No-Closing-Cost Refinance: How Lender Credits and Rolled-In Fees Really Work

A no-closing-cost refinance is a loan that removes the upfront bill at closing, but the costs of making the loan do not disappear; they are paid another way.

Every mortgage involves services and costs to originate, according to the Consumer Financial Protection Bureau, but some lenders and brokers advertise loans with no lender fees or no closing costs. The bureau says there are two ways lenders do this: by charging a higher interest rate and giving the borrower a credit to cover the costs, or by adding the closing costs to the loan amount.

How does a no-closing-cost refinance with lender credits work?

Lender credits work like discount points in reverse, the CFPB explains. The borrower accepts a higher interest rate, and the lender provides money to offset closing costs. The borrower pays less up front but more over time because the rate is higher, and the more credits a borrower receives, the higher the rate will be compared with the same lender's offer on the same kind of loan without credits.

Credits are calculated the same way as points and may be called "negative points" on a lender's worksheet. In the bureau's example, a $1,000 lender credit on a $100,000 loan might be described as negative one point, because $1,000 is 1% of the loan amount. Lender credits appear as a negative number in the Lender Credits line in Section J on page 2 of the Loan Estimate and the Closing Disclosure. Iron Hill Brief's explainer on how buying down a mortgage rate works covers the other side of the same trade-off.

What happens when refinance costs are rolled into the loan?

The second approach adds the closing costs to the new loan balance. No cash is due at closing, but the CFPB notes that a higher loan amount increases the monthly payment and reduces the owner's equity. A Federal Reserve consumer guide on refinancing adds that rolled-in fees become part of the principal, so the borrower repays them with interest over the life of the loan.

Some lenders use the term loosely. The Federal Reserve guide notes that lenders often define "no-cost" refinancing differently and suggests asking the lender or broker for a comparison of the upfront costs, principal, rate and payments with and without the rate trade-off. The CFPB also notes that some lenders offer lender credits that are unconnected to the interest rate, such as a temporary offer, so it is worth asking how any credit affects the rate.

When does a no-closing-cost refinance make sense?

The answer usually turns on time. Choosing points or credits depends on how long the borrower expects to be in the home, how much cash is available for closing and the lender's specific rates, according to the CFPB. An owner who expects to sell or refinance again within a few years may come out ahead by paying little up front, while one who plans to keep the loan for many years pays the higher rate, or the larger balance, for longer.

The bureau points to the annual percentage rate as a helpful tool for comparing options with different rates and fees. Owners can also run both versions of an offer through the Iron Hill Mortgage refinance break-even calculator to see how long it would take for the monthly savings to cover the costs paid at closing.

Frequently asked questions

Is a no-closing-cost refinance free? No. According to the CFPB, the costs are usually covered by a lender credit, paid for through a higher interest rate, or rolled into the loan through a higher balance.

Where do lender credits appear on my paperwork? They are shown as a negative number in the Lender Credits line of Section J on page 2 of the Loan Estimate and the Closing Disclosure, according to the CFPB.

How do I compare a no-closing-cost offer with a standard refinance? Ask the lender for both versions of the same loan, then compare the rate, the loan amount, the monthly payment, the cash due at closing and the APR, along with how long you expect to keep the loan.

Sources

• Consumer Financial Protection Bureau, "Is there such a thing as a no-cost or no-closing cost loan or refinancing?": https://www.consumerfinance.gov/ask-cfpb/is-there-such-a-thing-as-a-no-cost-or-no-closing-loan-or-refinancing-en-141/
• Consumer Financial Protection Bureau, "How should I use lender credits and points (also called discount points)?": https://www.consumerfinance.gov/ask-cfpb/how-should-i-use-lender-credits-and-points-also-called-discount-points-en-136/
• Consumer Financial Protection Bureau, "Get to know loan costs": https://www.consumerfinance.gov/owning-a-home/explore/learn-about-loan-costs/
• Board of Governors of the Federal Reserve System, "A Consumer's Guide to Mortgage Refinancings": https://www.federalreserve.gov/pubs/refinancings