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Reverse Mortgages: What You Need to Know

How do reverse mortgages work, and when should someone look to obtain one? We’ve got answers to help you decide whether this commonly misunderstood product could be the best solution for you.

Reverse mortgages have been around for quite some time in various shapes and forms. Today’s reverse mortgage is very different from those of the past thanks to more safeguards, in the form of limitations, in place. Due to recent changes, reverse mortgages are making their way back into the mainstream of mortgage products nationwide. Sometimes referred to as a HECM (“heck-um”), the home equity conversion mortgage is a loan insured through the Federal Housing Administration (FHA).

At first, it’s difficult to get one’s head around a reverse mortgage because intuitively consumers are familiar only with traditional mortgages. With a traditional mortgage, money is borrowed and paid back in the future at regular intervals.

Reverse mortgages are set up in just about the same fashion with two main differences. First, they are far more flexible than traditional loans in that they can be customized to suit individual needs. Second, the timing associated with when the funds and interest must be paid back is quite different. Let’s take a closer look to gain a better understanding.

Reverse Mortgage Mechanics

A reverse mortgage is a loan where homeowners can access the equity in their home similar to a traditional mortgage or HELOC. Unlike a traditional loan, a reverse mortgage doesn’t require interest payments on a monthly basis. Rather, the interest accumulates and is simply paid at the time of a maturity event.

A maturity event is typically associated with selling the home or the borrower, or borrowers, passing. At the time of a maturity event, the FHA insurance on the loan ensures that any amount due does not exceed the value of the home at the time of sale. This feature is called “non-recourse” and is one of the main protections accompanying a reverse mortgage transaction.

As with traditional mortgages, those who take out a reverse mortgage may choose either a fixed or an adjustable rate loan. With adjustable rate programs, there are different types of disbursements that can be made. Homeowners can choose equal installments to be paid for as long as at least one of the borrowers continues to live in the property, or they can choose to receive reverse mortgage loan proceeds in equal monthly payments for a preselected period of time. They can also open a line of credit, much like a HELOC. Finally, borrowers can choose to receive a lump sum payment combined with monthly installments for as long as they occupy the property, or a combination of monthly installments and a line of credit.

With the fixed rate option, there are no installment payments or lines of credit available. Rather, a single lump sum is paid at closing.

Interest rates have historically been quite competitive on reverse mortgage loans. In most cases, both fixed rate and variable rate loan options are within 1% of the best rates on the market.

One other important note: As mentioned above, interest accrues on a reverse mortgage just like any other mortgage loan. As we will see below, qualifying for a reverse mortgage is much easier than a traditional loan – particularly in today’s tough lending environment.

It is important to point out that reverse mortgage borrowers can make payments on their reverse mortgage at any time – effectively turning them into the traditional loans we find more familiar. This means, for those who qualify, there may be an easy alternative to that traditional loan qualification process – so keep an open mind!

Who Qualifies?

Anyone who is at least 62 years of age, is currently a homeowner, and has sufficient equity in order to make the reverse mortgage loan work is a candidate for this product. It used to be that reverse mortgage loans were notoriously easy to qualify for. All one needed to have was sufficient equity in the home. Credit scores were not checked, and no employment or income was required.

Today, however, borrowers must be able to show they have the resources necessary to pay for annual property taxes, insurance premiums and maintenance of the home. This change was implemented after many reverse mortgage borrowers fell behind on their property taxes and local counties began foreclosure proceedings. As an additional safeguard, reverse borrowers also complete a reverse mortgage loan counseling session, which can typically be done over the phone or in person with a non-profit counseling agency.

As long as the borrowers have sufficient equity and can demonstrate they’re able to maintain the home and to take care of housing expenses such as taxes and insurance, a reverse mortgage is an easy loan to obtain.

How Much?

The amount one can be approved for is based on a set of actuary tables and takes into consideration the age of the youngest borrower on the loan application, current interest rates and the current value of the property. Loan sizes are larger for older borrowers with shorter life expectancies, when lower interest rates are available, and when the home value is higher.

If there is an existing mortgage on the property in the form of either a first or second lien, the proceeds from the reverse mortgage must go toward paying off those liens, leaving the reverse mortgage as the sole lien on the property. If the reverse mortgage is not sufficient to pay off the existing mortgage, the loan approval can be issued, but the borrowers must bring the extra money to closing to cover the difference.

