The Fed’s new GFE Helping to Insure Consumers Get ‘It’?

[Editor’s Note: I’m excited to publish this guest post from Adam Stein on changing role of good faith estimates. He’s a long-time local mortgage professional with Cascade Pacific Mortgage. ]

ftc screengrabThe FTC study reported on the proposed new Good Faith Estimates early on in 2005. Armed with a very thorough and unbiased study the FTC went on record, early and often, and clearly stated the FTC’s position on (then) HUD’s proposed revised Good Faith Estimate:’ DON’T DO IT!’ It seems the FTC’s findings clearly showed that consumers failed to be able to choose what loan was in their best interest when comparing rates and fees. [here’s the FTC’s Facts for Consumers: Looking for the Best Mortgage: Shop, Compare, Negotiate] So much was the confusion caused by the new Good Faith Estimate that over sixty percent of the consumers could not identify the best loan for them when comparing Good Faith Estimates generated by mortgage brokers and mortgage bankers. HUD, not to be outdone, quickly came to their own rescue with their own ‘not-so-unbiased’ study. HUD, supporting their own, quickly produced a study stating that the consumer really does understand the new disclosure (Really?).

And so the battle over RESPA reform has been waged for the better part of the last ten years. At one point the Secretary of HUD attempted to ‘slip RESPA reform under the mat’ by submitting the proposed rule just hours before Congress went on recess. Those who would have been impacted by the rule change clearly and accurately viewed this effort as ‘under handed’ as much of the required ‘commentary period’ passed by without any representative government in session to discuss the proposed RESPA reform. That effort failed in the end. The banking special interests, however, have finally figured out how to get a Good Faith Estimate through the rule making process under the guise of ‘what you can’t buy in an administration you’ll just have to do yourself’. Enter the Federal Reserve Board.

While the FRB sounds like a branch of the Federal Government it really isn’t. The Federal Reserve is a codified, private sector, coalition of the nation’s largest banks and finance companies who collaborate and advise government on key financial issues. The Federal Reserve Board also is empowered to regulate the Truth-in-Lending Act (TILA) and promulgate rules as required. Is it any wonder that the new Good Faith Estimate, vilified by the FTC for creating consumer confusion, creates a bias towards Good Faith Estimates that are generated by banks over those prepared by mortgage brokers?

My concerns are twofold: if the consumer can’t properly identify the best loan they will pay more; if mortgage brokers appear less competitive due to the disclosure of indirect compensation the mortgage broker channel will be reduced if not eliminated.

Mortgage brokers were initially the scapegoats of the ‘mortgage meltdown’. More recently, however, the broader aspects of derivatives and the role played by Wall Street and the nation’s largest investment banks have come to light. I find it ironic that now, after the creators of toxic assets have been exposed, that the FRB will promulgate rules that make their disclosures deceivingly more appealing to consumers. In the end the rule will hasten the consolidation that is already occurring in this battered real estate economy. There will be fewer choices for the consumer to choose from, moreover; when the consumers do choose their mortgage over sixty percent will choose higher rates and fees thanks to the new disclosures. Way to go FRB – You have successfully reduced, if not eliminated, competition in the mortgage marketplace and virtually guaranteed the mortgage shopping consumer will get it ‘in the end’.

Good Faith Estimate – Protecting Your Earnest Money

Protecting your Earnest Money Deposit starts before your offer is written.  I highly suggest you do the following, before going out to look at homes for sale. It’s a little unorthodox, but very effective.

1) Ask your lender to base your pre-approval on the current interest rate PLUS.  I’d say +.50% to +.75% at this time.  Use the higher number if the going rate is 5% or less at the time of the pre-approval.  If the going rate is 5% (rates move in 1/8ths) have the lender qualify you as if the rate is 5.75%.  Give yourself a little breathing room for rates to fluctuate while you are looking at property and making offers.  You don’t want the fact that rates are moving up, to stress you into making bad choices about other things, during the process.

