When you purchase a home, you must pay closing costs, which include the fees the lender charges to recoup loan processing costs. These can add up to a hefty sum, typically 2% to 5% of your mortgage amount.
It is possible to take out a personal loan to cover closing costs and help you across the finish line, but it can be difficult, and borrowing money at this stage in the home purchase process could jeopardize your mortgage loan approval. Some buyers will choose to tap other funding sources for closing costs. Take a closer look at the pros and cons of using a personal loan for closing costs, plus the alternatives, so you can decide what’s best for your needs.
Table of Contents
Key Points
• A personal loan can be used to cover closing costs, which range from 2% to 5% of the mortgage amount, but homebuyers should proceed carefully.
• Taking out a personal loan for closing costs will increase your debt-to-income (DTI) ratio, which could negatively impact your mortgage approval or result in a higher interest rate.
• It is generally forbidden to use a personal loan for a down payment on a home.
• Pros of a personal loan include no collateral requirements, quick approval, and flexible repayment options.
• Alternatives to a personal loan for closing costs include rolling them into your mortgage, asking for lender fee waivers, negotiating for the seller to pay, or using gift money or savings.
What Are Closing Costs?
Closing costs are fees paid to a lender and other professionals involved in the home purchase transaction.
• Buyers: Buyers typically pay between 2% and 5% of the total loan amount in closing costs. Buyers must pay this amount out of pocket, so it’s important for them to have a plan for how they’ll access the money before they get to the closing table.
• Sellers: If sellers contribute to closing costs (say, to negotiate a home sale), those fees usually get taken out from the sale proceeds.
Here’s an example: If you plan to buy a home with a $300,000 loan, as the buyer, you’ll need to bring between $6,000 and $15,000 to the closing table. If you were the seller, you’d see that amount taken out of the costs you’d pocket from the sale.
Fees Associated with Closing Costs
Closing cost fees may include:
• Application fee: Lenders sometimes charge a one-time fee for borrowers to submit a loan application.
• Credit report fee: A credit report or credit check fee covers the cost to dig into your credit report, which shows your credit history. Your lender uses the information it uncovers to decide whether to approve your loan and how much they’ll lend you.
• Origination fee: You pay this fee to the lender to process the loan application.
• Appraisal fee: A fee paid to a professional to appraise the home and determine its fair market value.
• Title search: A title search looks into public records to determine who actually owns the property and who has liens on the property (for example, an unpaid contractor’s lien for work done on the home).
• Title insurance: Title insurance protects you from financial loss and legal expenses in case the home has a bad title.
• Underwriting fee: Underwriting is the process of reviewing your finances to determine the risk of offering you a mortgage, and the fees cover this process.
• Property survey fee: Property survey fees cover the cost of checking the boundaries and easements of a property. This process shows exactly where the property’s perimeter is and what the property includes.
• Attorney fee: You will probably need to hire a lawyer to review the terms in your purchase contract and handle your closing.
• Discount points: Discount points, also called mortgage points, are a way to balance your upfront costs and your monthly loan payment. Each point you purchase reduces your interest rate by a certain percentage, meaning that you could pay less monthly and over your loan term.
• Homeowners insurance premiums: Homeowners insurance provides financial protection if your home undergoes a disaster or accident. You must typically show your lender that you have purchased homeowners insurance.
• Mortgage insurance: If you have a down payment of less than 20%, you will often have to pay mortgage insurance, a monthly fee that helps protect your lender if you were to default. You’ll also have to make a similar type of payment on Federal Housing Administration (FHA) and U.S. Department of Agriculture (USDA) loans. You may have to pay these insurance fees with your closing costs in addition to your monthly payments, particularly for the FHA and USDA loans.
• Property tax: Homeowners pay property tax to state, county, and local authorities for schools, roads, and other municipal services. You may have to pay a portion of your property tax at closing.
• Homeowners association (HOA) fees: If you’re buying into a neighborhood that has an HOA, or an organization that makes and enforces rules for a neighborhood, you may owe HOA fees at closing. The seller may pay these on a prorated basis.
