Q: “I see that the Upfront Mortgage Broker commitment now includes a guarantee of lender fees. What fees are covered, and why is a guarantee needed?”
Mortgage lenders charge two kinds of fees. One type, expressed as a percent of the loan amount, is called “points” and sometimes “origination fee.” Points are considered part of the price of the loan, along with the rate. When lenders lock the rate, they also lock the points. The lock protects the borrower against any subsequent changes in the market that would raise the rate or points.
Lenders also charge fees for various functions they perform, such as loan processing or underwriting, which are expressed in dollars. They do not vary with the size of the loan. These fixed-dollar fees are not considered part of the price of the loan, and aren’t included in rate locks. The presumption is that since these fees aren’t affected by changes in the market, the borrower does not need lock protection.
Unfortunately, this presumption does not always hold. Some retail lenders will take advantage of a borrower who is too far along in the process to back out by raising their fixed-dollar fees after the loan is locked. Here is an illustration:
“I paid $2,240 in lender fees when my loan closed, compared to the $880 I was quoted at the time my rate was locked. It was a total surprise that hit me at the closing table. With my house purchase at stake, there was nothing I could do…why doesn’t the government do something about it?”
Actually, the federal government is an unwitting accessory to this larceny.
RESPA FACILITATES LARCENY
Under authority of the Real Estate Settlement Procedures Act (RESPA), the Department of Housing and Urban Development developed a Good Faith Estimate (GFE) of settlement costs aimed at helping borrowers shop knowledgeably for settlement cost services. In practice, it provides legal sanction for lenders to cheat borrowers at the closing table.
It does this in part by encouraging borrowers to focus on individual cost items rather than the total of lender charges, which is the only number that is relevant to them. The GFE provides space for any expense category a lender wishes to add, but does not show total lender charges anywhere. Further, as if to discourage borrowers from calculating their own total, the GFE intermixes lender charges with charges of third parties.
In addition, all the numbers on the GFE are “estimates,” subject to change right through to closing. The rationale is that lenders can’t be certain about some third-party charges until late in the process. But the GFE gives them the right to change not only third-party charges, but also their own charges, which they do know with certainty. This is a government-sponsored invitation to abuse.
TRUTH IN LENDING DOESN’T HELP
Under Truth in Lending (TIL), administered by the Federal Reserve, lenders are required to provide the borrower with an Annual Percentage Rate (APR), which measures the cost of the loan as an annual rate taking account of interest rate, points and fixed-dollar lender fees. When borrowers lock the loan, they will have an APR on a TIL statement. It will reflect the locked rate and points, and the loan fees shown on the GFE. But since the APR is not locked, neither are the loan fees.
The lender who raises his fixed-dollar fees after locking the rate and points will issue a new APR, which will be higher because it incorporates the higher fees. The new APR is like an official endorsement of the lender’s larceny.
If TIL incorporated the simple rule that when lenders lock the rate and points, they also lock the APR, the problem would disappear. Whether the Fed could do this on its own, I don’t know; possibly it would require Congressional action. In either case, the Fed seems not to be interested in pursuing it.
UMBs TO THE RESCUE
Mortgage brokers know the fees of all the wholesale lenders with whom they do business. Once they have identified the lender that will be used in a particular deal, they are positioned to guarantee the lender’s fixed-dollar fees without significant risk to themselves. Only UMBs, however, make this guarantee explicit.
The guarantee would be as of the date when the loan is locked with the selected lender. Of course, if something happens to invalidate the lock with lender A (such as the borrower’s application being disapproved by A), forcing the broker to go with lender B, the guarantee would shift to the fees charged by B, which could be higher or lower.
The writer is Professor of Finance Emeritus at the Wharton School of the University of Pennsylvania. Comments and questions can be left at http://www.mtgprofessor.com.
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