The True Cost of Buying and Selling Real Estate in 2024

Real estate investing can be a lucrative way to build long-term wealth, but it's important to understand all the costs involved before diving in.

One often overlooked expense is the transaction costs associated with buying and selling property. These fees can add up quickly and eat into your profits if you're not careful.

In this article, we'll take a closer look at what real estate transaction costs are, examples of common fees, and how they can impact your bottom line as an investor in 2024.

What Are Real Estate Transaction Costs?

Real estate transaction costs are all the fees and expenses you incur when buying or selling a property. These costs are in addition to the purchase price and can vary widely depending on the location, property type, and method of financing.

Some transaction costs, like real estate agent commissions and transfer taxes, are typically paid by the seller. Others, such as loan origination fees and appraisal costs, are usually the responsibility of the buyer. However, everything is negotiable in real estate, and it's not uncommon for buyers and sellers to split certain costs or for one party to agree to pay some of the other party's expenses as part of the deal.

Examples of Transaction Costs

• Closing costs for buyers and sellers: Closing costs are a catch-all term for the various fees and expenses paid at the close of a real estate transaction. For buyers, closing costs typically include loan origination fees, discount points, appraisal fees, title insurance, and prepaid items like property taxes and homeowners insurance. Sellers usually pay for the real estate agent commissions, transfer taxes, and any outstanding liens or judgments on the property. Closing costs can add up to several thousand dollars for both parties.
• Real estate agent commissions: Real estate agent commissions are usually the largest single transaction cost in a home sale. In most cases, commissions are paid by the seller and split between the listing agent and the buyer's agent. The typical commission rate is 5-6% of the sale price, although this can vary depending on the market and the specific agreement between the seller and their agent. On a $500,000 home sale, a 6% commission would amount to $30,000.
• Property taxes and transfer fees: When a property changes hands, there are often various taxes and fees that must be paid to the local government. These can include transfer taxes, recording fees, and property tax prorations. The specific taxes and fees vary widely by location, but they can add up to several thousand dollars in high-cost areas. In some cases, the buyer and seller may negotiate who pays these costs as part of the purchase agreement.
• Mortgage origination fees and points: If you're financing your real estate purchase with a mortgage, you'll need to pay various fees to the lender. These can include an application fee, origination fee, and discount points. Origination fees are typically a percentage of the loan amount, while discount points are optional fees paid to lower the interest rate on the loan. These fees can add up to several thousand dollars, depending on the size of the loan and the specific lender.
• Home inspections and appraisals: Before closing on a property, it's important to have it thoroughly inspected for any defects or issues. Home inspections typically cost several hundred dollars and are paid for by the buyer. If you're financing the purchase with a mortgage, the lender will also require an appraisal to ensure that the property is worth the amount being borrowed. Appraisal fees are usually paid by the buyer and can range from a few hundred to over a thousand dollars.
• Title search and insurance fees: A title search is an important step in the real estate transaction process, as it ensures that the seller has a clear and marketable title to the property. Title insurance protects the buyer and lender against any claims or disputes that may arise related to the property's ownership. Title search and insurance fees are typically paid by the buyer and can range from a few hundred to several thousand dollars, depending on the purchase price of the property and the specific title company used.

Types of Real Estate Transaction Costs

Real estate transaction costs can be broken down into two main categories: buyer closing costs and seller closing costs. Here's a closer look at some of the most common expenses in each category:

Buyer Closing Costs

Buyers typically pay a variety of closing costs when purchasing a property, including:

• Loan origination fees: These are fees charged by the lender for processing and underwriting the mortgage loan. They can include application fees, credit report fees, and points (prepaid interest).
• Mortgage insurance: If you're putting less than 20% down on a conventional loan, you'll usually be required to pay for private mortgage insurance (PMI). This protects the lender in case of default.
• Property taxes and insurance: As a buyer, you'll typically be required to prepay a certain amount of property taxes and homeowners insurance at closing. These costs are often prorated based on the closing date.
• Appraisal and inspection fees: Before closing, you'll need to pay for a professional appraisal to determine the value of the property. You may also choose to pay for various inspections, such as a general home inspection, pest inspection, or radon test.

Seller Closing Costs

Sellers also have their own set of closing costs to pay when selling a property, including:

• Real estate agent commissions: In most cases, the seller is responsible for paying the commissions for both the listing agent and the buyer's agent. As mentioned earlier, this is typically 5-6% of the sale price.
• Transfer taxes and recording fees: Depending on the location, the seller may be required to pay transfer taxes and recording fees to the local government. These costs are based on the sale price of the property.
• Attorney fees: In some states, it's common for the seller to hire a real estate attorney to review the contract and handle the closing. Attorney fees can vary widely depending on the complexity of the transaction.
• Prorated property taxes and HOA dues: If the seller has prepaid any property taxes or homeowners association dues beyond the closing date, they will receive a credit for the prorated amount. Conversely, if taxes or dues are owed, the seller may need to pay a prorated amount at closing.

Benefits of Understanding Transaction Costs

Accurately budget for your investment: Knowing all the costs involved in a real estate transaction helps you plan your finances more effectively. You can factor in not just the purchase price, but also the various closing costs, so you have a clear picture of the total investment required. This allows you to budget accordingly and ensure you have sufficient funds available.

