Reviewing Your Adjustable Rate Mortgage

RCG’s Jillayne Schlicke was interviewed on King 5 last night…I wish her spot would have been longer.  Check her out here!  The piece is about resetting subprime adjustable rate mortgages.   King 5’s, Chris Daniels reports that locally, we’ll see around 12,000 subprime mortgages reset over the next 6 months.  Combined with lower home values and tougher underwriting guidelines, if home owners are not able to swing their new payment or refinance, may be in a tough situation. 

I thought this would be a good opportunity to go over how to determine what your new mortgage payment may be in the event you have an adjustable rate mortgage.  This does not only apply to borrowers with subprime mortgages–this is for anyone with an adjustable rate.  

First, drag out your Note for your mortgage.  

In your Note, you will find the following information that you will need in order to determine what your payment may be once your mortgage adjusts:

  • Index/Indice — this is what your rate is based on.  Most common are LIBOR, Treasury, MTA, etc.   It can vary so you need to determine this.  The index is a variable and not a fixed figure.
  • Margin — the margin is added to the index to determine what your new rate will be.
  • CAPS — caps limit how much your rate can adjust at the first adjustment, every adjustment following and provides a lifetime limit on how high or low the rate can adjust.
  • Start Date — when you started paying your mortgage.
  • Fixed period term — is your ARM fixed for 2, 3, 5… years (etc).
  • Amortization — Does your mortgage offer an interest only feature?  Do you have negative amortization? 

If your mortgage is set to adjust within the next 6 months, I especially recommend that you go through the following exercise.   I’ve been sending letters to my clients with adjustables that are set to adjust with this information:

Start Date:  May 1, 2003

Start Interest Rate:  4.125%

CAPS (first/after first/lifetime):  5/2/5 (Lifetime CAP: 9.125%)

Margin/Index:  2.75%/1 Year LIBOR – 3.16 as of June 1, 2008 (currently 3.22)

Start loan amount:  $131,500

Fixed Period:  60 Months

First Adjustment Date:  June 1, 2008 and adjusting annually on June 1 for the remaining life of the loan.

This is not a subprime loan.  Many subprime loans have much higher CAPS and margins.   This is a classic 5/1 LIBOR ARM.   This home owner has not refinanced nor do they need to.  Their rate is attractive compared to current market. 

Based on their estimated balance (assuming they did not pay additional towards principal over the last 5 years) of approx. $118,500; their rate for the next 12 months will be 6.00%.  (Index from when the mortgage reset: 3.16 plus the margin of 2.75 = 5.91.  This is rounded up to the nearest 0.125%).   6.00% is a pretty good rate for not having to pay closing costs to refinance as long as you can tolerate the annual adjustments (which may work in your favor or not).   Their pricipal and interest payment will be approx. $763.50. (balance at adjustment/projected interest rate/remaining term of 25 years).

On June 2009, the highest this rate can be is 8% since there is a 2% annual cap.  The lowest the rate can be is 4%.  The most the rate can change on the anniversary of the change date is up or down 2% from the current rate.  It can never go beyond the lifetime cap of 5% plus the Note rate (9.125%) and it can never be lower than the margin of 2.75%.

How will your ARM treat you?  It all depends on the term of your Note and what the Index is when it adjusts.   This reset I’ve reviewed here is prettier than most–especially compared to subprime.   With FHA and Conforming Jumbo loan limits being reduced at the end of this year, I would consider meeting with your Mortgage Professional sooner rather than later if your ARM has you feeling itchy.

This entry was posted in Mortgage/Lending and tagged , , , , by Rhonda Porter. Bookmark the permalink.

About Rhonda Porter

Rhonda Porter is an NMLS Licensed Mortgage Originator MLO121324 for homes located in Washington state. Her blog, The Mortgage Porter, is nationally recognized for sharing relevant information to consumers about mortgages. She has been originating mortgages since 2000 at Mortgage Master Service Corporation #40445 Consumer NMLS Website: NMLS ID 40445. Equal Housing Opportunity. You can follow Rhonda on @mortgageporter, Facebook and/or Google+

110 thoughts on “Reviewing Your Adjustable Rate Mortgage

  1. Thanks, Courtney. I’m hoping more consumers will be proactive with their mortgages. Often times, by the time they call me (or their lender) it’s really difficult to do anything for them.

    It’s so important to be “ahead” of the game.

  2. Ok, I just watched the clip, that looks like 12,000 for the entire state, and over the next 6 months, not all at once. 2000 a month for 6 months, in a State with how many homeowners?