Example: If you have salaried income of $95,000, you qualify for a payment of roughly $2,375 if the rate is 5%.  Take the $375 off for taxes and insurance, and make sure you check that $375 a month against the taxes on the house you make an offer on later in the process, and the amount the lender assumed as the taxes when doing the pre-approval letter.

After deducting RE taxes and Insurance, we are looking at a monthly payment for Principal and Interest of $2,000 which gives you a loan of $372,500 at 5% and a loan of $342,700 at 5.75%.  If you are planning to use an FHA loan, deduct $5,500 for the upfront MIP that you are likely going to finance, and that gives you a loan amount range of $337,200 to $367,000, depending on the interest rate at the time you lock it.  Add the 3.5% downpayment, and you are looking at a sale price of about $355,000 to $385,000.

Remember that your approval is based on a % of your gross income and you qualify for a monthly payment, not for a sale price.  So if you qualified for a house price of $385,000 (and the letter is absolute max within the lender’s assumptions), and they assumed taxes and insurance of $375 and the real taxes and insurance are $500, you no longer qualify for the sale price on your pre-approval letter. Likewise, if they used an interest rate of 4.875% and maxed out the price of home based on that rate, and rates are 5.125% when you lock, you won’t qualify at the sale price noted on your preapproval letter.

By asking the lender to use current rate PLUS  X when issuing the preapproval, you can worry less about rates fluctuating while you are busy trying to find the right house, and making the best deal.

These days, the very best deal OFTEN has RE Taxes higher than the amount assumed when producing your preapproval letter, making this issue of importance moreso now than it has been in the last 10 years. Plus lending guidelines are stricter, so a slight variance out of the assumptions can clearly make the difference between loan approval and denial, moreso now than in the last 3-5 years.

Make sure your pre-approval is based on a higher interest rate than today’s “going rate” and higher annual real estate taxes. The reason this is MORE important today is many people are buying short sales and foreclosures. The better the “deal”, the more likely annual real estate taxes are going to be higher than a lender will estimate as an area average for that purchase price.  So if you are Woo-Hooing about the fabulous price you just negotiated, it’s a good sign you need to check the ACTUAL RE Taxes against the lender’s original assumed monthly tax amount.

2) Get a Good Faith Estimate along with your pre-approval letter.  Before you even begin to look at property, you want to be sure you have the total cash you will need to close escrow.  While a Finance Contingency may protect you if Step 1) is done incorrectly, it will not protect you if you do not have the funds to close escrow.  If your loan is approved, but you can’t close because you don’t have the amount of money escrow tells you to bring to closing, the Finance Contingency will not protect your Earnest Money.

Again, this is a little unorthodox, but I have found this method to be essentially foolproof. So much so, that I have been able to guarantee that there will be no surprises at closing, unless the buyer elects to buy down the interest rate for reasons other than needing to do so to qualify.

Don’t just look at the bottom line monthly payment, interest rate and cash to close on your Good Faith Estimate (GFE).  Turn it into a “working” document by converting the format to the official HUD 1 you will see at closing.  This gives you the added comfort of seeing BEFORE you start looking at homes, exactly the same Closing Statement you will be facing the day you go to sign your closing papers.

Find a blank HUD 1 and print it out. I always do these numbers by hand in blue ink, so I can clearly differentiate it from the forms that come later in the process. I have seen many and varied formats for Good Faith Estimates over the last 20 years, but the final closing statement, the HUD 1, has been virtually the same from year to year and even from State ot State.

I just printed one out directly from the HUD website.   Always round the numbers up, and get the numbers directly from the source as much as possible.  I expect lenders to be absolutely accurate when “estimating” their own charges, so the lender fees on the Good Faith Estimate should be accurate. BUT when they are estimating 3rd party costs on the Good Faith Estimate, such as Title and Escrow charges and even County recording fees, I often find those numbers to be underestimated.  Remember to add the Home Inspection fee, which is almost never on a GFE.

Every time a sale closes, I double check the actual costs against my own original estimates. By getting your numbers directly from the source, and rounding up, you will not likely have any surprises at closing, in fact most often, the amount you need to bring should be less than you originally anticipated.

