxes and insurance, discount points exceeding 2% of the loan amount, payoff of buyer judgments or debts, and the VA funding fee. Reasonable and customary loan costs, including many standard closing fees, generally do not count against this 4% limit, providing more flexibility.

USDA loans

USDA loans permit seller contributions of up to 6% of the sales price. However, the total contribution cannot exceed the buyer’s actual closing costs. If the seller credit exceeds actual closing costs, the excess cannot be given as cash but may reduce the loan principal or buy down the interest rate. Seller contributions cannot cover the buyer’s down payment for any loan type.

Impact on the Home Buying Process

Seller contributions significantly influence the negotiation strategy for both buyers and sellers in a real estate transaction. Buyers can request these contributions as part of their initial offer, making the home more affordable by reducing their upfront cash outlay. This can be particularly beneficial for buyers who have saved for a down payment but have limited funds remaining for closing costs.

The agreed-upon seller contribution is clearly itemized on the Closing Disclosure, a document provided to the buyer three business days before closing. This document details all costs associated with the transaction, showing how the seller’s credit is applied to various fees.

Seller contributions can also impact the home’s appraisal. If the sales price is increased to accommodate seller contributions, the property must still appraise for at least the agreed-upon sales price, including the portion allocated for seller-paid costs. If the appraisal comes in lower than the purchase price, it may necessitate renegotiation of the sales price or the seller contribution amount, as the loan amount is based on the lesser of the sales price or appraised value.