    It’s serious, but it doesn’t seem like our numbers are very high, compared to other areas in trouble. And, resetting doesn’t mean 12,000 foreclosures or short sales as a given result.

  3. leanne, the numbers are increasing and this is only resets. I’d like to see the actual data–is it all ARMs resetting (non-subprime too) or are they just talking subprime?

    Even if the numbers aren’t high–it does mean more foreclosures or hopefully home owners can refi or get a loan modification done w/their existing lender.

  4. Nice job Rhonda.

    I have conversations with borrowers like this several times a week.

    Some folks that have an adjustment coming soon, into a favorable rate ARE choosing to refi, in anticipation of higher rates down the road, while some are standing pat, and enjoying their low payment.

    Most importantly, it needs to be THEIR decision, and their prediction of future rates that drives tht decision.

  5. Thanks, Roger. Yah…some folks who were comfortable with their ARMS at the creation of their mortgage are now not. And some have had “life” pop up to cause them to change the plans they had when the mortgage was originated.

  6. What’s the status on no doc jumbo refis for those of us who are self employed but with sporadic income? Are they going to still be available these days if I have alot of equity in my home and 750 credit score.

  7. Mike, you may have some luck if you’re not needing to take cash out. No doc/cash out Jumbos are hard to come by unless you’re interested in paying higher rates. “a lot” of equity could mean many things depending on what’s going on in your market area….declining market?

    If you have to fully document your income, an underwriter would typically take two years of tax returns and look at the cash flow. Perhaps averaging your annual income over the past two years. She would also consider what line of work you’re in and the prognosis of that income during recessionary times.

    If you have lots of equity and can’t find a bank or credit union to take your loan, and you HAVE TO refi, you might try a hard money lender. Rates and fees will be higher and they’ll spend a lot of time analyzing your real property and the equity position and less time documenting income.

  8. Mike, the other thing that comes to mind is FHA. If your income is sporadic but you have a long history of being in this same industry, you may be able to find a lender that will average out your income annually. Cash reserves: If your income is up and down, FHA underwriters will look at the big picture: Does this person have a long history of paying bills “as agreed” even though his income fluctuates? Does he have cash reserves? Can he prove a history of saving cash reserves in order to make up for the down cycles?

    I like your credit score and equity position. FHA requires all four Cs

    Character (credit history)
    Capacity (income)
    Collateral (home value)
    Capital (assets)

    You have two of the four. If you have cash assets as well as a work history that can show a long-term average income, you might just be a good fit for an FHA loan…..provided you’re not over the loan limit!

  9. Hi Leanne,

    The FIRST thing I said during that interview was, “First of all, we must understand that not all these subprime loans are going to default.”

    But that was edited out. Oh well.

    Subprime loans are defaulting at a rate of 30-40%. This is way, way higher than any bank ever could have planned for. The real story here isn’t that foreclosures will rise…..of course they will.

    The story is that banks didn’t set aside enough money to cover their losses.

    Prime and Alt-A loans originated in 2006-2007 are performing horribly.

    This whole thing is going to take many years to unwind and not all homeowners will be able to refi or obtain a loan mod.

  10. It occurs to me trying to offer lending advice in this type of forum is kind of like offering couseling via Dear Abby! Entertaining, yes, but not always useful, because we may not understand the problem.

    Mike, sporadic self-employed income is not necessarily a problem, (you may be paid $500K once a year) but adequate documentable income could be.

    Consult a professional.

  11. Jillayne:

    I cannot imagine ANY bank could set aside enough reserves to cover 30-40% default rates on anything but payday loans.

    In suspect that in the worst times of my lifetime, subprime defaults never reached those depths.

    The bigger story is whether banks can survive a 5-10% default rate on Alt A and Prime, when projections were never imagined above 2%.

  12. Jillayne, you’re touching on a great point, often times borrowers assume that they have to go “stated” or “no doc” not realizing how their tax returns are viewed for finding income. I’m helping a self employed borrower right now who thought they were a candidate for stated and in fact, they qualify for much more than they need by going full doc w/their last two years tax returns.

  13. I find the whole discussion of “sub-prime”, “alt-a”, and “prime” very confusing. I have heard some comments to the effect that they ONLY refer to the credit score of the borrower (i.e. sub-prime borrowers have lower credit scores than prime borrowers). Yet, I have also heard some talk about how certain TYPES of mortgages were only sold as sub-prime or alt-A (e.g. 2/28s, etc).

