When you close on a mortgage loan, your first payment isn’t due until the 1st of the month in the first full month after you close. So if you close on June 29, your first payment would be due August 1. However, mortgage interest starts accumulating the instant you move into your home. Mortgage interest is always paid in arrears, which is just a fancy word for after-the-fact. So if you make a payment on July 1, you’re actually paying interest for all of June. But we just said you wouldn’t have a July payment. So where does that get accounted for? When you close in the middle of the month, you’re charged per diem interest at closing for the days leading up to the end of the month. In this case, because you close on June 29, you’re charged daily interest for the 29th and 30th. Then your August 1 payment accounts for all the interest you owe for July. On September 1, you’ll pay for August interest and so on.
This leads to a quirk in the mortgage process. When you close on your home, you might have the option to start your payment on the 1st of the following month or the month after. At close, you’re paying the daily interest up until the date of the first payment. Whether you’ll be given an option depends on when you close due to mortgage investor policy on per diem interest limits.
If you do have the option, when is the best time to close on a house? That really depends on your financial situation and goals. Let’s play out two scenarios:
If you close closer to the beginning of the month, you’ll pay more in per diem interest, but you don’t have to make another payment on your mortgage for almost 2 months. Some people like this if they need a month with a little more play in the budget, maybe for buying furniture or gifts around the holidays.
The downside to this is that you’re paying more in interest on the loan by covering so much prepaid interest up front. And 28 or 29 days of interest can really add up, particularly at the beginning of the loan when it’s the most interest you’re ever going to pay.
The second scenario involves closing later in the month. Let’s say you close on the 29th of a 30-day month. You pay per diem interest for the 29th and 30th. Then a month still goes by before your first payment is due, but that first payment covers the month prior. The first payment comes faster, but based on per diem interest, you’re paying less interest over the life of the loan.
A secondary benefit of closing later in the month and starting your payment sooner is that it lowers the closing cost for you. There’s less per diem interest to pay.
Per diem interest also comes into play when you’re paying off a mortgage. When you request a payoff quote, you’ll receive this quote with your payoff amount. That quote will be good for a certain number of days.
If you pay off the loan before the date listed, you’re refunded the per diem interest between the date listed on your payoff quote and when you actually sent the funds to your lender.