Always use worst case scenario when calculating your monthly payment and your Cash needed to Close BEFORE you go out looking for homes. This will insure that your real case scenario will always be brighter by comparison.

VERY IMPORTANT: If you do not have enough cash to close, that often means the agent needs to include a credit toward closing from seller to buyer IN THE OFFER.  So doing this after you are in escrow…is too late.

Often there will be changes DURING the process that can throw these numbers off. By doing the numbers yourself, by hand, as I do, the little red flags will pop up as changes are proposed during the process.

EXAMPLE 1:  Closing date is the 25th of the month, so the cash to close on your Good Faith Estimate has 6 days of interest at $55 a day = $330.00.

Two days before closing the seller asks you to extend close to the 11th of the next month instead.  These discussions happen all the time WITHOUT the buyer knowing that the $330 for 6 days interest will increase to 20 days at $55 a day or $660. In reality it costs you less, but for practical purposes it costs you more with regard to “cash needed to close”.  ALSO, often the lender doesn’t know the date was extended until they are sent the addedum changing the close date AFTER both the buyer and seller have signed agreeing to that change.  If they only locked the rate to the day of closing or until the 3rd or 5th of the next month, you could end up with a different interest rate by signing the close date extension, and in this period of volatile rates they will likely hold you to the HIGHER of the two rates.

Again, if you are buying a short sale or bank owned property, the extension of close date may not be something within your control. You can’t MAKE the seller close on a given day, regardless of contract provisions.  So being qualified from the beginning at a higher rate becomes a necessity vs. a preference, if you plan to close escrow.

EXAMPLE 2:  You receive your Good Faith Estimate and it says you qualify for a sale price of $300,000. It says your total costs will be $13,000 of which $5,000 is up front MIP, which will be financed.  Total cash needed to close is $18,500 and you have $15,000.

Two months later you make an offer on a property and it is accepted.  No one told the agent that the approval assumed the seller would be paying $3,500 toward the closing costs, and it is now too late to rework the agreement with the seller. Escrow fails for insufficient funds to close, and seller keeps the Earnest Money which is more than the $3,500 you needed to complete the transaction.  You don’t get the house AND you lose $5,000.

It is very important that you turn your Good Faith Estimate into a working document, and not just file it away as another piece of paper.  THE AGENT WRITING YOUR OFFER DOES NOT GET THE GOOD FAITH ESTIMATE, unless you personally give it to them, or instruct your lender to send it to them.  There are many assumptions made by the lender when producing a pre-approval letter.  If the real facts don’t match those assumptions at time of offer and acceptance, it will likely be too late to turn back the clock, and that can put your Earnest Money at risk.

Two Flaws with the new Good Faith Estimate

Let me begin by saying I think that uniform Good Faith Estimates are a huge step in the right direction. However, I’m quickly reviewing the newly revised Good Faith Estimate and HUD-1 Settlement Statement (beginning on page 46; link below) to see if any changes were made since they were unveiled. The two biggest issues that I see are:

  1. No clearly marked monthly mortgage payment.
  2. No funds due for closing.

HUD boasts that consumers will save an average of $700 by using these new forms, yet consumers won’t have the tools to compare without these two factors. It seems like HUD was so focused on YSP (which seems less clear to me on the new form) and controlling closing costs, they skipped a few important details.

Am I missing something right under my nose? Click here to read the final rule. I’ll go through this again and perhaps dig into the entire document over the weekend…I’m just wondering if any of you have more insight into this.

Make Sure Your Loan is Locked

I’ve been communicating with a home owner who thought their loan was locked in at a certain rate only to learn that this is not the case.   Here’s their story:

Their existing ARM reset in March.   In late February, they informed the LO they wanted to lock at  5.5%, no points, 30 year fixed, and close before April 1 and the LO said it was reasonable and doable.  The appraisal was complete in late March with a LTV 79%.  The LO did not lock in at that time.   The LO presented a GFE 55 days after the application was signed and not the program that was agreed on…the LO admits he dropped the ball but cannot fix it with his bank.