    What is FAR more interesting to me understanding the TYPES of loans made rather than what the credit scores of the borrowers were. For example, a person with a lousy credit score who has a conventional 30 year fixed mortgages is MUCH less likely to ever default than someone with a fantastic credit score who bought a home with 0 down and a negative amortization loan.

    All the focus on “sub-prime” just confuses the issue. What I would REALLY like to understand is what types of loans have been available to the different classes of borrowers (i.e. were 30 year fixed loans even possible for people with poor credit), and what the distributions of these loans in the Puget Sound were (e.g. how many prime borrowers got neg-am or 0 down loans?).

  14. Sniglet,

    What really surprised me was running into clients who (I speak only to the number our office closed) had really decent credit who were sold into loans with PPP’s, etc…that really, in my opinion, did not have to be. You can draw your own conclusions as to why.

    We are still having refinance transactions delayed due to pre-payment penalties: in other words, waiting for them to expire to eliminate having to pay thousands of dollars. Unhappy campers out there.

  15. Sniglet,
    someone w/a subprime loan currently may have had the following options for financing (assuming the LO provided options and didn’t steer to a specific product):

    Fannie and Freddie did low credit scores w/higher LTVs but the rates were much higher…these were called “expanded approvals” and had various degrees EA-1 (not as bad) to EA-3 (not so great).

    FHA was often a great resource if credit was clean for the past 12 months. LO’s w/out FHA may have steered buyers to subprime instead of being honest.

    All types of Alt-A products would include: stated income, stated asset, no income, no asset, no employment. These programs fit borrowers where a portion of what would be needed to qualify for “a paper” or “prime” was missing or not easily documented. Often times, borrowers assume they need stated and won’t qualify for full doc…and sadly, some LOs don’t know how to read tax returns and just took the easy way out by stated or NIV.

    Subprime–IMO there are varying degrees in this pool too.

    I’ve always said, there are subprime loans and there are subprime borrowers–these are two different issues.

  16. Tim, are you seeing any lenders forgiving prepayment penalties? Some were required by lenders (subprime), some were able to be cashed out but the borrower opted for the lower rate/lower cost (if the borrower even knew they had a choice, if avail) and some were lining the LO’s pockets [pukes]

  17. At the end of June, Wachovia, which bought World Savings (Pick-A-Pay Option ARM), quietly announced that they were unilaterally forgiving ALL prepayment penalties.

    I was shocked that this was not big news, and I know of no other lender that has follwed suit.

  18. Ok. So it is possible for a person with poor credit to get a conventional 30 year fixed loan (via FHA, for example). What about the Prime category?

    Is it possible for people with great credit to get neg-am, option-arm, 100% financing, stated income loans? What about loans with teaser rates (i.e. really low starting rates that ratchet up later on)?

    Like I said before, I am wondering if the loan type might not be a better indicator of default probability than the credit score of the borrower. I’ll wager that the ARM loans are defaulting at higher rates than the conventional FHA ones for people with poor credit.

  19. Rhonda:

    For the first 4 years of my loan origination experience, I did not have FHA available, nor did the majority of LO’s, judging from the minute percentage actually closed in the years from 2002 thru 2007 (including banks and brokers).

    I do now.

    However, I was honest the day I began in lending, and I still am today.

    I did not have the information at that time to provide an evaluation of the merits of FHA vs the loans that were available to me, but relied on the information provided by my employers.

    Rhonda, I know our experiences differ, and that our current attitudes are similar, and while I agree that there were (and are) dishonest LO’s out there, it would be fairer to say that many were simply mis-informed, or even possibly misled about the plusses and minuses of an FHA solution, rather than to assume they were all dishonest or greedy.

    I’m not sure even now if any of the loans that I did do would have been better as FHA or not, but I am sure there were cases where an individual borrower would have been better off choosing a subprime loan instead of an FHA loan, if one were to factor all of the circumstances surrounding the decision, the loan terms, and future plans.

    Keep in mind, I agree that we would in much less difficulty today if there had been more FHA loans and less subprime loans from that period, but there is no turning back the clock now.

    I know…me defending subprime loans is as awkward as McCain defending GWB…but even Obama acknowledges that George got a few things right! 🙂

  20. Sniglet:

    I think your premise may be right, but it would be highly dependant on local home prices, and other economic factors.

    I’m not sure there is a comprehensive source of data for loan type and parameters by area, at least I have not found it. Instead we get dribbles, parsed out in support of one theory or another.

    I’ll try to bring them here when I find them.

  21. Roger, I guess you just proved a point I make over and over… anyone buying a home should make sure their LO has experience w/FHA financing and that the mortgage company is HUD approved.

