The Ten Greatest Myths In
Financing
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1. |
All
Lenders and Mortgage Companies are the Same. Aren't all Lenders required
to adhere to the same standards and guidelines anyway? |
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This is an excellent question. We constantly find that
there is a great deal of misunderstanding relating to the idea that
every lender has a set of guidelines which have basically been cast in
stone. At our office, we sometimes refer to these as “... the They
Sayers.” An example of this is “...They say you can't get a mortgage if
you've just changed jobs or employers.”
There are many different types of generic guidelines
which form the basis for mortgage approvals. In effect, these are
“rules” which lenders use as their baseline for evaluating loans. The
most popularly known guidelines are - FHA, VA, FNMA (commonly referred
to as "Fannie Mae"), and FHLMC (commonly referred to as Freddie Mac").
These guidelines and procedures change frequently and many lenders will
deviate from these guidelines in order to obtain a special competitive
advantage.
As a consumer, it is critical that you choose a loan
officer who has a good understanding of the basic guidelines. In
addition, you should seek a loan officer with access to lenders who have
the ability to deviate from standard financing guidelines. You can make
a big mistake by going to a lender who only offers one method of
financing your home.
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2. |
I'm better
off going to a lender that has "in-house" underwriting, right?
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Many mortgage financing sources will boast that they
can just step down the hall to their underwriter and get an expedient
(presumably affirmative) loan approval. This also tends to give one the
false belief that an underwriter who works within the same company is
willing to be a little more flexible.
We have found that the exact opposite is probably a
more accurate assumption. In-house underwriters seem to need to be more
cautious to avoid any implication of impropriety. Some lenders even have
a policy that underwriters reviewing branch office files must be more
strictly evaluated. In some cases, it is even company policy for the
loan officer and underwriter to avoid directly discussing a loan file.
Situations may also arise where there is a long standing personality
conflict between a loan officer and an underwriter.
Large national wholesale lenders solicit mortgage
brokers every day. Most of these lenders attempt to compete to gain our
business on the basis of service. One of the typical examples of service
is being able to talk and run what-if questions by the underwriter who
will actually review our loan files. This allows us to review any
special situation with the underwriter prior to actually submitting a
loan for approval.
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3. |
I must
avoid Private Mortgage Insurance (PMI) at all costs. This means that
I'll have to put 20% down. After all, mortgage insurance is just a waste
of money. . . I don't get anything in return. |
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Private Mortgage Insurance is required for most loans
that exceed a loan to value of 80%. Private Mortgage Insurance insures
the Lender in the event that you default on your mortgage payment and
the lender is forced to sell your property at a loss.
We are very fortunate in that mortgage insurance
companies have created a number of different types of plans. Over the
years, the cost of mortgage insurance has actually declined. It used to
be that a borrower had to pay as much as 1% of the loan amount up front
and then pay a significant amount each month. Mortgage insurance
companies now offer plans which require a very small amount at closing
together with a regularly scheduled payment each month. Deciding whether
you should liquidate some assets to use as additional down payment (to
avoid the cost of mortgage insurance) requires that you evaluate what
you loose by liquidating those assets. Many clients find that paying
other debts is better than applying additional cash towards the down
payment. Paying off credit cards and car loans may improve cash flow
more than avoiding Private Mortgage Insurance.
Sometimes it may be better to keep your money working
for you in investments other than your home. Your cash (properly
invested) in some growth or income oriented fund will earn significantly
more than offsetting the expense of mortgage insurance. In addition, We
find that most people feel more comfortable being slightly more
diversified in their investment strategy.
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4. |
I'm under
contract to buy or build a home. The closing is scheduled beyond the
normal times to lock in on an Interest rate. I'd like to select my
lender now and begin the loan process. The best way to compare different
lenders is to call around and ask what each one is offering on a normal
lock-in basis. That will give me an indication of who will have the
"best deal". |
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This is the worst way to decide what lender you should
select given this specific situation. Lenders are just like any other
business in that the product they are offering for sale is subject to
price changes which are constantly being modified by their suppliers. By
the time you get in a position to obtain a commitment ("lock-in") for a
specific rate and program you might find that particular lender is no
longer offering the best rate. Some lenders may even quote rates below
the market rate simply because they know you could not possibly lock in
at that rate.
CLA Mortgage Services deals with many lenders on a
national basis. It is not uncommon for a lender to be offering extremely
competitive rates one day. Then for no apparent reason, this same lender
may just arbitrarily decide to get completely out of the market by
raising rates. We find this happening all the time. Lenders do this for
a variety of business reasons which are beyond the scope of this
article.