Ouch.  Big ouch. 
Part of the problem that I can see by reviewing rates I’ve posted is that in late February (at least on Fridays) rates where in the high 5’s with 1 point.  So a borrower could easily tell a Loan Originator, “this” is the rate I want you to lock me in at…and if that rate does not happen at that time, the LO will most likely not lock the borrower since this is what the borrower has instructed the LO to do.
 Mag2008nominee
For the LO to tell these borrowers “reasonable and doable” was a stretch. Reasonable, maybe but in this current market when we’re averaging two rate sheets/changes a day: almost anything and nothing may be reasonable and who’s to say what’s doable unless you’re the dough fronting the mortgage.  The appraisal should not have been ordered without the borrowers consent.  The LO could have easily told the borrowers, your rate has not become available, should we order the appraisal (worse case, borrower is out a couple hundred dollars) or would you like to wait to see if your rate becomes available?   The Good Faith Estimate being presented almost two months of application is inexcusable.  
Hindsight is so clear and you can see the warning signs about this transaction skidding down the wrong track. So what can you do to try to make sure your loan is actually locked?
 
Obtain a written Lock Confirmation.   Your lock confirmation is not a guarantee.  I’m sorry…I wish it were.  If the information you provided on your application, your credit scores change (expired credit report), the appraisal comes in lower; may impact your interest rate and thus the lock.   Once you request a lock from your LO, or they say your locked, get it in writing!   If you don’t receive a Lock Confirmation by the following day, contact your Loan Originator to find out when you will have one. 
 
I have recommended that this couple contact the LO’s supervisor…but here’s the challenge:
 
If the LO told them they were indeed locked, the bank might try to honor (eat) the lock, as they should.  Based on today’s pricing, buying that rate would cost an additional 2 points.  However, without documentation of any sort (no email or lock confirmation), it will be challenging to prove that the LO promised or committed to this rate.  It’s your word against theirs.   If the borrower stated, I want “x” rate at “y” cost and these factors never happened…the Loan Originator is off the hook.  The LO cannot provide what is not available (specific rate/cost).   It’s an expensive lesson.
 
But what if the borrowers rate/cost was available and the LO committed to locking in that rate?  Mind you, rates can and do change even while they’re being locked–which is very frustrating.  In that case, the LO should contact the borrower immediately to let them know there’s been a change for better or worse (usually better is no problem).   Again, assuming the rates available and the LO either screws up and doesn’t lock the rate or tells the borrower it’s locked when in reality the LO is “gambling” the market.   What can the consumer do if they discover their rate was never locked?  I contacted fellow RCG contributor and attorney, Craig Blackmon regarding if there’s any recourse for someone with an unhonored written lock confirmation (assuming the program is still available and the other factors I mentioned above that may impact a lock):
 
Here’s Craig’s answer:
 
That would depend on the “written lock confirmation.”  If that document constitutes a binding contract, then yes the borrower would have a breach of contract claim against the party to the contract for the difference between the promised rate and the actual rate.  Even if the document does not constitute a contract, the borrower might still have a negligence claim (i.e. a malpractice claim) against the LO if the LO failed to exercise a reasonable degree of skill and care in attempting to lock in at the promised rate.  In either event, the borrower’s recourse would be against the LO (I think — again, I would need to see the “confirmation” to confirm in regards to the breach of contract claim).  
Bottom line, be sure to get documentation of your lock in writing.   Lenders should provide lock confirmations with an updated Good Faith Estimate if the rate or cost have changed from the last one provided.  If something smells fishy and they’re no cooperating or stalling, it’s probably shark.  Oh…and last but not least, I don’t recommend chasing a rate.  If you like the rate, lock it or be prepared to lose it.

