Mortgages: December 2012 Archives

I get people asking me about how much their mortgage loan providers make, usually with an idea towards negotiating it down but often with the idea of choosing one loan or the other based upon the loan officer's compensation. This is a bad idea.

First off, there are several forms loan officer compensation takes. There is so-called "front end" compensation paid directly by borrowers. There is "back end" compensation paid by lenders, also known as yield spread (or SRP for correspondent lenders). There are also volume incentives given by most lenders, and promotional give backs and offsets. Then there are times when the loan officers is holding out their hand for kickbacks behind your back or by "marking up" third party services that they order on your behalf. This is illegal, but it still happens. Finally, for direct lenders, there is the premium they earn by selling your loan on the secondary market, a figure which is usually several times all of the others and which is the reason why those are paid, but does not need to be disclosed at all. Trying to judge a loan by loan officer compensation is very difficult if they are trying to hide it.

Furthermore, it's actually a distraction from what is most important, namely, the best possible loan for you. For instance, a couple of weeks before I originally wrote this, I was shopping a loan for a decidedly sub-prime prospect. The lowest quote I got enabled me to give a quote of a 7.25% retail rate at par, which is to say no discount points to the borrower. But that lender was better than half a percent better than their nearest competition because this borrower fit neatly into one of their targeted niches. Had I merely not shopped that loan with that lender, the best I could have done would have been 7.8 percent at par, and one full point from the borrower would only have driven it down to 7.3 percent. Now suppose I didn't shop that one lender who gave me the best price, and my competition had found something even better, say a 7.00 percent par rate loan. For that particular loan, they could have made a full percent and a half of that loan amount more than I did, and still delivered a better loan for the client.

In point of fact, I actually beat my competition by quite a bit, But the point I am making is still valid. Judge the loan by the best loan for you: Type of loan, rate, and total cost in order to get that rate.

Furthermore, brokers and people who work at brokerages legally must disclose their company's compensation from other sources, while direct lenders do not. Direct lenders are making, if anything, more for the average loan than the brokerages, but because they do not have to disclose compensation not paid by the borrower, if you try to use loan officer compensation as a way of judging the value of the loan, the direct lender will look better than the broker for most loans. Until, that is, you go and compare the loans they actually were prepared to deliver from the most important perspective: What it means to you, the consumer. A 6 percent thirty year fixed rate loan with no pre-payment penalty that cost you a grand total of $3500 is a better loan than a 3/27 that has a pre-payment penalty, cost you $8700, and is at a rate of 6.25%, regardless of how much the respective loan officers or their companies made, or would have made. Loan Officer compensation is a distraction from what's really important. Much more important is the loan they are willing and able to deliver, it's type, rate, costs, and whether or not there is a pre-payment penalty.

Caveat Emptor

Original here

Just like Mohandas Gandhi and Genghis Khan and Attila the Hun were all human beings, lenders make money by lending money to people who want it.

That's about the limit of the truth in that statement.

Lenders do, by and large, get their money to lend from the bond market. But not all lenders get their money from the same part of the bond market. Some get the money from low-risk tolerance folks looking for security, and willing to accept comparatively low rates. Some get the money from high risk tolerance folks looking for more return for their risk. Within each band, there are various grades and toughnesses of underwriting. A lender with tough underwriting will have a very low default rate, and practically zero losses. A lender with more relaxed underwriting will have more defaults, and higher losses, meaning they must charge higher rates of interest in order to offer the investors the same return on their money.

When I originally wrote this, I had literally just finished pricing a $600,000 loan for a client with top notch credit and oodles of income (he's putting $800k down). Even A paper and with the yield curve essentially flat, I got variations of three eighths of a percent on where their par rate was. Every single one of them had significant differences in how steep the points/yield spread curve was (if you need these terms explained this is a good place). For one lender it was "offsheet pricing" below their lowest listed rate. This lender is more interested in low cost loans, and they take it for granted that folks will not be in their loans very long. This lender is appropriate for those who are likely to refinance within a few years. For another lender, it was "offsheet pricing" above their listed sheet prices. This lender specializes in low rates that cost multiple points, so they can market lower payments. For those few people who really won't sell or refinance for fifteen years, these are superior loans.

Which do you think is really better for the average client? Well, let's evaluate a 6.5 percent 30 year fixed rate loan that costs literally zero (I get paid out of yield spread, while rebating enough to the customer to cover all their costs), with a 5.875% 30 year fixed rate loan that costs $3400 plus two points. I always seem to be computing $270,000 loans here, but since this was "jumbo" pricing and a $270,000 loan is "conforming", which carries lower rates, I'll run through both.

The 6.5 percent loan is zero cost to the client. Nothing out of pocket, nothing added to the loan balance. Gross Loan Amount: $270,000. The 5.875% loan cost 1.875 points in addition to $3400 in closing costs. Gross loan amount $278,625. You have added $8625 to your mortgage balance to save yourself $98.40 per month. You theoretically are ahead after 88 months (7 years, 4 months), but not really even then.

