Is it Cheaper to Close at the End of the Month?

31 12 2007

When you obtain a loan to purchase a home, you’re required to prepay any interest that will accrue from the date of closing until the end of the month. So, in theory, the closer your closing is to the end of the month, the less you have to pay in closing costs.

This portion of interest is charged to the buyer at closing because mortgage payments are made in arrears. Unlike paying a rent, a monthly mortgage payment actually covers the previous month. For example, if you were to purchase a home and close in January, your first mortgage payment would not be due until March 1. The payment on March 1 would cover the principal and interest owed to the lender for the month of February. For a visual illustration, take a look at the sketch above.

Regarding the prepaid interest, assume your actual closing date is January 15th. Your prepaid interest charge is as follows:

Mortgage amount:    $175,000
Annual (fixed) interest rate: 6%
Daily interest charge:    $28.68

Now compare the potential savings in prepaid interest when closing on the 31st vs. 15th.

January 15th → 17 days of interest (17 x $28.68) = $487.56
January 31st
→ 1 day of interest (1 x $28.68) = $28.68

By closing later in the month it’s possible to reduce your closing costs by hundreds of dollars. However, closing at the end of the month could cost you more than expected if there are any delays prior to closing. For instance, if you initially intend to close on January 31st, but are delayed until February 1st or later, you will be charged interest from closing to the end of February. So instead of paying 1 day ($28.68) of interest you may end up paying for 28 days ($803.04). 

Ultimately, your time-line for moving should determine whether you negotiate to close early or later in the month. While it is possible to save a few hundred dollars in prepaid interest charges by closing later in the month, I recommend closing earlier to avoid the risk of any last minute surprises concerning prepaid interest charges.

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One response

2 01 2008

good info I never quite understood why the closing cost were less at the end of the month.

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