• Per-diem interest: Per-diem interest refers to the interest a lender charges for the days between a closing date and the first day of your billing period.
• Transfer tax: State or local governments often charge real estate transfer taxes, meaning that they charge when properties transfer ownership.
• Recording fee: State and local governments charge recording fees to legally record your deed, mortgage, and other home loan documents.
Note that this isn’t an exhaustive list of closing costs — you may be on the hook for other fees as well.
How Much Are Closing Costs Typically?
As noted above, closing costs tend to add up to 2% to 5% of your mortgage loan amount. They can vary according to your loan type, lender, and other factors. If you’re paying for a home with cash and not taking out a loan, you can still expect to have some costs associated with the closing. The total will likely be around 1% to 3% of the home purchase price.
Can You Use a Personal Loan for Closing Costs?
First, it’s important to understand how a personal loan works. It is usually funded by a bank, credit union, or online lender. You can typically use the money however you want — there aren’t as many restrictions on personal loans compared to, say, student loans. After you receive a personal loan, you pay it back with regular, fixed payments (with interest) over a specified term.
As mentioned above, you can use the cash as you see fit. So, yes, you can use a personal loan for closing costs. However, you can’t use it for a down payment, and you must tell your lender that you’re using a closing costs loan. The lender will include it in your debt-to-income (DTI) ratio, which is the amount of debt you have relative to your income.
Applying for a personal loan can involve prequalifying with several lenders and comparing their interest rate and terms, gathering required documents (ID, proof of address and income, Social Security number, and education history), filling out the loan application, and receiving your funds after approval. You may be able to get a personal loan in one to three days.
As you shop around for funds, you’ll likely want to consider what credit score you need for a personal loan at a given interest rate. Also consider the length of the loan term; this can typically range from one to seven years.
Why You Can’t Use a Personal Loan for a Down Payment
Borrowing money for a down payment is generally discouraged when purchasing a home. For one thing, it sends a signal to a potential lender that you are stretching your finances thin to make the home purchase. This is why some lenders, such as those offering conventional or FHA loans, forbid using personal loans for down payments.
How a Personal Loan Can Affect Mortgage Approval
A closing costs loan could result in a lender offering you a higher interest rate for your home mortgage loan. In some cases, financing closing costs could send a signal that you are having trouble making ends meet on the home purchase. A lender might decide not to approve your loan. This is why it’s important to discuss with a prospective lender the idea of financing your closing costs before you move forward.
Recommended: Guide to Personal Loans
Pros of Taking Out a Personal Loan for Closing Costs
Here are some potential benefits of taking out a personal loan for closing costs.
• Collateral not required: Personal loans are often unsecured loans, meaning that you don’t have to put an asset up in order to receive the loan. Therefore, if you fail to repay the loan, your lender will not claim the asset to repay your debts.
• Quick approval: It usually doesn’t take long to get a personal loan once you’ve been approved. After you submit your application and materials, it might take just a day to get the personal loan, though it could take longer.
• Flexible repayment options: You can tap into flexible repayment plans, including no prepayment penalty, meaning that the lender won’t penalize you for paying off the loan early.
Recommended: How Personal Loans Impact Mortgages
Cons of Taking Out a Personal Loan for Closing Costs
Next, consider the downsides of using a personal loan to cover closing costs.
• DTI ratio increase: Lenders will look at your overall debt under a microscope, so taking on a personal loan may factor into your overall debt. It may signal to the lender that you aren’t in a good financial position since an additional loan could raise your DTI ratio. It might keep you from being approved for a mortgage or could result in a higher mortgage interest rate.
• Additional loan payment: You might find it tricky to repay a personal loan in addition to a mortgage payment. Consider whether you can comfortably make both payments every month.
• High interest rates: There is the potential for high interest rates if you have poor credit. This can make it more challenging to afford a personal loan.
Recommended: Personal Loan Requirements
Alternatives to a Personal Loan for Closing Costs
You may have options you can turn to instead of getting a personal loan for closing costs. Consider how else you might handle those fees.