    I’m working w/someone right now where the LO told them that the FHA limit w/Nehemiah is $417k for King Pierce & Sno County… guess what…they’re not HUD approved.

    The only way for a borrower to know that they’re having all possible financing solutions presented to them is to work with someone who has all the products available and/or who will be upfront and say “hey, I know you’re a FTHB (or have less than 20% down)…you might want to consider FHA–we don’t have it.”

    The more LO’s stop thinking about their wallets first (like w/collection fees for referring people for loan modifications when HUD can do them for free) the sooner our industry and reputations will heal.

  22. Rhonda said: “Are you talking now are then?”

    Mainly “then”, but now as well. Like I said, I would like to know the distribution of loan types across borrower classes. What percentage of existing Prime home owners have neg-am loans? What percentage of existing subprime borrowers have 30 year fixed loans?

  23. Rhonda:

    Re #28, points 1 and 2, agreed, ask if your LO has experience and what variety of products and lenders they can offer, including FHA.

    Sadly, no one loan originator today in wholesale or retail has ALL the options available. For instance, you and I cannot offer WAMU or BOA, as they have left the wholesale market. Many brokers do not, or cannot, carry all of the available lenders, and many retail LO’s cannot, or will not, offer competing products that are clearly superior to their captive products.

    As to minding our wallets, it’s important to remember that you and I both need to earn a living, and that our service, expertise and ethical behavior is worth paying for.

    Life is about balance.

    BTW, have you tried to call HUD re loan mods to see if you get the kind of service one would expect for free, vs the kind you pay for?

    I mean, you and I CAN get free legal or financial advice I suppose, but if my family’s security was on the line, I wouldn’t mind paying for good advice.

    I think I’ll try calling the HUD line….

  24. Sniglet, I don’t have stats (re 29)… I’m working on rates right now…don’t know if someone else has reliable stats for you (seems like Seattle Bubble posts those figures often).

    Roger, let us know what the HUD councelor says…I know Jillayne referenced it in her last post.

  25. Thanks for the responses. My arm doesn’t reset for 5 more years so just curious and wanted to throw out the ? to the professionals here.

    Based on my tax bill this year I would have about 40% equity in my house ( in North Capitol Hill.) My income is sporadic since its all from investments. This year is not a good year so far obviously. My loan amount right now would be 880k so above the new jumbo limits. I have more than enough money in the bank to cover this loan actually but they wouldn’t consider cash on hand in this equation, correct? Let’s say I have 100k in income this year from dividends and interest. Would I be screwed if I had to refi right now?

  26. Sniglet,

    On a case by case basis I can see Conventional vs. FHA. I can see sale price vs. amount borrowed to calculate % down. I can see if they borrowed against the property as a cash out refi after purchase. But I can’t see type of loan.

    From what I am seeing, it would appear that areas that had the most zero down loans during high appreciation years, are having the hardest time as to volume down and prices down. Those areas that had minimal zero down loans are also not as impacted as to volume of sales down YOY, and prices are down to a lesser degree as well.

    Example, if an area had 50% zero down purchases driving prices up, those areas are down 70% as to volume and 15% to 20% as to price and falling faster. If an area had 15% zero down purchases during the appreication years, those areas are down 10% to 20% as to volume and 5% to 7% as to price.

    I wasn’t following this thread, just saw Rhonda looking for someone to jump in with some info. Hope that helps.

  27. Mike, depends on what your current rate is. I would “guess” that in 5 years, you may have more options if you’re planning on retaining the home. The rates that I have quoted above for JUMBO would have hits for cash out refinance and are based on full doc.

  28. Thanks, Ardell. 🙂 I appreciate the help! I had an accident last night while tripping over my old blind Pug in the kitchen. My face met with a low marble counter and the counter won. I’m stitched back together right now…but a little worn out. 😉 I feel really lucky because it could have been worse.

  29. Ardell,

    That’s really interesting! Is there a way for you to publish a break-down by area as to what percent of homes were purchased with 0 down? A super-bonus would be to see the percentage of homes with cash-out refis too.

    I don’t ask for much. 🙂

  30. Mike,

    At those low LTV levels and high liquid asset levels, I’m sure there’s a lender out there, at a decent rate.

    Your situation probably never was cookie cutter, and probably won’t be again, and you may have limited lenders to choose from, but I don’t think you will have trouble finding financing in 5 years, or now, for that matter.

    As I slog through my loans today, I MISS low doc options. People have the wrong idea about them as well. For most of the loans I did as limited doc, the pricing was the same as full doc, just less paperwork, as long as you had low risk profiles.

