They say purchasing a home is one of the more stressful experiences in life. To make things easier, it’s important to understand the steps involved in buying a home. One thing you’ll need to contend with is closing costs. In this article, we’ll take a closer look at the various expenses you will face in order to finalize your home purchase. But first, what exactly are closing costs?
What Are Closing Costs?
When you purchase a home, you’ll encounter a number of legal and administrative costs during the closing process. These are referred to as closing costs, and they are over and above the down payment. Because closing costs can vary, you should always budget between 1.5% – 3% of the home’s purchase price for closing costs, or between $4,500 –$9,000 on a $300,000 home.
Closing Cost Breakdown
Below is a list of closing costs that the home buyer is expected to cover. They may not all apply to your situation, but it’s best to be informed in order to avoid any surprises.
When you purchase a home, the transaction must be administered by a lawyer. Lawyers charge a fee to prepare the necessary documents, make disbursements, and register the mortgage with the land titles office.
Land Transfer Tax
This is a big expense many home buyers overlook. Every province in Canada has something called a land transfer tax, which is a percentage of the purchase price of the home. This tax was first introduced in Canada in the 1970’s to provide an additional revenue stream for cash strapped municipalities. The percentage varies from province to province, but the more expensive the home, the higher this amount will be. First-time home buyers are sometimes exempt from paying land transfer tax.
Provincial Sales Tax On CMHC Premium
If you’re contributing less than 20% as a down payment, your mortgage will need to be insured by Canada Mortgage And Housing Corporation (CMHC), Genworth or Canada Guaranty. This protects the lender from losses if the borrower were to default on the mortgage. While the insurance premium is usually included in the mortgage financing, the borrower is required to pay the Provincial Sales Tax on the CMHC premium prior to closing. The amount will vary, depending on the CMHC premium and the province you live in.
Home Inspection Fee
If you had a home inspection done as a condition of your purchase, you as the buyer will be expected to cover that cost, which should fall somewhere between $300 – $500. While a home inspection is not mandatory, it’s always recommended.
With a conventional mortgage (minimum 20% down payment), the lender will usually request that an appraisal be completed, to confirm that the home you’re buying is indeed worth what you are paying for it. Appraisal fees can range anywhere from $100 – $300 for a standard property. Sometimes, you may be able to negotiate a waiver, or partial waiver of the appraisal fee from your bank, as you are giving them a substantial amount of business.
Title insurance offers protection if you end up in a property ownership dispute after buying your home. The cost for this insurance can be upwards of $300, and is a requirement of your lender that you purchase it. The lawyer will collect the premium at closing.
While property taxes are an annual expense that are not necessarily considered a closing cost, there are times when you may be required to pay a portion of property taxes at the time of possession. This can also depend on the municipality in which you reside. Here’s an example of when this may apply: Let’s say you’re purchasing a property in the middle of the year (July 1) but the seller has already paid the property taxes to the municipality for the full year.
In this instance, the seller will need to be reimbursed for taxes paid for the portion of the year that they won’t own the home. This amount may be included in the closing costs as a credit to the seller.
Additional Closing Costs For Rural Properties
If you are purchasing a rural property, your lender may require that the well water be tested along with the home’s septic system, to ensure both are in good working condition, and that there is an ample potable water supply on the property. This cost is usually paid for by the home buyer.
Ways To Reduce Closing Costs
While you always need to budget for closing costs, here are a few ways they can be reduced:
- Try to negotiate the appraisal fee charged by your lender
- Phone around and compare legal fee rates before choosing a lawyer
- To offset the cost, find a lender who is offering rebates on new mortgages
- The lower your home purchase price, the lower your land transfer taxes
When Are Closing Costs Paid?
Closing costs, along with your down payment, are paid to your lawyer when you meet to sign the mortgage registration documents. This is usually done about a week or so prior to the purchase closing date. Your lawyer will advise you in advance of the total payment required, and they will disburse the various amounts to the proper recipients.
Withdrawing RRSP Funds for Your Home Purchase
In Canada, first time home buyers can borrow money from their Registered Retirement Savings Plan (RRSP) to go toward their down payment and closing costs. I use the word borrow, because under the Home Buyers Plan (HBP) the funds withdrawn must be repaid into the RRSP within a 15 year period, to avoid penalties.
If you’re taking advantage of the HBP, make sure that you leave plenty of time prior to closing to withdraw the funds. Depending on how your RRSP is invested, there may be a delay in receiving the funds. My advice is to check with your bank or investment advisor early on, to find out when you should withdraw.
A Final Word On Closing Costs
As you can see, there is plenty to consider when it comes to closing costs. With so many different expenses and fees, it can be very difficult to keep track. My advice is to keep things simple and focus on saving 2 – 3% of the purchase price for closing costs. That way, you know you’ll have enough money to finalize your house purchase. From there, you can look for ways to shave off some of the cost using the tips I included above.
Tom Drake is an authority in Canadian personal finance. He is a financial analyst and has been writing about personal finance since 2009 at the award-winning MapleMoney. His work has appeared in MintLife, Canadian MoneySaver, and U.S. News & World Report, and has been quoted in The Globe and Mail, Yahoo Finance, and Financial Post.