• Roll them into your mortgage: You may be able to add your closing costs to your mortgage, but this means you’ll increase the principal balance of your loan. This will in turn increase the interest you’ll pay. But it will allow you to pay off your closing costs over the 10, 20, or 30 years of your home loan.
• Ask for a waiver: Your lender may be willing to waive certain fees. For example, it may reduce certain processing fees. There’s no guarantee, but it can be worth asking. That might help chip away at your final closing cost amount.
• Ask the seller to pay: As mentioned previously, sellers may pay for some of the closing costs if they’re eager to ensure that the property sale doesn’t fall through.
• Tap into assistance programs: Many state and local governments offer down payment and closing cost assistance programs for moderate- to low-income home buyers. Look into your state’s housing finance agency, your city or county website, the U.S. Department of Housing and Urban Development (HUD), or check with your lender to learn more about your options.
• Use gift money: Do you have a generous grandparent or parent who wants to help you cover your closing costs? Your state may have rules and regulations attached with gift money (especially ensuring that it’s an actual gift). Check with your lender to learn more.
• Use savings: If you’re thinking about getting a loan for closing costs, perhaps you’ve already earmarked your savings for a down payment. If not, consider tapping savings to cover closing costs.
How to Decide if a Personal Loan for Closing Costs Is Right for You
Whether a personal loan is a suitable solution for closing costs is going to be based on your personal financial profile. If your DTI ratio is relatively low, taking out another loan on top of your mortgage may be doable. But ultimately you’ll want to confer with your lender so that seeking approval for a personal loan during the mortgage process doesn’t scuttle your entire deal.
The Takeaway
You may be able to use a personal loan to finance closing costs (the fees that can cost 2% to 5% of your home loan amount when you purchase a property). But while personal loans are a convenient source of funding, adding a personal loan to your monthly financial burden can also raise a red flag where mortgage lenders are concerned. It’s wise to carefully consider all the pros and cons, as well as alternative funding sources, when deciding whether to use a personal loan for closing costs.
Think twice before turning to high-interest credit cards. Consider a SoFi personal loan instead. SoFi offers competitive fixed rates and same-day funding. See your rate in minutes.
FAQ
Is it smart to finance closing costs?
Whether or not it’s smart to finance closing costs will depend on your personal situation. For those paying cash for a home and those who can handle the additional monthly loan payment, it may be a convenient move. On the other hand, getting a personal loan may increase your DTI ratio, which could lead a mortgage lender to charge you a higher interest rate or deny you a loan altogether.
Can I put closing costs on a credit card?
While you’ll usually use a cashier’s check, certified check, or wire transfer to pay for closing costs, you can put some closing costs on a credit card, such as attorney, appraisal, and survey fees. Check with your lender to learn more about which fees you can put on a credit card. (Also note that using your credit card in this way can raise your credit utilization rate and potentially lower your credit score.)
What is not an acceptable source of funds for closing?
Closing costs are typically paid by a cashier’s or certified check or by wire transfer. Funds for these could be acquired by such sources as a government program or a personal loan. Less frequently, credit cards, debit cards, and personal checks may be accepted for some closing costs.
Can you use a personal loan for closing costs on a refinance?
You might be able to use a personal loan for closing costs on a refinance, but whether it’s a good idea will depend on your overall debt load. It’s a good idea to speak with your prospective lender, who can give you a sense of whether using a personal loan in this way will compromise your refinance or increase the interest rate you’re offered.
When should you avoid using a personal loan for closing costs?
If you are already facing a debt-to-income ratio that is near the limit for a conventional mortgage (around 43% to 45%), you’ll probably want to avoid adding any new debt to your plate. Speak with your lender to learn whether a personal loan might result in an increased mortgage interest rate or might put your home loan approval at risk.
About the author
Melissa Brock
Melissa Brock is a higher education and personal finance expert with more than a decade of experience writing online content. She spent 12 years in college admission prior to switching to full-time freelance writing and editing. Read full bio.
Photo credit: iStock/jacoblund
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