When an existing mortgage is paid off, that frees the homeowners from making mortgage payments ever again as long as they own and occupy the property. For those who are “house rich” and would like to get rid of their current mortgage payment, a reverse mortgage is an ideal option.

Reverse Myths

Will the lender take my home? Do I lose ownership?

No. The homeowner does not lose ownership of the property. Similar to any other mortgage, the reverse mortgage lender simply has a lien on the property signifying there is an amount which must be paid off prior to a sale or another refinance.

What about my heirs?

Once the home is sold or no longer considered the borrower’s primary residence, the accrued interest and other finance charges must be settled. After the reverse has been paid off completely, any remaining equity will go to the homeowner’s heirs. In the event that the amount owed exceeds what the home value is at the time of sale, the non-recourse features ensures that the sale of the home fully covers any debt owed (Even if FHA must take a loss!).

Aren’t reverse mortgages expensive?

Not really. They do have origination fees like other loans, and there is a mortgage insurance premium that must be paid, but today’s reverse fees are much lower than they used to be, especially in comparison to the costs of selling. There are also options for nearly zero mortgage insurance paid up front. Similar to any other mortgage loan, there is not “one rate” and “one set of costs”. Shop around by using MortgageCS to compare – you’ll see quite a difference between lenders.

Don’t I have to pay income taxes when I take out a reverse mortgage?

Reverse mortgage proceeds are not considered income as you are simply trading one asset for another: Equity in the home for cash in hand. Generally speaking, cash received from a reverse mortgage is treated just like cash out from a traditional refinance. Due to this, it is not counted as income. To be sure, it always makes sense to contact your tax professional, as every homeowner’s situation is unique.

What if the home is sold and there isn’t enough money to pay for everything? Won’t my heirs be held responsible for my debt?

No. If the home is sold for at least the lower of the reverse mortgage balance or 95% of the current appraised value, the reverse mortgage insurance premium taken out on the loan will cover the loss. No debt is passed on to your heirs, and they are not responsible for paying any balance due.

Company News, Learning, Purchase Mortgage, Refinance Mortgage, Reverse Mortgage, Second Mortgage / HELOC, Uncategorized, Videos

A Day in the Life of a Loan Officer (Video)

Video Transcript: Have you ever wondered what your loan officer does all day?

In a nutshell he or she is working hard on your behalf to close your loan while also managing many other tasks. At times it may feel like they’re doing everything but working on your loan, so keep in mind that loan officers typically only make money when they actually close loans. They want your deal to close.

Your loan officer will change hats constantly throughout their day. They’re a consultant in the morning, a documents processor in the afternoon, a marketer in the evening and a problem solver just about all of the time. One of their toughest jobs is overcoming obstacles associated with documentation requirements and other questions brought up by underwriters. They’re running interference for you all day long, and making a complex process feel a lot more simple than it actually is.

A typical path of working with a loan originator looks like this: You’ll be introduced through MortgageCS or some other way, where you have an opportunity to interact and then exchange information when the time is right. Keep in mind that a good loan officer listens carefully, takes time to understand your complete situation and then develops a proposal that meets your short-term and long-term needs.

A good proposal is much more than the lowest rate being offered. It considers interest rate as well as the length of time you plan to stay in the home, the best strategy for the down payment, the amount of the mortgage, and the estimated closing costs.

Loan Originators stay up to date on program guidelines, complete numerous licensing classes and work hard to set proper expectations that result in delighting their clients. At MortgageCS, loan originators know that a happy customer will leave positive feedback and this will help them build their reputation in the platform – which is about the best marketing a loan officer can get.

Articles, Learning, Loan Programs, Refinance Mortgage, Second Mortgage / HELOC, Shopping Mortgages Now

Second Mortgages: What You Need to Know

What is a second mortgage? Isn’t just one mortgage enough? A second mortgage can allow you to access home equity for future purchases and great flexibility. Read on for more about the types available and what each will mean for you.

When most homeowners speak about second mortgages, they’re not talking about an additional mortgage used to buy a home as part of a combo loan, or refinancing an existing loan. They’re referring to a brand-new mortgage that sits in a second lien position behind an existing first mortgage. Second mortgages come in a few different shapes and sizes – and each can address a specific need.