  31. Sniglet.

    I’ve done it before on a small scale, and do areas over time to give me a broad knowledge base. But it is enormously tedious work, so I do it on as “as needed” basis. Often I do it the way polls are done with a random sampling or by neighborhood. I may take three neighborhoods and assume that the sampling is reflective of the area overall.

    For instance I might do English Hill and Abbey Road vs. a large area in Auburn or Federal Way. I tend to go from one extreme to another to come up with

    I have time this holiday weekend. What would be the one area you would have the most interest in as to this type of breakdown and comparison? I tend to compare the ones I know are down the most as to volume vs. not down much as to volume. I won’t do an area I have never been to…like Bainbridge (Sorry E.)

  32. Thanks Rhonda and Roger for the replies and sharing your expertise. I wouldn’t be doing any cash out, just refi whatever I owe on previous mortgage. I will keep reading posts here and keeping abreast of the changing market until it makes sense to pursue a refi. I’m at 6.5% for now so all is still well for time being.

  33. Ardell, if you’re taking the time this weekend to look at those stats, it would be quite interesting to add another layer (of work, if you have time) and see of those sales how many had a buyers agent and how many did not (ie, buyer either bought from listing company w/no representation, or bought acting as his own agent, or a FSBO sale). I have no idea if the stats on that would be the same as for all sales, or not. And, are there more foreclosures in newer construction condos than in single family houses?

    One thing that bothered me a lot ‘back then’ was the number of buyers who contacted me as a listing agent to view my listings, and who were not getting any real estate advice on what they were doing except via internet or their friends. Only one actually bought my listing, and he did use an agent, but of the others, some of the things they told me were crazy :-). I mean, ‘flip this house’ in 3 months crazy! One buyer told me how he was having his employer jack up his income so he ‘looked good on paper’ … unbelievable the things some would tell me, a complete stranger, and the sellers-agent.

    And I realize of course that just using an agent doesn’t mean things get handled properly, but I do think that using an experienced agent to help guide the choices, and often the lender choices, is smart for buyers. How many of us (agents) have had a buyer come to us fully approved with a lender we either never heard of, or after talking to them, are convinced they aren’t competent? Most of the time, the rates and fees were in the ballpark, but it was the competence level that would be my concern. I like to be able to sleep at night and know that my buyers are working with a competent, honest lender, which means I like to either know that lender, or have a lengthy conversation with them. The good lenders welcome calls like mine, the sketchy ones get defensive, and rude :-).

    Every single sale that had troubles during 2004 – 2006 in my files had a lender I had never heard of, and who messed things up during the process. Lots of promises from those lenders and definite lack of delivery … I actually never did any zero down loans with my own buyer-clients during those times, but when a buyer would come along with an offer for my seller-client, sometimes we did see them. After 2 really messy ones, I told all my furture sellers that if we got an offer from a zero down buyer, we’d wait a day or two and see if we didn’t have a buyer with a better financing package come along to work with. I was so wary of those 0-down loans because in my experience, they meant 0-likihood-of-closing-loans.

    I’m still shocked at how many of those loans across the country there were.

  34. Rhonda and Mike:

    I respectfully disagree.

    Your situation has the potential to be improved, but there is insufficient information exchange (your goals, your qualifications, available solutions) in a forum like this to know for sure.

    You run the risk of missing an opportunity, depending on your goals.

    Consult a professional.

    A forum such as this, while I highly treasure it for it’s timeliness, relevance, and integrety, is not the same as consulting a mortgage professional for an individual assessment.

    The great unknown in this matter, is whether interest rates will be higher or lower in the years to come. I have heard strong arguments in this forum for both.

    My job (Loan Originator) is not to be a long term interest rate prognosticator, but a mortgage solution finder.

    Since you are an investor, I’m sure you hear similar arguments pro and con for investment strategies or stock picks.

    The motivations for the experts making those arguments vary: media attention (to sell advertising), driving commission based transactions, selling investment advice, and are not necessarily bad.

    It is up to the individual to consider the evidence and the source, decide, and live with the decision.

  35. Roger, I think you’re missing my point. Mike says he has a 6.5% rate fixed for 5 more years. He does not want equity out. His goal (if I understand correctly) would be to reduce his rate. With our current market, he is better off not refinancing at this time.

    This advice is given without having the advantage of knowing the nitty gritty of Mike’s financials and is based solely on what’s been commented on this post.

