We received a call from a potential customer, referred to us by a real estate agent we work with, who was looking to get qualified for a home price of about $400,000. He had just received a large inheritance and was debating on exactly how much to put down on the home. He had a figure in mind but wanted to run the numbers. Here is how the numbers played out at his figure of $250,000 down:

Pretty good payment for a $400,000 house!  Now that we know what it would look like based on the number in his mind, we started to play with the numbers a bit.

First let’s look at how much you can save for every $1,000 you put down.  Through a simple mortgage calculator you can calculate how much $1,000 over a 30 year loan, fixed at 5% will change your monthly payment.  It comes out to $5.37/mo.  What this means is that for every $1,000 you put down your principal and interest payment will decrease about $5.37/mo.  In this example, he is putting $250,000 down or $236,000 more than the minimum (minimum is 3.5% or $14,000).  That means that the monthly principal and interest savings is about $1,267.32 (236 X $5.37).  5% is a great rate and historically very low, so let’s look at some other examples based on average 30 year fixed mortgage rates from Freddie Mac:

• 2009 Average= 5.04% or $5.39/mo per $1,000 down
• 2000 – 2009 Average = 6.29% or $6.18/mo per $1,000 down
• 1972 – 2009 Average = 9.28% or $8.25/mo per $1,000 down

When people see these figures they are normally very surprised how little $1,000 down will impact their payment.  There are certainly other factors to consider though.  Probably the biggest factor to consider is mortgage insurance. Mortgage insurance protects your lender and is required when you put less than 20% down on a mortgage.  There are 2 main types of mortgage loans and the monthly mortgage insurance amounts vary for each:

• FHA – 1.75% Up-Front Mortgage Insurance Premium (Changing to 2.25% Apr 5)
  • .55% of loan amount divided by 12
• Conventional
  • 5.00 to 9.99% Down Payment = .94% of loan amount divided by 12
  • 10.00 to 14.99% Down Payment = .62% of loan amount divided by 12
  • 15.00 to 19.99% Down Payment = .38% of loan amount divided by 12

These mortgage insurance factors add a level of complexity to calculating the savings of putting more down.  Let’s look at the monthly payment of principal, interest and mortgage insurance at different amounts down:

Based on this table you can see that by putting down an additional 5%, or $10,000, you save more than just the $5.37/mo, calculated in the first example. The difference between Conventional 5% and Conventional 10% is $109.51 instead of the $5.37/mo per $1,000 down calculation of $53.70. This is because of the drop in the MI factor dropping from .94% to .62%.

Getting back to our example with this gained knowledge we know that a 20% down payment should be the least amount the customer should consider.  This will allow him to avoid paying mortgage insurance and provide him the biggest bang for his buck.  From there it became a decision of personal choice and calculating whether to put money down or invest with a better return on his money.

Rather than redo all the calculations on this question, I will direct you to check out Get Rich Slowly who wrote a post titled Ask the Readers: Is it Better to Invest or Prepay a Mortgage.  The great thing about this post is that it not only gives you great resources for making this decision but also gives you the calculations and opinion of others.

My customer decided that even though he may be able to get a better rate of return in the stock market or other investments he still wanted to put the full $250,000 down.  Ultimately you are the one that needs to determine what is best.  Mathematical calculations will likely show it is better to invest than to buy down the mortgage but the emotional side of having the security of a low monthly mortgage payment can weigh heavily on this decision.

Lending A Hand

Scott Wynn

The Wynn Team

Photo provided by zert.sonstige_2008 on Flickr

Anyone who was recently “floating” their rate in the hopes of another dip in rates can tell you the answer they would now have in hindsight. As they say, hindsight is 20/20.  But if only we all had a crystal ball, would we trust it or still try to out guess the market?

When you are making the decision to lock in a mortgage rate, there are several considerations.  Is the rate you are being quoted a rate you can live with?  What if it goes up .125% or .25% or as this week saw, .5%?  On $200,000 mortgage, for each .125% your payment changes only about $15 per month either direction, but .5% changes it about $62 per month.  So of course, we are all hoping that the rate drops that much before we lock, right?

Unfortunately and maybe fortunately, rates don’t typically fluctuate that much, that quickly.  When it does, it is amazing and horrible, depending on which end of the change you are on.  Lenders will sometimes be able to renegotiate a lock if the rates drop .5% or more for little or no cost to the borrower.  But, there is no going back if the rates go up and you didn’t lock.  

Are you curious what caused the big jump in rates?  We were so we found a great article on the Wall Street Journal that gave some insight into the current mortgage market.  “Mortgage rates are being pushed up in part by a steep increase in yields on long-term Treasury bonds, which have a strong influence on the cost of home loans.”  The article goes on to explain the potential impact this increase in rate will have on the economy as a whole.  The article has a somewhat pessimistic tone on the economy.  Consider where rates are at!  Although a few months old at this point, Scott’s post about rates being at all-time lows is still very relevant and provides some insight as to where we have been and where we are now. 

