Understanding Per Diem Interest and USDA Home Loans

Do you make a mortgage payment at closing?Home buyer calculating per diem interest

‍Per diem interest is the daily interest paid on a loan for the period between the closing date and the last day of the month.

Knowing how to calculate the per diem interest cost will help you understand this closing cost.

Rent Payment versus Mortgage Payment

Renters pay rent for the month in advance, whereas home borrowers pay interest on a mortgage loan the month after it has accrued, which is called paying in arrears. Essentially, lenders cannot collect interest on days that haven’t happened yet.

When you make a rent payment, the rent payment is for the upcoming month. But mortgages work backward. When you make a mortgage payment, the payment is for the previous month.

How is Per Diem Interest Calculated

Lenders use the loan amount, interest rate and the number of days from the settlement date until the last day of the month to calculate the per diem interest cost.

If you close on June 15th, you owe the lender 15 days of interest. The per diem interest calculation includes the settlement date. Think of per diem interest as an interest-only mortgage payment.

Per Diem Interest Calculation Example

The per diem interest calculation is rather straightforward.

Multiply the loan amount by the interest rate.

Now divide the total annual interest by 365 days (some lenders use 360 days).

Following the division, you will arrive at the daily interest rate (per diem).

Multiply the interest rate by the number of days from the closing day to the day of the month. The settlement date is included. For example, if the closing day is June 15th, the calculation calls for 15 days.

  1. Loan Amount – $100,000
  2. X interest rate (assume 4%)
  3. = $4,000 (annual interest)/365 days = $10.96/per diem interest
  4. X 15 days (close on the 15th) = $164.40

Should I Close on the Last Day of the Month?

Real estate agents often encourage home buyers to close at the end of the month. Your agent may even tell you that you will save money. Technically, the agent is right, but there is a drawback to this strategy which I'll explain later.

But for now, let's take a look at the numbers. Which is better, close on the 1st day of the month or close on the last day of the month?

Using the previous example, if you were to close on the first day of the month, your per diem cost would be $328.77 ($100,000 X 4%= $4,000/365 = $10.96 × 30= $328.77).

And if you close on the last day of the month, your per diem interest would be $10.96.

That's quite a difference.

By closing late in the month, your cash to close is substantially less. Now you're probably thinking, I'm closing on the last day of the month, but wait, there's more to the story. This brings me to your first mortgage payment.

When Is My First Monthly Payment?

Mortgage closingYour first monthly payment is not the month following the settlement month, but the 2nd month following the closing month. For example, if you close in June, your 1st mortgage payment is due August 1st.

The reason you make your first mortgage payment in August is that the August payment is paying for July. Remember, at the beginning of this article, you learned that mortgage interest applies to the previous month. We'll use an example to clarify the per diem interest and 1st payment month.

If you close in June, the per diem interest will be paid at settlement.

We'll skip July and the 1st mortgage payment is in August, which pays for July. A mortgage payment is always for the previous month.

Getting back to the settlement date. If you close on June 1st, your per diem interest is higher, but, you have the balance of June and the following month before you make your first mortgage payment. A total of 61 days before your 1st mortgage payment.

If you close on the last day of the month, you pay per diem interest for one day. You save money at closing, but by closing late in the month, your first mortgage payment comes up quicker. Thirty-one days to be exact.

So when should you close? It depends on your rate lock and the settlement date in the sales contract. If you have just enough money to close, try to schedule your closing late in the month. Otherwise, close the transaction as soon as possible.

How to Pay Off Your Mortgage Quickly

The unpaid principal balance determines mortgage interest. By paying down the principal balance, you will pay less interest. Use our amortization calculator to see how much money you can save by paying a little extra each month with your mortgage payment. You'll be shocked at what just an extra dollar each month will save you in interest.

Mortgage Per Diem Calculator

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