  36. leanne, I’m surprised how few listing agents contact me from preapproval letters–if I were a listing agent, I would always contact the lender–just for introduction and to do a “smell test”. 😉 I would be concerned about any LO who was immediately defensive.

  37. Rhonda:

    We often miss other’s points. That is not a reflection on your abilities or mine. It’s a complicated world we live and work in.

    We often miss opportunities. Happens to me all too frequently. You pointed that out to me the other day, (thank you again, by the way) where I could have salvaged a loan opportunity.

    So, for the edification of the readers that care (that could be just you and me, but let’s dream big), let’s examine my point, and then deal with a hypothetical benefit for Mike.

    First, consulting a mortgage professional.

    You and I are professionals, but we are not alone. There are many that are as good as you or I, and that hold similarly high ethical standards. We would both like to believe that no one is better, but to think so is dangerously hubristic.

    Borrowers get preconcieved notions of the state of the mortgage market, based on advertising (some true, mostly not), supposedly unbiased news and expert opinions from the various media, and by word of mouth.

    While SOME borrowers may be hurt by consulting a mortgage professional, (such as being talked into a transaction that only benefits the mortgage person, or getting inaccurate information), but I believe that the majority benefit by such a consultation. Generally, the wiser the borrower, the better chances of a resulting benefit to the borrower.

    Borrowers that think they can better their situation, need to consult one on one with a mortgage professional (and treat the LO ethically), because the above sources are simply not adequate to assess an individual situation, and are often flat wrong even on general information.

    So, let’s propose a hypothetical improvement for Mike.

    I will use a REAL rate sheet, but insert the missing data (hypothetical) for his qualifications, and assume his goal is to simply save money over the next 5 years.

    Known/Assumed Qualifications:

    Home Value=$2,200,000 (880K/40%)
    Loan amount=$880,000
    Liquid Assets= at least $880,000
    Current loan resets in 5 yrs, currently at 6.5%, other terms unknown

    Hypothetical Qualifications

    FICO = 800 (he’s rich and smart, why not?)
    Other debt= $0 (why would he carry un-leveraged debt, with that much underperforming liquid assets?)
    Current loan payment = $5,562.20 (while Mike does not tell us, let’s assume it is fully amortizing)
    2 yr averaged income=$150K/yr supported by tax returns, he says this is a poor year, so it is reasonable to hypothesize a better one previously.

    Hypothetical Solution

    Loan Type= 5 yr ARM, not interest only
    Rate= 5.875%, no loan costs (paid by broker, except prepaids), one year prepay penalty, APR 5.73% (don’t get me started on how worthless APR is on ARMS, that’s a whole ‘nother post), rate may change until locked, no escrow account.

    Payment= $5,205.53 ($880K at 5.875%, payment does not include taxes or insurance)
    5 year savings= $21,400 ($356.67 x 60 mos.)

    Mike does not specify the loan type he desires, nor his goals. I cannot (nor could anyone at this hypothetical juncture) promise underwriting approval for Mike’s loan, but at this low of an LTV, it is a fairly low risk loan for a bank, and they are hungry for those, and the hypotheticals fit the guidelines.

    While a 30 yr fixed may be Mike’s goal, the proposed solution puts at least $21K in his pocket, and does not worsen his current rate protection of 5 yrs, and minimizes his costs in this transaction.

    There are other plausible scenarios that would improve his situation, and many that would not.

    And so I conclude, and you, (Rhonda) echo this on nearly every post that I have seen you write;

    Borrowers, consult a mortgage professional.

    Realistically, while there are fewer of us, the Darwinian effect of the market means that the ones that remain are, on the whole, better qualified than they were 2 years ago.

    With the ongoing efforts in forums like these, we will continue to improve the level of professionalism loan originators and related real estate fields.

    Frankly, I think the mortgage profession has a ways to catch up to the other fields, but that’s a different story.

  38. Rhonda, # 45, I cannot believe more listing agents don’t call the LO for the buyers!!! When I have a buyer making an offer, I really like it when the listing agent calls the lender we’re using — since I know they will be happily reassured, and know the transaction is solid.

    If I know the other agent, and they tell me they have worked with a particular LO for a long time, then maybe, just maybe, I might not be so quick to call. But if the offer coming in for a seller client is written by an agent that I don’t know, or is written sloppily (sigh), or has a low down payment, or any of a number of red flags, the first call I make is to the LO to talk turkey.

    And, when I don’t like what I hear from a buyers LO, I’ve actually had my seller counter in writing to the buyer that the buyer use lender B, C or D instead of lender A. If I’m going to suggest that they must change LO’s, then I feel it’s fair to give them 3 choices.