Are you really preapproved or just prequalifed for a mortgage? Part 1

There’s quite a difference between being prequalifed for a mortgage and preapproved.   The letters that Loan Originators provide when requested for a prequal or preapproval may appear very similar.  In fact, I’ve talked to borrowers on the phone who thought they were actually preapproved, when all they really had was a Good Faith Estimate from a lender.  A Good Faith Estimate is just a rate and fee quote–an estimate is not a commitment to lend and does not indicate that someone has been prequalified.

Getting prequalifed is the stage just before becoming preapproved with a lender.   It’s a good start.  This is a great way to learn about a Loan Originator and to help you determine which Mortgage Professional you’re going to select to assist you with financing one of your largest investments.   There’s no strings attached yet to the lender, you’re investing a little of your time and perhaps a few bones for a credit report.   

The prequalification process help you determine:

  • What your mortgage payment will be
  • Available mortgage programs
  • How much home you can afford
  • How much money you will need for the down payment and closing costs
  • Your opinion of the Loan Originator (what is their skill level, knowledge, experience, available programs, etc.)

Once a prequalification is complete, you or your Real Estate Agent can request a Prequalification Letter that may be used for presenting an offer on a home.   A preapproval letter is stronger, however, a prequal can help buy you some time until a true preapproval is possible.  

When a buyer is prequalifed, this should mean at the very least, the LO has obtained their income, assets (down payment and additional savings) and credit information.   This can just be verbal—over the phone.   The information that you have provided is not necessarily verified (if you have not provided your W2s, paystubs, asset accounts to your LO, you’re definitely not preapproved).  If your information has not been ran through underwriting, you are not preapproved.  It’s possible that you have provided your supporting documentation and that the LO has submitted your information to underwriting and you may still not be preapproved, or you may be “preapproved with conditions”.

Sometimes home buyers need a little elbow grease or significant documents are still required and you don’t want to disclose it on a preapproval letter.   In this case, a prequal letter may better serve the client to buy them some time (if the listing agent will accept a prequal letter).

At the minimum, a prequal letter from a Loan Originator is simply confirming that an interview has taken place between a potential buyer and the LO.    When I write a prequal letter, it will state something along the lines of:

“Dear Agent, This letter is to certify that based upon preliminary information,   Ima Buyer has been prequalifed for conventional financing from Mortgage Master Service Corporation to purchase a home with a sales price of $375,000.   A full approval is expected after receipt of the Purchase and Sale Agreement and other documentation.  

This prequalification is based upon final verification of information supplied by borrower.  A satisfactory property appraisal & clear title must also be furnished to the lender prior to closing this loan.

Bribery to Work with the Builder’s Preferred Lender

When ever I’m working with a home buyer who may be considering new construction, I know I might lose them to the builder’s in house lender.   Often times the builder will offer an enticing credit to the buyer’s closing costs only if they obtain their financing from the builder’s preferred lender.   

How can having a Loan Originator (in this case, they are a retail sales mortgage person, or what ever Jillayne refers to them as  🙂  since they wait to be fed from the builder, often sitting at the construction site) who’s livelihood is supported by the Seller (i.e. the Builder) be in the Buyer’s best interest?    Who is looking out for whom?  How do you know the Loan Originator will not disclose the Buyer’s private information to the Builder if pressed?

Enough of my questions…here are some of my recent dealings with the Builder credit when working with the preferred lender.

The builder offered a $4000 closing costs credit when working with their lender.   After reviewing the builder’s lender (BL) good faith estimate (GFE), it was easy to see how they were doing this.    The rate being quoted for a 30 year fixed was 6.125% at a 1% origination and a 0.125% discount.   The actual current 30 year fixed rate that I would have quoted on that day was 5.875%.   The BL was getting over 1 point (over $2000) on the backend of the transaction.   Since the BL is a bank, the $2000 on the back did not show on the GFE.   My client did not have the Truth in Lending to provide me, so I don’t know if there was additional padding with any prepayment penalties to credit the lender.   If not, I am certain that the builder just increased his sales price by $2000 to fund the difference of the “buyer closing costs

Second Opinions on Good Faith Estimates

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A few weeks ago, one of the Realtors I work with, Suzy Seller, contacted me to see if I could help her client with an out-of-state mortgage.   Ima Rusty (names are changed to protect the innocent), was moving to Arizona to retire and perhaps see the sun.   Ima had gone to her “local bank mortgage company

APR: Just One Part of the Mortgage Machine

One of the reasons why we have the federal Truth in Lending Act (TILA) was to help consumers gather enough information to make an informed decision on the cost of a mortgage loan.