The Home Improvement Loan

A second mortgage can be one loan paid out over time, used to either pull a sum of cash from the equity in your home or perhaps to undertake a home improvement project. For example, a couple who owns a home currently valued at $500,000 has an existing first mortgage balance of $250,000. Their family has begun to grow, and they will soon need another bedroom. They’ve looked into selling their three bedroom home and buying a home with four bedrooms, but that would mean borrowing more and having a larger mortgage than they currently have.

Instead, they decide to add onto their existing home. They work with an architect and a contractor and determine that the addition will cost another $50,000. They add on another $5,000 for “just in case” scenarios, and apply for a second mortgage in the amount of $55,000. The mortgage application is approved, and the lender deposits $55,000 into their bank account. The lender’s guidelines for the second lien required the combined loan to value—the combination of the first and second lien to be placed—was no greater than 80 percent of the current value of the home. This is referred to as the CLTV. The loan this couple received is a fixed-rate second lien with monthly payments stretched out over 15 years, but other terms are available.

Okay, now what if the 80 percent CLTV had posed a problem? What if the property had been worth $400,000 now, rather than $500,000? When improvements are made to a property, the lender can consider the future value of the property when reviewing the appraisal. Let’s say for a moment that adding the fourth bedroom increased the value of the property from $400,000 to $450,000. At the end of construction, the lender would have sent out an inspector who makes sure that that the construction had been completed and that the home’s value had risen to $450,000. In this example, the CLTV would now be 68, well below the 80 percent requirement. This type of arrangement, where a lump sum of cash is provided with a predetermined payment schedule, is referred to as a “closed end” second.

The HELOC Option

A more common type of second lien is a home equity line of credit, or HELOC. A HELOC works much like an everyday credit card, yet the loan is secured by the property. HELOCs also have CLTV requirements that must be met, and they most often use the current market value of the property.

Let’s again assume the CLTV guideline is 80 percent, and consider a home currently appraised at $500,000 with an existing first lien mortgage balance $350,000. Since 80 percent of $500,000 is $400,000, and an existing lien of $350,000 is already in place, a HELOC for $50,000 can be obtained on this property.

Let’s say the couple decides to accept the $50,000 offer. They will now have $50,000 accessible to them just as they would with a credit card, but the interest rates will be substantially lower. Most HELOCS require a minimum amount to be withdrawn, but once repayment is made that balance is immediately reduced.

HELOCS have a draw period, typically the first 10 years, followed by a repayment period that lasts for the remaining term of the loan. Most HELOCs are set for 25 or 30-year terms and have adjustable rates that can fluctuate as rates rise and fall throughout the repayment period.

Subordination

A second lien is more than just another lien placed on a property subsequent and subservient to the first. The second mortgage does not have the same types of legal protection that the first mortgage has, and should the borrowers ever go into default, it’s possible the second lien lender will be left out in the cold, having to deal with the collection process well beyond the foreclosure date.

When a lender is forced to foreclose on a property, the “superior” liens are paid off before any others. A first mortgage used to buy and finance a property is such a lien. Other superior liens are those filed for delinquent property or income taxes. Support payments to an ex-spouse, and child support are superior to a second lien as well. So are mechanic’s liens filed when a contractor builds or makes improvements on a home.

Once all those liens are satisfied after a foreclosure auction, it’s possible there isn’t enough money left to pay off the second lien holder. This is one of the reasons why second lien interest rates will always be higher than what is available for a first lien mortgage used to purchase a home. Simply put, there is greater risk associated with these loans.

There are also times when homeowners fail to pay the second mortgage but are still paying the first mortgage to the satisfaction of the first lien holder. The second lien lender then has the right to foreclose on the property but again, any and all superior liens will be paid off first.

The two types of second liens: closed-end seconds and a HELOCs, are excellent ways to access home equity without having to refinance your entire mortgage to pull out cash, a practice referred to as a “cash-out” refinance. If you plan to use the funds for a specific purpose without the need for future funds, a closed-end second might be the better choice. If you want access to the equity over time with a revolving line of credit, then a HELOC is the best fit for you.

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Streamlined quote requests at MortgageCS

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Mortgage shopping can be challenging for many reasons. Questions regarding rate competitiveness, determining the integrity of the lender and simply trying to keep it all organized can be enough to drive someone crazy.

Fortunately, MortgageCS resolves these issues. Here is how it all goes down.

Step 1: You create a quote request

Creating a new quote request is quick and informative. Short help videos are available at each step – providing answers to the most common questions and delivering insights to make the entire mortgage process go smoothly. At the end of your quote, you choose if you would like to share your name, phone number and email address.