The point is that you must be in a position to take
advantage of whatever opportunities exist in terms of rates. In addition
to rates, you should also consider the opportunities created by the
constant flow of new loan products. Consumers benefit by the constant
creation of new financial products. As an example, think of all of the
mutual funds looking for our investment dollars. The mortgage business
is very similar. There are new products created each week. If you are
not experienced in evaluating loan programs it can remind you of a Clint
Eastwood movie ... “The Good, The Bad, and The Ugly!” The reality is
that many of these new programs have excellent benefits which can
translate into significant dollar savings for you. You should begin your
loan process with a company and individual with the ability, knowledge
and expertise to locate a competitive rate and advise you on the most
appropriate loan program to suit your specific needs.
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5. |
It is
important to get a detailed estimate of closing costs from all lenders I
call since loan closing costs will vary widely from lender to lender.
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Costs associated with purchasing your real estate are
not controlled by the lender. These include expenses such as attorney
fees, title insurance, survey, recording fees, appraisal, and termite
inspection. These are costs which anyone will be required to pay when
purchasing a home regardless of loan amount or lender. All of these
expenses are provided by independent professionals who are not
affiliated with your prospective mortgage lender. It can be very
confusing if you compare these expenses item by item to estimates
prepared by different lenders. Based upon individual experience, each
loan officer will offer their best estimate as to what each of these
costs may be and there will be some differences between individual loan
officers.
When your loan officer prepares the good faith
estimate, they will also include an estimate for establishing your
escrow account for the future payment of taxes, insurance, and mortgage
insurance (often referred to as pre-paids). Property taxes are set by
the appropriate government taxing authority. Unfortunately, property
taxes are not negotiable. Premiums for homeowners insurance are set by
the insurance company you select. All mortgage lenders will require that
you pay your first year homeowners’ insurance plus two additional months
at closing. All lenders work off of a schedule based upon the time of
year that you close in determining how much is placed into the escrow
account at the time of closing to evaluate how many months of property
taxes need to be set aside. For this reason, your total costs for
setting up your escrow accounts will vary between lenders. The
regulatory agencies (Fannie Mae) only require you to disclose 2 months
property taxes for escrow. But, depending on when your closing is
scheduled, you may be required to pre-pay up to 11 months of property
taxes. Again, based upon individual experience each loan officer will
offer what they believe is a reasonable estimate of your monthly taxes
and homeowners insurance.
The most accurate method to compare lenders (in terms
of closing expenses) is to ask about their specific fees for: Loan
Origination, Underwriting Fees, Tax Service Fees, etc. All lenders will
offer a different set of scheduled fees and each has a tendency to
establish unique names for each of these fees. It is important to make
sure you obtain all of these loan charges and fees.
You should also compare discount points charged by
various lenders if you are considering advance payment to reduce your
interest rate. Discount points may be paid at closing to reduce the
interest rate of your loan over the term of your mortgage.
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6. |
I'm
purchasing my first home and my available investment cash is minimal.
This means that I must get an FHA loan , right? |
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There are many disadvantages to an FHA loan: 1.)
mortgage insurance is very expensive, 2.) the process can be incredibly
bureaucratic, 3.) interest rates on FHA loans many times are higher than
conventional rates.
There are also several advantages to an FHA loan: 1.)
it is possible to add some of the costs of financing to your loan
amount, 2.) the mortgage insurance premium can also be added to the loan
amount, 3.) FHA underwriting guidelines are more liberal on your debt to
income ratio (you can possibly qualify for a slightly higher loan
amount). Notice that most of the advantages increase how much you can
borrow. You are (essentially) leveraging yourself into a higher debt
position just to compensate for a couple of factors. Even if you go with
conventional financing, there is a good chance you can negotiate with
the seller of a property to pay closing costs when negotiating the
purchase of a property.
As noted previously, lenders are constantly creating
new loan programs. One of the current focal points for new programs is
related to the first time homebuyer market. Many barriers to home
financing for first time purchasers have been removed from the process
to the extent that first time purchasers should definitely examine the
benefits to conventional financing. There are even a few new
conventional products which requires only 2 or 3% down payment with the
option of the lender helping out with the closing costs and
prepaid expenses.
One thing is clear, in the long term conventional
financing will be much more cost effective due to interest rates and
higher mortgage insurance associated with FHA mortgages.
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7. |
I'm
building a new house. I need to make sure I get a "construction perm"
loan. This will avoid the huge costs associated with two loan closings.
