The right way to select a Mortgage

Comparing loans from different lenders is complex, yet picking the right one can save you thousands of dollars. Most buyers (and even advisors) do not understand how to compare different loan offers.

Lenders quote mortgage interest rates on daily rate sheets sent to bokers. Each loan type will have an interest rate (called 'Par'), but the sheet will also detail how this interest rate is changed by 'Points'. Most people are familar with 'Discount Points' - making a payment to buy down the interest rate, for example 6.5% with No Points, or 6.25% with 1 Point. In this example, you are paying an extra 1 percent of the loan amount to reduce the interest rate by a quarter of one percent. In general, discount points are advantageous for long term borrowers. However, the loan officer can quote more discount points than the lender actually requires, with the excess money being split between the loan officer, broker, or lender. This is the first thing to watch for: Is the borrower receiving the full benefit of points paid? Ask to see the rate sheet.

The best way to ensure successful comparison shopping is for the borrower to specify the contract interest rate desired, and compare quotes from different sources. Since the interest rate is common, the decision is based on the fees charged by the different loan officers. The Real Estate Settlement Procedures Act requires the loans to be presented using a common format, called a 'Good Faith Estimate'. Sum the fees for categories 800, 1100, & 1300 and pick the lender with the lowest number. Exclude categories 900, 1000, & 1200 since these will be the same across all lenders at settlement, even if they are different on the Good Faith Estimate sheets from the different sources. The loan officer's compensation should be between 1 and 3% depending on the complexity of the transaction, the amount borrowed and the market conditions. 1.5% is fair, but 1% is better.

How are loan officers compensated?

The home buyer's primary contact is the loan officer, who prepares the loan documents and orders necessary reports. The loan officer may be employeed by the mortgage lender, or by a mortgage broker. Loan officers receive compensation from direct, or 'front end' fees: the Origination fee (a percent of the loan amount), a Processing or document fee. They can also receive an indirect or 'back-end' fee called the Yield Spread Premium. Lenders call this fee by different names, so comparision may be difficult. For example, the Yield Spread Premium may be called rebate pricing, service release premium, rate participation fee, par-plus pricing, premium pricing, or overage.

The Yield Spread Premium (YSP) is the opposite of the Discount Point. In return for a higher interest rate, money is given to the borrower as a credit towards closing costs. For example, 6.5% with No Points, or 6.75% with a 1 Point credit. In this example, the interest rate is increased by a quarter of one percent and 1% of the loan amount is credited to the borrower. This would be advantageous for short term borrowers. However, the YSP fee is an underlying source of abuse and overpricing since the loan officer can keep some of this money from reaching the borrower. This is very easily done since the lender's credit is not passed directly to the borrower, but is paid to the loan officer. The loan officer must then reduce one of his other fees to credit the borrower. The YSP credit does not show up on the disclosure documents clearly - it is denoted P.O.C.(Paid Outside of Closing) in the margin of the HUD Good Faith Estimate and Settlement Statement and not added into the borrower's total cost column. It reads as a lender payment to the broker, not a lender credit to the borrower.

So the second thing to watch for is: If the transaction involved a YSP, did you, the borrower, receive the full amount of the credit?

Everybody should have a good mortgage advisor. We work with one of the best. To meet with him, call (408) 725-7135 or click here.

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