Step 2: Loan officers respond

When loan officers receive your quote request, they get to work building custom responses.  You’ll gain a full picture of the available loan options, the personality of each loan originator and what you could expect during the loan process.  Here is what each loan originator can include in their reply:

  • Loan offers: The loan programs you requested – assuming you qualify – are provided. Amongst other terms, you’ll see the interest rate, bank fees, loan amounts and monthly payments for each program. Loan originators can also include proprietary programs that may better accomplish your goals. This gives you a full understanding of the loan options available without the hassle of putting pen to paper or being a mortgage expert.
  • A written message: Important details, some of which may be vital for your particular loan program, can be added in a written message. Helpful tips and additional points can also be included, ensuring you are set up for success early on.
  • Attachments: Documents, such as loan disclosures, product highlight sheets or checklists, can be included for your review. This can facilitate learning and expedite the decision making process.
  • An audio message: Gaining insights into a loan officer’s personality is easy when they provide a helpful and informative audio message. This message is available alongside any written message or offers provided by a loan originator.

Step 3: You evaluate and decide

As each offer is received, it is added to your quote dashboard for easy evaluation. Questions and further communication is possible by using a sleek messaging system included right on the site. If a few days go by and you need rate updates, that is easy too.  You can request a Rate Refresh, which allows loan officers to send new offers – ensuring you stay up to date on your options.

The process of requesting a new quote at MortgageCS was intentionally designed to deliver efficiency and value – so don’t miss an opportunity to take advantage of this great service.  Contact your financial advisor today for access!

Articles, Down Payments, Home Buying, Learning, Loan Programs, Purchase Mortgage, Shopping Mortgages Now

Student Loans and Mortgages: A Financial Balancing Act

You’ve done your time in academia and have come out of college or grad school with a solid job, a good-looking spouse, and, if you’re like most college graduates these days, a fair amount of student debt. After renting for most of your adult life, you might feel ready to purchase your own home and have a space that is truly yours.

It’s certainly possible to qualify for a mortgage while you’re paying student loans, and in many cases it’s even financially advantageous. But before you stay up all night trolling online sites to find your dream home, there are a few factors you should consider to make sure you’re ready to handle both your student loan payments and a new mortgage. Prepare your finances first — then start packing.

Determine When and Where to Buy

Buying a house is a huge investment of both time and money. Before you dive into your search headfirst, take time to reflect on your short-term and long-term goals. Start by asking yourself a few questions:

  • Do you expect to stay at your job, or in your city for the next few years?
  • Do you plan on expanding your family?
  • Is the rent in your city exceptionally high?

Figure out how long you expect to stay in a new home, and whether renting or buying is the better value in your city. Once you decide that buying is the right choice for you, you can then determine how your student loans might affect your ability to qualify for a mortgage.

Make Sure You Can Afford Your Monthly Payments

It’s no secret that finances are an important factor when deciding on your price point. You might be able to handle your monthly principal mortgage payment, but there are many other fees to consider. Here are the most common ones:

  • Interest
  • County or city real estate taxes
  • Homeowners insurance
  • Mortgage insurance (if you have less than a 20% down payment)

These annual fees are broken down and incorporated into your mortgage payment each month. You also need to factor in the cost of home repairs. For relatively new houses, be prepared to set aside at least 1% of the home’s value each year for upkeep. All of these extra expenses might start to feel like a burden if you’re already paying off a sizable student loan balance.

Look at your Finances from a Lender’s Point of View

One of the biggest ways your student loans can affect your ability to qualify for a mortgage is through your debt-to-income ratio, or DTI. This number helps both you and your lender determine what mortgage amount you can realistically afford to repay. For most loan programs, you’ll need a DTI of 41% or lower. Here’s how to calculate yours:

Start by adding up all of your recurring monthly debts, like your credit card minimums, car loans and student loans. Don’t include bills like your cell phone, car insurance or utilities. Then divide that number by how much money you make each month (before taxes are taken out). Multiply your answer by 100 and you’re left with your DTI percentage. Let’s take a look at an example.

Claudia earns $4,000 each month before taxes and health insurance are deducted. She doesn’t have credit card debt, but her monthly student loan payment is $500, and her car payment is $400. So in total, her recurring debt payments come to $900.

$900 / $4,000 = 0.225

That means Claudia’s debt to income ratio is 22.5% — she’s a great candidate for a mortgage!