    Many times I’ve given a LO the ‘benefit of the doubt’ and had all my suspicions turn out correct. This year, more than many other years, the details are critical, and I want to know for sure, that the LO is on top of every teensy little detail :-).

    I realize that we have lots of lender surprises going on, but a good LO will definitely be able to converse with me intelligently enough for me to see if they know what the heck they are doing, and to feel secure that they pay attention and don’t pass their work on to some underling who doesn’t know what’s what.

  39. Roger, I tend to avoid prepayment penalties all together. And your scenario suggests that maybe I shouldn’t…but what if “life” happens to the borrower and even if they were PLANNING on staying in the home beyond the 12 month prepay period, but they suddenly have to sell or need cash out to refi…BAM. They just lost 6 months of interest (I’m assuming this is the amount of the prepay in your scenario).

    I don’t include loans with prepays when I’m reviewing possible options with clients…perhaps I should–it is there choice and as long as they fully understand the risk…. I just don’t like ’em.

  40. leanne, I’ve heard of listing agents having their preferred LO review the preapproval letter and/or application of a borrower working w/an unknown lender…but having a seller (really it’s the listing agent) counter back w/3 other lenders they must use is a first for me!

    RE Comment 47: “And, when I don’t like what I hear from a buyers LO, I’ve actually had my seller counter in writing to the buyer that the buyer use lender B, C or D instead of lender A. If I’m going to suggest that they must change LO’s, then I feel it’s fair to give them 3 choices.”

  41. Rhonda, I had 2 nightmare transactions that didn’t close, in 2006. Both the lenders as well as the other agents were both new, and didn’t do anything ‘right’. The agents were difficult to reach, their brokers invisible; the lenders were quite easy to reach, but never gave a straight answer. The LO’s actually were both very nice, but just had no training or seemingly anyone at their company to jump in and help. It was extremely frustrating, and we stayed n one transaction a couple of weeks past where we should have, just because the LO begged me for more time.

    Being nervous about the skills of the parties involved is a terrible thing!

    Very soon after that – I got another offer on a listing that was so poorly written, but had a really nice agent who asked for help (instead of resisting it), and told me this was his first sale. The buyers had found the lender on the internet … not even a local lender. When I called the lender, there was no one person assigned to the file, anyone who answered the phone could look it up on their computer … and they couldn’t find the buyer at all in their records. There was a loan approval letter written, I had the copy, but zip! They apparently lost the file!

    I re-wrote the PSA, got it all signed and as part of the sellers counter we gave the buyer 5 days to choose one of the 3 lenders, make formal application, etc. It closed, smoothly, and the new agent got paid, learned something in the process, and also learned about the wisdom of making sure buyers talk with competent, local lenders prior to making an offer.

    I just hate it when we feel as agents that we have to allow anyone the buyer chooses as a lender to handle the most important financial aspect of a transaction — we don’t actually have to. We can suggest to our sellers that there is a solution and counter the offer the way I did.

    The buyer is free to not accept that counter, and go buy something else.

    Certainly this is a rare situation, but seller clients need to be confident that the people involved won’t drop the ball, and do know what they are doing. Buyers need to understand that choosing the best friend from high school may not be enough of a reference for a quality lender, or that working with an online lending vendor may not result in a timely closing. At least with a local lender, one can go knock on their door and find a real person!

  42. Rhonda:

    Regarding prepay penalties.

    Sure, I too am generally against prepayment penalties, UNLESS THEY BENEFIT THE BORROWER!

    Pardon the shouting, but I am sick of lenders, brokers and originators saying they never did certain practices, like it’s some kind of badge of honor, even if the practice benefitted the borrower!

    A prepayment penalty makes GREAT sense in this hypothetical scenario, and in many others.

    Of course prepayment penalties have been abused. So has morphine, but no one is suggesting we don’t use it on the battlefield in the hands of trained medics.

    The prepayment is needed if the broker is to pay ALL of the costs of the transaction, for two reasons.

    1. The lender requires a prepayment penalty whenever the rebate is larger than 1%. I think this is an excellent policy, incidentally. The prepayment penalty is 3% of the outstanding balance.

    2. The lender would require repayment of all the rebate paid to the broker (if the loan ended earlier than 1 year), thus the broker would be out all of the compensation for his work AND 3rd party costs.

    If Mike envisions a scenario that the loan would end in a year, then of course it does not make sense to do anything AT ALL. That did not seem likely with the evidence presented (why even look or ask, if you think you would end the loan in less than a year).

