Effective January 1, 2010

The idea behind the new good faith estimate (GFE) is that it will more easily allow consumers to shop for mortgage loans.  To do this the new GFE combines certain fees into buckets.  One of those buckets, bucket #1, is “Origination Charge”.  Unlike the old GFE which broke out all the fees for the consumer to review the new GFE just lumps a bunch of fees into these buckets.  The new “Origination Charge” bucket includes everything that is charged by the lender for originating the loan.  On the old GFE these fees may have included, but were not limited to:

• Origination Fee
• Processing Fee
• Underwriting Fee
• Doc Prep Fee
• Funding Fee
• Tax Service Fee
• Admin Fee

Depending on the lender you selected, the state you live in and the structure of your fees/rates these “origination charges” could easily exceed 1% of the mortgage loan amount.  With the old GFE the maximum “Origination FEE” was 1%.  Until this new announcement was made the new “Origination CHARGE“, to include all of the fees listed above, was still at 1%.  FHA realized that their rules were no longer suitable given the changes to the way in which lenders are now required to disclose the fees to the consumers.

How Does this Impact You?

At first glance this may seem a bad thing for consumers with FHA eliminating their maximum 1% “origination fee”.  But upon further investigation and understanding of this change, knowing it is in direct response to the new GFE and HUD which are are meant to better protect and inform consumers when obtaining a mortgage loan.  In addition, HUD further stated in their recent statement about removing the 1% max, that “FHA expects that lenders will continue to charge fair and reasonable fees for all origination services and the agency will continue to monitor to ensure that FHA borrowers are not overcharged”.

The new HUD and GFE are meant to be simplified by lumping fees into these buckets so that you may easily obtain several GFE’s from competing lenders and just look at the overall cost of the buckets to see who comes out better.  If you are familiar with the creation of the Truth in Lending Act, its enactment was also meant to help consumers better understand the financing they are apply for and enable better comparison from one lender to another.  What it did create was one of the most misunderstood disclosures used on the mortgage financing package due to the APR shown on that disclosure.  For a better understanding of what APR is review my previous post on the topic.

All of these changes, although made with good intentions, will, in my opinion, just complicate the process by providing less transparency from the lender to the consumer.  Instead of allowing consumers to see a break-down of all the fees they are now only going to see the buckets these fees fall in.  I believe that consumers are smart enough to be able to see the fees and do the comparison on their own, but HUD doesn’t seem to think so.  When everything surrounding this issue has settled down, I believe there will be very minimal impact to the mortgage industry and to consumers.  Ultimately, it comes down to trust.  Do you trust the lender you are working with to provide you with a great mortgage loan, protect your interests and provide great service while doing so?  If not, I would suggest finding another lender.  If so, then an extra $250 in fees probably isn’t going to make that big of a difference, considering you will have a lot less stress and actually close that loan when you are ready to close on your home purchase.

Lending A Hand

Scott Wynn

The Wynn Team

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