Lender credits: How a mortgage lender can pay your closing costs

Maggie Overholt
Maggie Overholt
The Mortgage Reports Editor
February 25, 2021 - 8 min read

What are lender credits?

Lender credits are an arrangement where the lender agrees to cover part or all of a borrower’s closing costs. In exchange, the borrower pays a higher interest rate.

Lender credits can be a smart way to avoid the upfront cost of buying a house or refinancing.

Getting closing costs to $0 means you can put more of your savings toward a down payment — or, in the case of a refinance, lock in a lower interest rate without having to pay upfront fees.

But lender credits aren’t always the right choice. For some borrowers, it makes sense to pay more upfront and get a lower interest rate.

Here’s how to negotiate the best mortgage deal for you.

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How lender credits work

Lender credits are a type of ‘no-closing-cost mortgage’ where the mortgage lender covers all or part of the borrower’s closing costs.

Of course, lenders don’t pay borrowers’ closing costs out of generosity. In exchange for absorbing closing costs, the lender charges a higher interest rate. The ‘extra’ interest paid by the homeowner over time eventually repays any fees covered by the lender.

Lender credits can be structured a few different ways, depending on what the lender agrees to cover and how much the borrower is willing to increase their mortgage rate.

For example:

  • The lender might cover all the borrower’s closing costs
  • The lender might cover its own fees and third-party services (like the appraisal) but not prepaid items (like property taxes and homeowners insurance)
  • The lender might cover only its own fees and none of the third-party services or prepaid items

The more of your closing costs a lender pays via lender credits, the higher your interest rate will be, and vice-versa.

Mortgage pricing is flexible, and you can take advantage of tools like lender credits to negotiate a rate and fee structure that works well for you.

How to compare mortgages with lender credits

If you’re considering a home loan with lender credits, it’s important to weigh the short-term savings versus the long-term cost.

You might eliminate your upfront cost with lender credits. But accepting a higher interest rate means you’ll pay more interest in the long run. You’ll also have a higher monthly payment.

If you keep your loan its full term — typically 30 years — the amount of ‘extra’ interest you pay could far exceed the amount you would have spent on upfront closing costs.

However, most home buyers don’t keep their mortgages for the full term. They sell or refinance within a decade or so. And if you’ll only keep your loan a few years, having a slightly higher interest rate might not matter as much.

So you need to consider how long you plan to keep the mortgage before selling or refinancing to decide if lender credits are worth it.

You should also compare no-closing-cost loans from a few different mortgage lenders.

Each lender structures lender credits differently — so you might find one that covers the same amount of closing costs, but charges a lower interest rate than another.

And be sure to compare offers on equal footing.

If you look at one lender quoting a zero-cost mortgage, and another that’s only covering origination fees, for example, you’re going to see very different rates. So make sure all the lenders you compare are covering the same amount and types of closing costs.

You can find you total closing costs and how many lender credits are included on the standard Loan Estimate you’ll receive after applying with any lender. These documents make it easy to compare home loan offers side-by-side to find the better deal.

Are lender credits worth it? An example

Typically, the less time you keep your mortgage, the more you’ll benefit from lender credits.

Here’s an example:

  No Lender Credits With Lender Credits
Loan Amount $250,000 $250,000
Interest Rate* 3.0% 3.75%
Upfront Closing Costs $9,000 $0
Interest Paid In 5 Years $35,500 $44,500
Interest Paid In 30 Years $129,500 $166,800

*Interest rates are for sample purposes only. Your own interest rate with or without lender credits will vary.

This home buyer can take a 3% interest rate on a 30-year fixed-rate mortgage, with $9,000 in closing costs (3.6% of the loan amount). Or, they can accept a 3.75% interest rate with $0 in upfront closing costs.

If the homeowner keeps the mortgage 5 years or less, lender credits are likely worth it.

At the end of year 5, they will have paid $9,000 in ‘extra’ interest due to their higher rate. But they saved $9,000 upfront. So if they sell or refinance any time before the end of year 5, the savings from lender credits outweigh the added cost.

This point — where the upfront savings level out with the long-term cost — is known as the ‘break-even point.’

If this homeowner stays beyond the break-even point, they end up paying their lender more in added interest than they saved upfront. So it’s easy to see how lender credits don’t make as much sense if you plan to keep your loan a long time.