    So, let’s look at the same loan as above, with no prepayment penalty. As I originally stated, there were many other good solutions to consider. BTW, I would ALWAYS present a no pre-pay option, and divulge exactly what the prepayment penalty is.

    The rebate would need to be lowered, so Mike would need to pay some, or all, of the loan costs. On the plus side, his rate would be lower, too. On the minus side, he’d have loan costs to recover.

    Let’s look at

    Hypothetical Solution #2

    Loan Type= 5 yr ARM, not interest only
    Rate= 5.75%, 3rd party loan costs paid by borrower, hard to estimate on the fly for this loan size, but for this scenario let’s assume $3,000 (title, escrow, appraisal are all higher costs at this loan size, includes lender’s underwriting fee), no prepay penalty, broker compensation to come from lender, APR 5.79%, rate may change until locked.

    Payment= $5,152.95 ($883K at 5.75%, payment does not include taxes or insurance, I increased the loan amount to cover closing costs)
    5 year savings= $24,555 ($409.25 x 60 mos.)

    contrasted to Hypothetical Solution #1

    Hypothetical Solution #2 has a greater monthly savings of $52.58. Divide the loan costs of $3,000, and you break even (recover the additional costs) at month 57.

    Paying loan costs is a form of a prepayment penalty…that is, you strand the costs of the loan transaction if you do not stay in the loan long enough. In this case, if he refinanced in month 12, we would lose $2,369.04 ($3,000 – 12 x 52.58).

    I hypothesized (though I did not originally write it down) that Mike truly wanted a 30 yr fixed, and that sometime between month 12 and month 60, an attractive scenario would occur to enter into a 30 year fixed, and he would not wish to strand the investment in loan costs.

    This is why I state again…Consult a professional. There are multiple possible treatments for every problem, and it is important to go over those solutions with the borrower, so we can truly understand what matters most to them, and what solutions may be available. We all want easy, fast answers to important questions, but usually they are not sufficient.

    Borrowers, consult a professional

  43. Roger,

    3% prepayment penalty on $880k = $26,400. I could never advise that for a client…even though the prepayment period is just one year, if something unplanned happened, Mike would be screwed out a chunk of change.

    You state: “If Mike envisions a scenario that the loan would end in a year, then of course it does not make sense to do anything AT ALL” the key word here is ENVISIONS.

    Often times people don’t envision a job transfer/opportunity, illness or other reasons they may need to sell or obtain cash out for an emergency purposes.

    My original advise to Mike, and others with loan amounts over $567,500 is to check out credit unions for more competitive rates in the true jumbo market w/out prepays.

  44. Mike could take cash out with a 2nd loan, or liquidate another investment.

    Why would Mike NEED to sell? I agree he might WANT to sell, but that is different from needing to sell.

    OK, say he moves. He puts the house on the market, does not get an attractive offer, and rents it out, until he can sell. Pretty common in today’s market.

    He cannot lose a job he doesn’t have.

    If he gets ill, he liquidates other investments to make the loan payments.

    OR, he gets an incredible offer, and sells above market value, and still wins, even with the prepayment penalty.

    So, maybe the credit union or a retail bank is a good scenario, I don’t know, I cannot offer those solutions. Maybe it’s better than what I proposed, in Hypothetical Solution #1 or #2. Maybe it’s not? Maybe they would have a prepayment penalty too, or their loan costs could be higher, or interest rates higher, or loan parameters more restrictive.

    But I still think both solutions presented (one with a prepayment penalty, and one without) were worthy of consideration, and would consider both carefully for myself, as well as any client.

    A credit union could not likely provide the range of options you or I could offer, as wholesale mortgage brokers, with our access to multiple lenders.

    And, like you, if a different lender, be it retail, or wholesale, presents a clearly better solution for the borrower than what I have available, I would recommend that my client take that route.

  45. Hoo Boy:

    Rhonda recommends a credit union. Normally, banks and credit unions at least advertise legally.

    Today, (9-2-08) I am looking at an ad in the Seattle Times, advertising a 6% Rate, 6% APR from a credit union, pg D3.

    30-year Fixed-Rate Mortgage
    Jumbo rates same as conventional!

    I’m suspiscious…, so with great difficulty, I read the fine print.

    Guess what? It’s a 5 year ARM.

    Even a 9th grader would recognize that is deceptive, thus illegal advertising.

    How can we stop illegal and deceptive advertising?

    First, borrowers must stop rewarding the behavior.

  46. Pingback: A Word on Friday Rates | Seattle Real Estate ~ Rain City Guide

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