Annual Percentage Rate, or APR is defined as the total cost of credit to the consumer expressed as an annual percentage of the amount of credit granted. APR is intended to make it easier to compare lenders and loan options.

TILA directs lenders to compute their APR using the actuarial method OR the US method. “Either method is fine,” says mortgage industry consultant Gordon Schlicke, “and both are very long, complex math equations if done by hand.” Today, we all use computer software pre-programmed to compute APR.  The actuarial method and the U.S. method will result in different APRs. This is fine because TILA allows for variances in APRs: .125 (1/8)% on fixed rate products and .25 (1/4)% on adjustable rate products.

The APR is computed on the amount financed, which is the loan amount LESS prepaid finance charges.

HUD provides suggestions for how to define prepaids.  However, our federal government also understands that different areas of the country have different local customs and lending practices so HUD allows each lender to choose how they define prepaids, but ONLY if the lender receives legal counsel to that effect.  So, for example, Lender X wants to define prepaids in their own way.  They receive legal counsel in the form of a letter on file as to how they are defining prepaids based on local custom.

So we started with a great federal law intended to help consumers become better informed as to how much a loan will cost the consumer. What we end up with is a wide variety of ways to compute APR, all of which are allowable.

Shopping for loans only using APR is a mistake. Shopping for a mortgage loan and only focusing on one piece of a mortgage loan is a mistake.  Consumers who only focus on the note rate or monthly payment and who ignore the other many moving parts of a mortgage are very easy consumers to take advantage of.  Until higher standards are in place regulating the ethical conduct of mortgage loan originators, at minimum, a consumer ought take a look at the whole picture of a mortgage loan and how it works, from the perspective of a traditional fixed rate mortgage before deciding how a mortgage product fits in with a consumer’s tolerance for risk and the tax advantages of the many, many creative mortgage products being sold in today’s market beyond the traditional fixed rate products.

Consumers, when shopping for a mortgage, don’t focus only on ONE of these pieces, instead look at the whole machine:

Monthly payment

Loan product

APR

Closing costs

The originating lending institution

The institution to which your loan will be sold

The ancillary service costs including appraisal, title credit, escrow, and so forth

And finally, the individual people working inside these institutions providing all these services most notably, your mortgage loan originator.

Obtain a Good Faith Estimate from at least three types of institutions: your favorite local bank, a mortgage broker, and a credit union. If anyone out there from a licensed consumer finance company can make a case for why you ought to be on my list of recommended institutions, please enlighten us via posting a response. 

2012 update: That last sentence was part of the original 2007 blog post when we were seeing large, national predatory lending cases at consumer finance companies such as Household Finance and Ameriquest.  With state and federal law changes, many mortgage broker loan originators have switched over from working under a mortgage broker to….the consumer finance company licensing system. We could also refer to these types of companies as “non-depository lenders,” or “non-bank lenders.”  They loan mortgage money but do not offer checking and savings.  These non-bank lenders now make up a huge market share of all the companies originating mortgage loans.  All companies lending mortgage money must follow the Truth in Lending Act: mortgage brokers, non-depository lenders, and depository banks.  Obtain a GFE from a mortgage broker, a bank, and a non-depository lender (sometimes they like to refer to themselves as “mortgage bankers” but mortgage lenders is a better description, IMO.)

Consumer’s: slow down and take the time to meet your loan originators in person. An initial F2F meeting will help you gather valuable data as to how your loan process is going to go.  Remember, an institution or a loan originator offering the lowest rate, lowest APR or lowest payment does not always mean this is the best choice.  If it sounds to good to be true, IT IS. Trust your instincts and your rational mind.