How Lenders Make Money
Alysse Musgrave has been talking about predatory lending and improper homebuying practices for over 24 years. She received a lot of hate mail and even anonymous threats from mortgage “professionals” who didn’t want their secrets revealed. Today, lenders are required to be more transparent in their pricing and loan programs, but the policies designed to protect consumers are inadequate and the majority of loan officers are undertrained order takers rather than educated financial advisers. We spend a lot of time educating our buyers before we ever really talk seriously about buying. Education is vital if we are going to eliminate predatory lending practices.
This includes fees for applications, credit reports, appraisals, processing, underwriting, document preparation, etc. These fees are sometimes referred to as “junk fees.”
Origination fees are usually 1% of the loan amount. This is simply a fee the broker charges for writing the loan.
Yield Spread Premiums
YSPs are rebates paid by wholesale lenders to mortgage brokers for writing loans that are above market interest rates. If the market rate is 8%, but your mortgage broker can get you to pay 8.5%, the wholesale lender will pay your broker an extra commission called a YSP.
Points are prepaid interest. If you are quoted an interest rate of 7.25% with 0 points, but you have your heart set on an interest rate of 7%, you could pay 1 point and buy the interest rate down to this amount.
How Buyers Can Get Ripped Off
Some closing costs are legitimate fees for services performed by a third party. Your credit report and appraisal are examples of legitimate fees – some of these fees are collected up front. Some legitimate fees, like fees for processing, are collected at closing. Are all other fees junk fees? It is impossible to say. There are an endless number of ways that predatory lenders can manipulate closing costs. They can waive most of your closing costs and charge you a higher interest rate (you still pay, of course, just not up front). They can charge you for services that are never performed. They can charge you $400 for an appraisal that costs $250.This includes fees for applications, credit reports, appraisals, processing, underwriting, document preparation, etc. These fees are sometimes referred to as “junk fees.”
Points paid for their stated purpose – to reduce the consumer’s interest rate – are fine. BUT, a dishonest lender can quote you a certain rate at the time of loan application and produce something quite different at the closing table. For example, you may be told that because of a past credit problem you don’t qualify for the best rate. You are “forced” to either buy down the interest rate by paying additional discount points, or you agree to a higher rate, in which case the broker receives a rebate in the form of a Yield Spread.
There are legitimate costs associated with loan origination and your lender is entitled to make a fair profit. To charge a 1% origination is fine, BUT to charge a 1% origination fee in conjunction with inflated or fabricated closing costs and premium interest rates could be considered excessive.
Yield Spread Premiums
If your loan officer can get you to pay a higher than market interest rate, they get a “rebate” called a Yield Spread Premium. Here’s what happens. You agree to a 30-year loan at 6.5%. Since interest rates change daily, your loan officer won’t lock in your interest rate right away. They will “float” your loan until there is a little dip in rates and then they will lock in your loan – let’s say at 6.25%. Since your loan officer has you committed to pay 6.5%, he/she will get an extra commission for selling you a loan at a higher than market interest rate. These commissions are often in the multiple thousands! An upfront and ethical loan officer would have rebated YOU the YSP or given you the 6.25% interest rate. Since the lender is not required to disclose this extra profit to you until closing, you are none the wiser until it is too late to do anything about it. YSPs provide a useful option to some borrowers. For those with little cash, YSPs make no-cost mortgages possible, one where settlement costs are paid by the lender. For those who expect to be in their house only a few years, YSPs permit a favorable exchange of higher rate for lower fees. BUT, in the hands of unscrupulous lenders, they can cost the borrower thousands and thousands of dollars.
We’ll hold your hand through all the complicated steps of the homebuying process from house hunting through closing and beyond.
Frequently Asked Questions
Here are some answers to the questions that come up most often about financing. If you have questions not on the list, feel free to drop us a line.
What Is The Difference Between Pre Qualification, Pre-Approval, and Full Approval?
Pre-qualifying is a quick call to a loan officer. You provide your income, debt, and basic financial information and the loan officer tells you how much you qualify to purchase. With a pre-approval, you complete a loan application and let the lender check your credit. You will be given a pre-approval letter to use when making an offer on a home. For full approval, you must prove that all the information you’ve provided in your loan application is true by turning over bank statements, paystubs, etc. We need you to be pre-approved before we start showing you homes. We’ll help you shop for the cheapest loan after we’ve found a house.
What is a Loan Estimate?
A Loan Estimate (LE) is a 3-page document that a loan officer is REQUIRED to give you after you submit a loan application. With the possible exception of a $20 fee to pay for a credit report, there is no cost to receive a LE, nor are you required to use a lender who sends you one. The Loan Estimate shows you what loan terms the lender expects to offer you if you choose them as your lender. It itemizes important information like the expected interest rate, loan fees, the APR, pre-payment penalties, and more.
Note: Lenders are bound by the terms and fees disclosed in this form, but not the interest rate. Interest rates can change until they are locked.
How do I get a Loan Estimate(s) – The Law ?
By law, you need to provide your lender 6 pieces of information in order to receive a Loan Estimate: Your name(s), income(s), social security number(s) for a credit check, the sales price of the home, and the amount of money you want to borrow. Providing this information triggers the requirement the lender has to send you a Loan Estimate within 3 business days, along with all of the price protection that comes along with it. In the real world, it doesn’t work this way. Most lenders give quotes on a document called a Financing Scenario or something similar. The lender is not bound by the pricing on these documents, and you’re forced to trust that the lender will honor their quote.
How do I get a Loan Estimate – The Reality?
Most lenders – even the most reputable lenders – say they won’t send a Loan Estimate until you’ve committed to working with them. These lenders aren’t necessarily unscrupulous, but they are not really in compliance with RESPA (mortgage law). In order to receive a Loan Estimate in the real world, we recommend that you send the following SEVEN pieces of information to your lender: Your name(s), income(s), social security number(s) for a credit check, the sales price of the home, the amount of money you want to borrow AND a copy of your sales contract. If a lender still won’t give you a LE, consider finding another lender. For more information, visit the website of the Consumer Financial Protection Bureau.
How much does buyer representation cost?
The simplest way to shop mortgages is to compare the Annual Percentage Rate or APR. The APR is the interest rate plus closing costs, expressed as a percentage. Interest rates offered by lenders may be the same, but the amount of fees charged to the borrower could result in different APRs. The lowest APR is the cheapest loan. Be aware, however, that lenders can ‘monkey’ with the values included in the APR. A dishonest (or incompetent) lender can exclude fees in order to make the APR seem deceptively low. This is where the reputation of the lender and having a competent real estate agent is really important.
When should I lock my interest rate?
Unless your very wise and psychic loan officer has reason to believe rates will drop, lock your rate as soon as you’ve selected a lender. If rates drop, an ethical lender can often (depending on where you are in the process) lock you at the lower interest rate. If rates rise, you are protected by your lock. There is no charge for a 30-day lock.
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