Negotiate more effectively: Understanding the different fees and expenses gives you leverage when negotiating with lenders, real estate agents, and other service providers. You can compare quotes, ask for discounts, or request that certain costs be waived or reduced. Being an informed buyer or seller puts you in a stronger position to negotiate favorable terms.

Avoid unexpected surprises: Being aware of all the potential expenses prevents sticker shock at closing. You won't be caught off guard by unexpected fees or costs that you didn't budget for. This helps ensure a smoother transaction process and reduces the risk of last-minute complications or financing issues.

How Do Real Estate Transaction Costs Work?

Transaction costs in real estate are the various fees and expenses incurred when buying or selling a property. These costs are separate from the actual purchase price of the home and can add up to a significant amount.

• Timing of payment: Transaction costs are typically paid at closing, which is the point when the property ownership is officially transferred from the seller to the buyer. Closing usually takes place several weeks after the purchase agreement is signed, giving both parties time to complete necessary tasks and paperwork.
• Responsibility for costs: Buyers and sellers are each responsible for paying their own respective closing costs. However, in some cases, the buyer may negotiate for the seller to cover a portion of their closing costs as part of the purchase agreement. This is known as a seller concession and can help reduce the upfront expenses for the buyer.
• Prorated costs: Some transaction costs, such as property taxes and homeowners association (HOA) fees, are ongoing expenses that are paid regularly. If the seller has already paid these costs for a period extending beyond the closing date, they will receive a credit at closing for the prorated amount. Conversely, if these costs are due but haven't been paid, the buyer may need to reimburse the seller for the prorated amount at closing.
• Variability of costs: The specific transaction costs involved in a real estate deal can vary widely based on several factors. These include the location of the property, as different states and municipalities have their own taxes and fees. The type of property, such as a single-family home, condo, or multi-unit building, can also impact the costs. Finally, the method of financing, such as a conventional mortgage, FHA loan, or all-cash purchase, can affect which fees are applicable.

Real estate transaction costs can be complex and confusing, especially for first-time buyers or sellers. Working with experienced professionals, such as a knowledgeable real estate agent and a reputable lender, can help you navigate the process and understand all the costs involved. They can provide a detailed estimate of your expected closing costs based on your specific situation and help you budget accordingly.

It's important to factor transaction costs into your overall investment strategy when buying or selling real estate. While these costs can seem daunting, they are a necessary part of the process and should be viewed as part of the total cost of ownership. By understanding how transaction costs work and planning for them in advance, you can make more informed decisions and avoid unexpected surprises at closing.

How to Minimize Real Estate Transaction Costs

While transaction costs are an inevitable part of buying or selling real estate, there are several strategies you can use to minimize these expenses and keep more money in your pocket.

Shop for Competitive Mortgage Rates

Mortgage interest rates can vary significantly between lenders, so it pays to shop around. Even a small difference in the rate can save you thousands of dollars over the life of the loan. Get quotes from multiple lenders and compare not just the rates, but also the fees and terms. Don't be afraid to negotiate and ask for discounts or waivers on certain fees, such as the application fee or origination fee.

Negotiate Real Estate Commissions

Real estate agent commissions are often the largest single transaction cost in a home sale. While the typical commission rate is 5-6%, this is not set in stone. You can try to negotiate a lower rate with your agent, especially if you're selling a high-priced property or if you're planning to buy and sell with the same agent. Keep in mind that agents may be more willing to negotiate if you're offering other incentives, such as a referral or repeat business.

• Consider a tiered commission structure: You can propose a sliding scale where the agent receives a lower commission rate if the property sells quickly or for a higher price. This can incentivize them to work harder and more efficiently on your behalf.
• Offer a flat fee: Some agents may be willing to work for a flat fee rather than a percentage commission, especially if you're selling a lower-priced property. This can save you money compared to the traditional commission model.

Consider Discount Brokers or FSBO

If you're looking to save on real estate commissions, you may want to consider working with a discount broker or selling your property yourself (FSBO). Discount brokers typically offer lower commission rates in exchange for a more limited range of services. For example, they may provide MLS listing and basic marketing, but leave the showings and negotiations up to you.

FSBO can be a good option if you're comfortable handling the sale process yourself and are willing to put in the time and effort. You'll need to price the property, market it, show it to potential buyers, and handle the negotiations and paperwork. While FSBO can save you money on commissions, it's important to weigh the potential savings against the time and expertise required.

Schedule Closing at the End of the Month

Prepaid costs, such as property taxes and mortgage interest, are prorated based on the closing date. By scheduling your closing at the end of the month, you can minimize the amount of prepaid interest you'll owe. For example, if you close on April 30th instead of April 1st, you'll only owe one day of prepaid interest instead of a full month.

Ask Seller to Cover a Portion of Closing Costs

As a buyer, you can negotiate for the seller to cover a portion of your closing costs as part of the purchase agreement. This is known as a seller concession and can be a useful way to reduce your upfront expenses. Seller concessions are typically capped at a certain percentage of the purchase price and may be more common in a buyer's market or when the seller is motivated to close quickly.

Real estate transaction costs can add up quickly, but with the right strategies and knowledge, you can minimize these expenses and maximize your investment returns. At Doorvest, we understand the challenges of navigating the complex world of real estate investing, which is why we've built a platform to simplify the process and help you build long-term wealth. Get started with Doorvest today and let our experienced team handle the sourcing, renovation, leasing, and management of your rental property, so you can enjoy the benefits of real estate ownership without the hassle.