Bottom line, the decision is yours, but do a gut check and think how you would feel if the payment goes up because you didn’t lock. Will you still qualify for your loan?  Talk to your lender if rates drop after you locked in to see if there is a way to renegotiate for a better rate.  But be prepared to live with the decision you make.  Once you lock, for the most part, just pretend your loan closed already and you are done with the decision and be at peace with it. 

Lending A Hand,

Cindy Howeth

The Good Faith Estimate is divided up into several categories:  The loan fees, the Title and closing fees, prepaid interest and fees and reserves for the borrower’s escrow account.

The 800 section of the GFE are the loan fees, including fees actually collected and retained by the lender as well as fees paid to third parties such as the appraiser. These are the fees you will want to compare with different lenders and brokers.

The 1100 section are the fees charged by the title company.

The 1200 section are third party fees paid to governmental agencies in connection with the loan and real estate purchase.

The 1300 section are fees paid to any necessary third parties, such as inspectors.

The 900 section fees are interest from and including the day of closing to the end of the month, any upfront mortgage insurance required, the first year of homeowners insurance premium that will be paid to the borrower’s insurance company at closing.

On the GFE (Good Faith Estimate) you will notice some letters at the end of line 800: PFC, S, F, POC. PFC means Prepaid finance charge. These are the charges that are associated with calculating APR. S means Seller Paid. These are items that the seller will be paying at closing. The F means FHA allowable. These items are permitted by FHA. Lastly the POC stands for Paid Outside of Close. This means that these items will be paid for, generally, before close.

It is important to keep a copy of the original GFE you are shown, to compare it to the final closing statement before you sign your loan documents.

Items checked as pre paid (PFC) finance charges will affect the final APR of your mortgage.

Federal law requires lenders and brokers to provide a written Good Faith Estimate within three days after taking an application associated with a property from a borrower.

Have each mortgage professional go over the Good Faith Estimates with you. Compare the items line by line. If you notice the cost of any item on a GFE significantly higher or lower than that of the same item on other GFE’s, ask the loan officer to explain the difference. Some dishonest loan officers might “low ball” their settlement costs to gain your business.

Sometimes the fees listed on the Good Faith Estimate can change before closing. Some reasons include-

• Your mortgage broker may have to submit your loan application to a different lender, either to get a better rate or because the underwriter at the first lender didn’t approve your loan (different lenders have different fees)
• If your appraisal is sent to appraisal review by the lender, some lenders charge a fee for that
• If you decide to use a different loan program or a different loan amount
• If you close earlier or later in the month than estimated
• If you decide to use a different home owner’s insurance company, policy, or deductible amount

Generally, other fees may vary a little as they are estimates (such as courier fees, which will rise as more packages are sent), but they should be pretty close.

In some states, if there are changes to the initial estimate but before closing, new GFE’s are required to be sent out prior to closing.

A Good Faith Estimate can inform you of the some or all of the costs necessary to complete a real estate transaction, but changes such as title, real estate or lender issues may arise through no fault of your mortgage broker. While your mortgage broker is responsible for giving you a Good Faith Estimate, it is not the responsibility of your mortgage broker to guarantee third party costs.

It is important for borrowers to understand the Good Faith Estimate because the fees listed are what they are being charged to close their loan transaction. Borrowers should have all fees explained to them by their loan officer and to challenge any fees they feel are unnecessary.

The Good Faith Estimate also discloses the interest rate on the loan, the approximate monthly payment and the amount the borrower will need to bring to closing.  Some sellers pay some or all of the borrowers closing costs.  These amounts are also show on a Good Faith Estimate. 

Understand that a Good Faith Estimate (GFE) is just that, only an estimate. Your costs at closing and the monthly payment can vary from the amount on the GFE.

Good Faith Estimate documents with unrealistically low figures are a common tactic used by less scrupulous mortgage companies to “bait and switch” borrowers by locking them into a loan process with the promise of abnormally low rates and fees, only to change the deal at the last moment, often at the closing table itself.  Be sure to check out who you are working with and make sure they are reputable. 

Lending A Hand

Why is APR Used?

APR is part of the Truth in Lending Act that is one main area of regulation within the mortgage business.  APR was created to provide one number to determine the cost of a mortgage loan for the purpose of understanding the true cost and provide the ability to easily compare mortgage lenders and determine which one provides the lowest cost to you.  Sounds easy, right?  Just check one number on the documentation that mortgage loan officers provide and…BAM…done – you know who is best.  Not quite.

APR VS Note Rate

One of the main misconceptions or misunderstandings surrounding the APR is that some believe it is the note rate, or the rate of interest the lender will actually collect from you, as the borrower.  This is not correct.  APR includes other factors than just the rate that you pay the lender back.  Here are some of the fees that may be included into the APR calculation:

• Origination Fee
• Discount Points
• Prepaid Interest
• Processing Fee
• Underwriting Fee
• Documentation Prep Fee
• Private Mortgage Insurance

Here is what is funny though – there is no exact rule as to what is and is not included into the APR calculation.  Check out two websites I was reviewing before posting:

• Wikipedia – Annual percentage rate
• Yahoo Answers – What fees are included in APR?
  • I realize this isn’t the most reliable source, but it explains the point

Between these sites you can see a wide range of beliefs related to what fees are actually included in the APR.  This is because the Truth in Lending Act does not explicitly state what has to be included.  Here is the wording from the Truth in Lending Act:

All items required to be disclosed under section 226.4(a) and (b), except interest or the time-price differential.
All compensation paid to mortgage brokers.