Every so often I get a question that asks why they can't have A for the price of B. The answer is the same as the reason why you can't have a Rolls Royce for the price of a Yugo. Another funny thing about Rolls Royces is how expensive they are to maintain. A middle class person with a Rolls better plan on living in it. The funnier thing is that in the case of loans, your friends, family and neighbors can't even see you in it, so there is no point in a "Rolls Royce" home loan except for utility, and if it's not paying for itself, then there is no utility (or negative utility, i.e. something you don't want), and therefore, money wasted.

Now, let's crank the loans through five years - longer than 95 percent plus of all borrowers keep their loans, according to federal statistics - and see which is really better for most borrowers. The 5.875% loan makes monthly payments of $1648.17. Over five years - 60 payments - they pay $98,890 and pay their balance down to $258,869. Total principal paid: $19,756. Actual progress on the loan (amount owed less than $270,000): $11,131. Interest paid: $79,134, which assuming a 30 percent combined tax rate, saves you $23,740 on your taxes.

Now let's look at that 6.50 percent loan that didn't add a penny to your balance. Monthly payments of $1706.58, total over five years $102,395. Looking pretty awful, so far, right? But your total amount owed is now only $252,750. Total principal paid: $17,250. But this same number is also the actual progress! Interest paid $85,145, and assuming 30 percent combined tax rate, same as above, it gives you a tax savings of $25,543.

Now let's consider where you are after five years.

With the 5.875% loan, you saved $3505 on payments. But you also owe $6118 more, and the 6.5 percent loan saved you $1803 more on your taxes. Furthermore, if you've learned your lesson about high cost loans, and rates are as low when you refinance or sell (6.5 percent on your next loan), it's going to cost you $397.67 per year from now on for that extra $6118 you owe! Net cost: $4416 plus nearly $400 more per year for as long as you have a home loan. Assuming that's "only" 25 years, your total cost is $14,358. I never spent so much money to save a little for a little while!

Now, let's consider that $600,000 loan in the same context. After all, the pricing really applies there (conforming rates are lower). Appraisal costs a little more, and so does title and escrow, for jumbo loans on million dollar houses. Let's say $3700 in costs. Your new 5.875% loan would be for $615,236 (disregarding rounding). Payment $3639.35, which over 5 years goes to $218,361 in payments. Crank it through 60 payments, and you've paid the loan down to $571,612. Principal paid $43,388, actual progress $28,388. Total Interest paid, $174,973, which assuming a combined 40% tax rate (higher income to qualify!) gives you a tax savings of $69,989.

At 6.50 percent, the payment on a $600,000 loan is $3792.40. Times 60 payments is $227,544. Crank the loan through those 60 payments, and you've paid the loan down to $561,666. Principal paid and actual progress made: $38,344. Total interest paid $189,209, which at the same combined 40% rate is a tax savings of $75,684.

With the 5.875% loan, you saved $9183 in payments. Yay! However, you owe $9946 more, paid $5695 more in taxes, and on your next loan, assuming it's at 6.5 percent, you pay $646.49 per year in additional interest. Total cost is $6458 plus $646 per year for as long as you have a home loan, which assuming that's 25 years equates to a total of $22,620!

Which of these two loans and lenders is better for you? Well, if you're going to stay 15 years or more and never refinance, the lender who wants to give you the 5.875% loan. That rate wasn't even available from the 6.5 percent lender. On the other hand, if you're like the vast majority of the population that refinances or sells within five years (for whatever reason) you really want the 6.5 percent loan whether you knew it before now or not, which also was not available from the 5.875 percent lender.

The billboards advertising rates aren't going to tell you cost, of course. They're trying to lure clients who don't know any better, and often they're playing games with the loan type as well. But when the rate spread between the rate they're selling and APR is over 3 tenths of a percent, you know they're building a blortload of costs into it. Keep in mind that the examples I used were almost two full points in addition to basic closing costs, and they were each only about a 0.25% spread between rate and APR. You are never going to recover those costs in the time before you refinance. The lender who offers you 6.5 percent for zero cost is probably offering you a better loan.

Now, there were lenders targeting the markets between these two lenders, some that overlapped the whole market, and even another lender specializing in rates even lower and with higher pricing. Keep in mind that this article was limited to A paper 30 year fixed rate loans, which are limited in what they can possibly accept by Fannie Mae and Freddie Mac rules. Once you get out of the A paper market and especially down into sub-prime lenders (when sub-prime becomes available again, which it will), the diversity between offerings really multiplies, as the differences they are permitted in target market cover all parts of the spectrum. Some wholesalers walk into my office with the words, "Got any ugly sub-prime today?" Other sub-prime wholesalers ask me about "people that could be A paper but are willing to accept a prepayment penalty to get a lower rate" (I don't use those much). Some want short term borrowers, and their niche is the 2/28. Some want the thirty year fixed with a prepayment penalty. The ones who asked me about negative amortization loans, I threw out of my office but they sold them somewhere. A lot of somewheres, judging from the evidence that they were 40 percent of purchase money loans locally in 2005 and 2006.

