Is A No-Cost Loan The Right Loan For You?

For many borrowers, the fees associated with closing costs are a mystery. Once you get to settlement, you may be confused as to what document fees are. Or lender fees. Or title company fees. And the biggest question of all is: Do you really have to pay all of those fees?

Although you will have to pay those closing costs, you may not have to pay them in one lump sum when you close. Thanks to “no-cost” loans—in which taxes, insurance, title, appraisal, and other fees are rolled into your loan—you can avoid a large one-time payment.

But don’t get too excited yet. Depending upon on several variables—including your current financial situation, how long you’re going to be in your home, your taxes, and your interest rate—no-cost loans may or may not be the right loan for you.

Obviously, not having to pay closing costs all at once is a big draw of no-cost loans. Not having those up-front costs means that you don’t have to “invest” in a mortgage and you can use that money elsewhere. However, you will end up paying more for closing costs over the life of the loan (think: interest) and your monthly mortgage payments will be higher.

If you don’t plan on being in your home for a long time—say five to ten years at the most—rolling your closing costs into your loan may make sense financially; the total increase in monthly payments will not be as much as the full closings costs, but only for awhile. On the flip side, if you do plan on being in your home for a long time, you will eventually pay more for the closing costs in the long run.

Taxes are another area you need to consider when looking at no-cost loans. Since the interest paid on a loan is tax deductible and the fees you pay at closing are not tax deductible, you may save money on your taxes. However, in many cases, that tax deduction won’t offset the closing costs over the term of the loan.

Finally you’ll need to take a very close look at the interest rate you’ll get on a no-cost loan. While some no-cost loans have the same interest rate as more traditional loans, other no-cost loans have a higher rate, albeit only slightly higher. In the end, the interest rate may be the single most important factor in determining the viability of a no-cost loan.

The answer to whether or not a no-cost loan is right for you will ultimately lie in the math. Before you make a decision on a no-cost loan—or any loan product for that matter—you’ll need to crunch the numbers and figure out if such a loan is best for you financially.  ∆