By getting a "construction/perm" loan, I can lock in on a rate that will
be good well into the future. This allows me to take advantage of the
prevailing rates within the market at this time. |
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Doesn't this sound a lot like “... I'm going to have my
cake and eat it too ...?” There are numerous problems associated with
this approach. With some planning on the front end you can keep closing
costs to a minimum when financing your construction loan and then
refinancing your permanent loan. Most construction to permanent loans
will not make commitments to lock in on prevailing market rates for the
time required to build a new home. Even when they do make such
commitments there are limited time periods which must be met in order
take advantage of a rate. The problem with this is the fact that it is
difficult to accurately forecast a completion time when building a new
home. If your home is completed later than the final commitment date for
the loan, you will loose your interest rate and be at the whim of the
market.
If a bank offers a “convertible” program, ask what the
rate would be today if you had completed your home and were ready to
lock in to their conversion option. You may find that this rate is
significantly greater than what is available to a mortgage broker.
Mortgage rates can improve between the start of
construction and completion. Will your construction to permanent program
give you the benefit of lower rates? Probably not. The point is that it
is best to deal with someone who can offer you the most flexibility so
that you can be certain to have what is the best situation for your
specific needs.
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8. |
I've been
told that the best type of program is to get a fixed rate loan. I've
also heard that I should get a fifteen year loan if there is any way I
can manage the additional monthly expense. |
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You should get together with a mortgage consultant who
can explain the different types of loan programs. Each program may have
its own series of special benefits for you and your specific situation.
I have found that when considering such an important decision it is best
to feel as if you have explored all possibilities. It may well be that a
fixed rate is the best type of loan program. It may also be that you can
save significant amounts of money by exploring alternative adjustable
programs, balloon programs, and others. In this day and time there are
almost as many different programs as there are housing options. A few
things you should consider are the anticipated time in the home,
available asset base, current income situation vs. future income
situation, etc. It's wise to choose the most appropriate program based
upon what is actually occurring in your life at this time.
If you pay off a loan in fifteen years versus thirty
years you will obviously save a lot of money in interest expense. It is
important to note that this savings is due to the repaying the loan in
half the time. It is not due to a significant savings in interest rates.
You would expect that there would be a much lower rate since the loan
has a quicker repayment and, therefore, is a loan with less risk. In
actuality, the difference in interest rates is not that significant.
Rates on fifteen year loans may be 1/4% to 3/8% better than thirty year
rates. Payments on fifteen year loans will be approximately 25% higher
on a monthly basis.
We have had many clients sign a fifteen year mortgage
only to discover that the monthly payments are just a little too high
for their budget. If you wish to pay your loan off earlier, without the
obligation of a 15 year mortgage, ask your loan officer to provide you
with an amortization schedule which will show what your payments would
need to be in order to pay off your 30 year loan in 15 years.
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9. |
I'm
considering refinancing. I've been told that I must get a rate which is
at least 2% lower than my current rate to justify the expense of
refinancing. |
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Nobody seems to know where this mysterious 2% rule of
thumb came from. I have never found anyone who can actually explain why
one needs to save 2%. The facts are that most of this decision goes back
to what your specific objectives are for looking into refinancing. You
might be considering a home improvement. You might be trying to
consolidate some of your other debts. You might be exploring an
alternative method for financing your child's education. There are many
different reasons to consider refinancing your home loan.
The reasons for considering your refinance may
overshadow your concern over complying with some kind of guideline
you've heard about. To determine if it makes sense to consider
refinancing, you should carefully review the available options. Review
how much the refinancing transaction will cost you. Despite the fact
that you can add it “back into the mortgage” it is still costing you
something. You also need to carefully review what this potential
transaction may mean to you in terms of your monthly budget and cash
flow. Only after examining these variables is it possible to evaluate
whether the refinance makes sense for you.
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10. |
When I’m
negotiating on the purchase of my new home, I should focus simply on
buying the home as cheaply as possible and disregard any offers of
concessions for financing by the seller of the property.
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Closing Costs are a significant portion of the cash
which is required for you to purchase the property. Depending upon the
purchase price, it is possible for costs to run as high as 2% to 5% of
the purchase price. It is important for you to be aware of the costs and
determine whether you will pay for them by writing a check at closing or
have the seller pay them as part of your agreement to purchase the
property.
Most Lenders allow the seller to pay closing costs up
to certain limitations. In my opinion, this is the most overlooked
benefit buyers have at their disposal. You will be able to get much more
bang for buck if you allow the seller to pay your closing expenses.
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