However, there are some scenarios where lender credits are worth it even for long-term borrowers.

Lender credits in a rising interest rate environment

Even if you’ll spend more in the long run, there are still scenarios where lender credits can make sense. That’s especially true in a rising rate environment.

For example:

  1. A first-time home buyer wants to buy at today’s low interest rates, but only has enough saved for a down payment — not closing costs. This person could take a small rate increase, and may still lock in a lower rate than the one they’d get if they had to save another year or two and rates rose during that time
  2. A homeowner bought their home a couple years ago and has an interest rate 2% higher than today’s rates. They want to refinance at today’s low rates but can’t afford closing costs. They could likely take a rate above the current market, get their closing costs paid by the lender, and still save money every month compared to their old loan

In these cases, the higher interest rate is relative. Some homeowners can take a rate increase on their lowest offer and still ‘save’ money overall.

Often, lender credits are a matter of timing. They allow homeowners and home buyers to lock during a low-rate environment, even if they don’t have the cash to cover upfront fees out of pocket.

And remember, lender credits aren’t all-or-nothing.

You don’t need to take a big rate increase and get closing costs to $0. You can have the lender cover part of your closing costs and take only a slight rate increase.

Make sure you talk to lenders about all your options. And if one lender doesn’t offer the right combination of rate and fees for you, shop around for another company that will.

Lender credits vs. discount points

Lender credits work the opposite way, too. Instead of paying less upfront and taking a higher rate, you can pay more upfront and get a lower interest rate.

This strategy is known as ‘points,’ ‘mortgage points,’ or ‘discount points.’

Whereas lender credits save you money upfront but increase your long-term cost, discount points cost you more at closing but can save you a huge amount of money over the life of the loan. Having a lower interest rate also reduces your mortgage payments.

Take a look at an example:

  With 1 Discount Point No Points Or Credits  With Lender Credits
Loan Amount $250,000 $250,000 $250,000
Interest Rate* 2.75% 3.0% 3.75%
Upfront Closing Costs $11,500 $9,000 $0
Interest Paid In 5 Years $32,500 $35,500 $44,500
Interest Paid In 30 Years $117,500 $129,500 $166,800

*Interest rates are for sample purposes only. Your own interest rate with or without points or credits will vary.

One discount point typically costs 1 percent of the loan amount and lowers your rate by about 0.25%.

In this case, one point costs the borrower an extra $2,500 at closing and lowers their rate from 3% to 2.75%.

By the end of year 5, the homeowner has already saved $3,000 in interest compared to the original rate quote. And the longer they keep their mortgage, the more that discount point will pay off.

By the end of year 30, they’ve saved $12,000 compared to the original rate — and nearly $50,0000 compared to the no-closing-cost mortgage.

This is just another example of how borrowers can use mortgage pricing to their advantage.

The homeowner staying long-term can pay for discount points and save themself tens of thousands of dollars over 30 years. The person buying a starter home or a fix-and-flip can eliminate their upfront cost and sell before the higher interest rate starts to matter.

It’s up to you to decide what makes the most sense based on your home buying or refi goals, and your personal finances.

Your loan officer or mortgage broker can help you compare options and choose the right pricing structure.

Negotiating your interest rate

Both lender credits and discount points involve negotiating with your mortgage lender for the deal you want.

You’ll be in a better position to negotiate low closing costs and a low rate if lenders want your business. That means presenting yourself as a creditworthy borrower in as many areas as you can.

Lenders typically give the best rates to borrowers with a:

Of course, you don’t need to be perfect in all these areas to qualify for a mortgage. For instance, FHA loans allow credit scores as low as 580. And if you qualify for a USDA or VA loan, you can buy with 0% down.

But making improvements where you can — for instance, by raising your credit score or paying down debts before applying — can make a big difference in the rate you’re offered.

Today’s mortgage rates with lender credits

Today’s rates are still at historic lows. Many borrowers can get their closing costs paid for and still walk away with a great deal on their mortgage.

The trick is to compare mortgage loans from a few different lenders.

If you want a zero-cost mortgage, make sure you ask specifically for quotes with lender credits so you can find the lowest rate on the mortgage you want.

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