All items listed in section 226.4(c)(7), other than amounts held for future taxes, unless all of the following conditions are met:

• The charge is reasonable,
• The creditor receives no direct or indirect compensation in connection with the charge, and
• The charge is not paid to an affiliate of the creditor.

Premiums or other charges, paid at or before closing if paid in cash or financed, for optional credit life, accident, health, or loss-of-income insurance, and other debt-protection or debt cancellation products written in connection with the credit transaction (section 226.32(b)(1)).

This is why the same loan with two different lenders could have two different APR calculations.  Keep this in mind when you are comparing mortgage lenders.

What is the Definition?

So now that we understand that no one knows exactly how to calculate the APR, what is APR, anyway?  Here is the best definition I could find for APR, courtesy of Investopedia:

The annual rate that is charged for borrowing (or made by investing), expressed as a single percentage number that represents the actual yearly cost of funds over the term of a loan. This includes any fees or additional costs associated with the transaction.

Here is the formula, found on the FDIC website:

My answer – use a software program.  Probably every mortgage loan officer uses some sort of mortgage software program to calculate the APR for them, to avoid the confusion of how to calculate the number outside of what should included in the calculation.

So Now What?

Now we are totally confused, right?  We don’t know what fees are included, and we don’t know how to calculate it – but, hey, at least you know how confusing it really is and why each lender will likely have a different calculation for you on APR.  Knowledge is power though…now that you know that the APR will vary, you can eliminate this as a viable method for determining the best loan to choose from a, merely, financial point of view.

Outside of the 8 Questions to Ask Your Lender post that I provided to help you in selecting a mortgage lender, when comparing just the financial aspects of a mortgage loan here is what I suggest:

• Obtain a Good Faith Estimate from each lender on the same day
  • If you get GFEs on different days the rates quoted on the GFEs may be skewed and you will not truly be comparing apples to apples
• Compare the fees in the 800 line items
  • These are the fees that the lender is charging and are likely to be the only fees that will truly vary at the time of closing
  • Although not all lenders disclose all fees outside of the 800 line items correctly, these fees will be the very close, if not the same, from lender to lender by the time of closing
• Compare the interest rate
• Compare the term (length of the loan)
• Compare the terms
  • Is there a prepayment penalty
  • Is the payment interest only or fully amortizing
  • FHA, VA or Conventional
  • What type of MI
    • Up-front or just monthly

By comparing these items yourself, you will be able to determine the best loan on your own without relying on the APR calculation that no one quite understands.

Hope this helped confuse the confusion about APR.

Lending A Hand,

Scott Wynn

Pre-Qualification

When I complete a pre-qualification with my customers, I typically do this over the phone and in about 10 – 15 minutes.  Here is what I ask:

• Name
• Social security number
• Address
• Employer
• Length of employment
• Income
• Balance in bank accounts
• Current rent or mortgage payment
• Comfort range for new payment
• Time frame to purchase or refinance

After asking these questions, I do some calculations and run a credit report.  During the call I can normally tell someone whether or not I believe that I can get them qualified for a mortgage.  I, and other experienced mortgage lenders, am able to do this due to the knowledge and past experiences I have helping customers obtain mortgage loans.

This is the level of qualification where most customers would stop before they buy a home.  The problem with this level of qualification is that nothing has been documented or proven to the lender.  Someone could tell the lender that they are employed and make $60,000/yr, but when a pay stub is provided the income may only be $45,000 or even worse, they may not even be employed.  The pre-qualification is based entirely on good faith.

Pre-Approval

Pre-approval takes the pre-qualification step to the documentation phase.  All the income, employment and bank information you told the lender about is now documented.  Here is a list of the documentation that a lender will need to complete a pre-approval:

• Pay check stubs
• Bank statements
• W2s
• Federal Tax Returns
• Divorce decree
• Child support/alimony orders

Not everyone will be required to provide these documents, however these are the most common.  In some cases, there is even more documentation that will need to be provided to the lender to complete the pre-approval.

Once the documentation is provided, the lender will then input all of the information into a loan application and run an automated underwriting system which compares the borrower’s information to the guidelines for a mortgage to determine if the borrower is an acceptable risk to provide a mortgage loan.  There are two possible outcomes:  pre-approval or a referral to an underwriter (traditional or manual underwriting).

Traditional/Manual Underwriting

In the case the computer can not approve the loan a person underwriter is able to review the file to determine if there are any circumstances that the computer could not analyze.  The person can take these circumstances into consideration and re-evaluate the risk.  In some cases the underwriter can overturn the computer decision, or sometimes they may agree with the computer risk assessment. 

Just about every seller wants to know they are selling their house to someone who is actually qualified to buy the home before they take it off the market.  Be prepared to provide a pre-approval letter from your lender when submitting offers on homes you are interested in purchasing.

Lending a Hand,

Scott Wynn