So lenders are not all the same. Indeed, every single one of them is different, and you need to shop enough different ones to find the program that's right for you, and ask lots of questions every time. Just asking about rate is not going to make you happy, as I hope I have just demonstrated. If you walk into their office, they're not going to tell you that you're not the client they're really looking for unless they just don't have any loans at all that you qualify for (and if you're in this category, do not blindly accept any recommendations they make. Most places, they're sending you to the place that pays the most for the referral, not the lowest cost provider appropriate for you).

Caveat Emptor

Original here

This is the conclusion of the series begun in The 2010 Good Faith Estimate (Page One) and continued in The 2010 Good Faith Estimate (Page Two)

Page Three is where the most blatant lies of this whole piece take place, and the first part is where they are found. It segregates the charges into three different camps: Ones that it claims cannot increase, ones that it claims cannot increase by more than 10% in total, and ones that, supposedly unlike the other groups, can change at settlement.

This is nonsense on stilts, lulling the consumer into a false sense of security.

Loan providers can low-ball every bit as much as they ever could, and this form, in my honest opinion, is the worst part of all because it explicitly states something that is not true. What it really means is that these charges cannot increase without being redisclosed three to seven days in advance of signing the final paperwork. Guess what? Crooked loan officer lies like a rug to get you to sign up, and on day 38 or 42 of a 45 day process is finally forced to tell the truth or something close to it. At that stage of a purchase, there is (thanks to other new regulations) no way on this earth that you're going to be able to get another loan ready before the deadline written into your purchase contract. You have no choice - you are stuck. And the whole concept of back up loans has been killed by changes in the market. Even on a refinance, you've spent the money for an appraisal and other sunk costs. There's no way to force them to release that appraisal to you - not that it would do any good with HVCC in effect. Net result: You're out the money and the time, and many refinances have an external reason forcing them to happen - almost all "cash out" refinances have an external deadline, a time by which the people have to have the money. People are extremely unlikely to begin the process anew at that point in the transaction, which means that the people who LIED to get them to sign up are rewarded with a loan commission, people who told the truth and are spurned by consumers because the lie looks better receive nothing and go out of business, and the federal government is an unindicted co-conspirator to the raping of the consumer by making a false promise that the liar's numbers cannot change.

We've covered how this whole premise is a lie, but let's cover the three categories and how honest loan providers are going to approach them until they go out of business

The charges that supposedly cannot increase at settlement are loan origination charges, discount charges for the specific interest rate chosen adjusted origination (which I covered in the page one article) and governmental transfer taxes. It is worth noting that even on the new Good Faith Estimate form the government does warn you that discount is changeable until you lock your loan, something that the market is trying to push as close to the day of settlement as possible by imposing high costs on brokers and correspondents for every loan that is locked but does not fund. The reality is that these charges are going to change. Until they started charging me for loans which don't fund, I locked every loan when people said they wanted it. Now I have to float the rate until I'm certain underwriting isn't going to reject the loan. If your loan isn't locked, you are at the mercy of the market even without mixing in possibly foul loan officer intentions. The closest thing to a guarantee even the best most conscientious loan officer can give in the new lending environment is "Everything but the rate/cost tradeoff I can guarantee right now - but I can't guarantee that until we lock your loan, all I can do is tell you what it would be if we locked today" Since the this tradeoff is far and away the largest determinant of the loan you will get, this amounts to guaranteeing the molehill while the mountain moves every day. It would be a useful yardstick for comparison as to which loan to sign up for if lenders had to tell the truth at loan sign up, which they do not.

The charges which supposedly cannot increase more than 10% in total are services that the lender selects, title services and title insurance, required services where you're allowed to shop but the lender ends up choosing the provider, and government recording charges. First off, on purchases trying to get escrow and title companies to honestly disclose their charges is a battle all on its own - I don't know why, as I have no problems getting "one flat rate" quotes from them on refinances. Maybe because it's because they can seduce the less diligent real estate agents by offering them help prospecting for clients, while on refinances they have to deal with loan officers who are competing on price for consumer business. But the same thing applies to this section as the previous - these charges can change without limit if they are redisclosed three to seven days in advance of closing.

The only charges that receive a completely honest treatment from the new form are the ones that the form advises you can change at settlement; These are services that you can shop for and don't have to use providers identified by the lender, title (if you don't use their selected provider), etcetera.

The one thing I do like about this new form comes next, because it tells consumers for the first time anywhere in an official publication that there is a tradeoff between interest rate and cost by telling you that there may be alternative loans available for lower cost at a higher interest rate or lower rates for a higher cost. Of course, this being the government, it misses something important - the changed loan amount or how much money you will receive from the same loan amount if you do choose the different loan.

It then gives consumers an place to write down and compare the loans they are being offered. Once again, this might mean something if prospective loan providers had to tell the truth at loan sign up, which they don't. As it is, this section serves as nothing more than another way to lull the consumer into a false sense of security about what they are being told. If the loan providers are permitted to lie about their loan characteristics and what it costs, the whole exercise becomes a competition to see who can tell the tallest tale believably. Traditional methods of comparison do not help in such an environment, as the numbers they are using to compare are fabrications told for the purpose of securing your business and getting a commission check, because by the time they have to tell the truth most people cannot change loan providers and most of those who could won't.

Caveat Emptor

Original article here