Consider the Pros and Cons of Refinancing Your Student Loans

You could always increase your down payment amount to lower your home loan starting balance and the associated DTI, but if you don’t have the cash or simply don’t want to deplete your savings, refinancing your student loans may help you qualify for a mortgage. Start by looking for a lower interest rate from private lenders.

Federal Student Loans

Federal loans are already consolidated, and cannot be refinanced, so you’re unlikely to save any money on interest with regard to them. What you can do, however, is lengthen your loan term on a federal loan. On the plus side, you’ll enjoy lower monthly payments, which can help get your DTI under 41% for buying a house. The downside is that you’ll pay substantially more interest in the long run.

Private Student Loans

Shop around with several different lenders to find the best rates on private loans. As with federal loans, you can extend the payment term to lower your monthly payments, or you can check into alternative lenders who use more diverse underwriting standards compared with traditional financial institutions. Refinancing your student loans is a big decision, so make sure to do your research and review multiple lenders before making a commitment.

Learning, Loan Programs, Purchase Mortgage, Recently Obtained a Mortgage, Refinance Mortgage, Reverse Mortgage, Second Mortgage / HELOC, Uncategorized, Videos

“My Loan Was Sold!” (Video)

If you know your loan is going to be sold, or if you just found out it was sold, you may be wondering how it could impact your situation.

Watch this short video and find out what you really need to know:

Transcript of Video:

If you know your loan is going to be sold, or if you just found out it was sold, there is no need to panic. Lenders sell all types of loans to other banks on a regular basis. It’s part of their daily business and it’s how they ensure they can continue to make more loans in the future.

In all likelihood, your mortgage will probably change hands several times as banks buy and sell on the secondary market.

So what is this secondary market all about? And how does it impact the terms of your mortgage?

Let’s start with the impact on your loan. There’s no real impact. You have a contract that guarantees the terms of your mortgage, even after it’s sold to another lender. You may have to change the auto-payment settings on your checking account and call a different customer service number, but there won’t be any changes to any of the terms of your agreement.

Now why would a lender sell your loan in the first place? And what’s the secondary market? To answer this question you just need to remember that banks are always working to maximize their profits. And sometimes it’s better for them to sell a loan today, instead of waiting 15 or 30 years to collect small chunks in monthly payments.

Some lenders will sell a mortgage immediately after it closes, often lining up buyers while the loan is still being processed. Other lenders wait until they have a batch of loans. Then they sell them together in a single package, which bankers refer to as a “bulk” sale.

Keep in mind that the secondary mortgage market increases competition, which improves mortgage pricing and terms for you as the borrower. So the fact that your loan can be sold is a very good thing and it shouldn’t be perceived any other way.

Articles, Down Payments, Home Buying, Learning, Loan Programs, Purchase Mortgage, Refinance Mortgage, Second Mortgage / HELOC, Shopping Mortgages Now, Uncategorized

Ace the Mortgage Process with these 7 tips

Buying a home is considered one of the most stressful events in the average person’s life, but it doesn’t have to be that way. Read on for simple steps you can take to avoid unnecessary frustration and delays.

Be Responsive

After you complete your loan application and submit your documentation, the loan officer needs time to review what you have submitted and make sure nothing is missing. He or she might have questions about your paperwork.

For example, your application might state that you make $6,000 per month while your year-to-date pay stub doesn’t match up exactly. Your loan officer or loan processor would then call or email you asking about the discrepancy. The lender can work on other parts of your loan application while awaiting your response, but when there is a question about income, the lender can only go so far. The longer you delay your response, the longer it will take the lender to process your application. You might even miss your settlement date!

When asked to clarify something about your application, respond quickly and clearly. If you have documentation to support your claim, always send it to your loan officer.

Review Your Credit In Advance

It’s easier than ever these days to get a free copy of your credit report. You really should review it annually, looking for any errors. Many credit card companies today offer a free credit score service, and the three main credit repositories: Equifax, Experian and TransUnion have also created a portal at annualcreditreport.com, where you can view and print your credit report for free.

When reviewing these reports, don’t focus exclusively on the score as it won’t be the very same one the mortgage company receives (but it should be close). What you’re looking for are mistakes because unfortunately, credit reports can often contain errors. Someone else’s bad credit might pop up on your report, or a creditor could mistakenly report a late payment. Don’t be caught off guard when your loan officer calls and tells you something on your credit report is causing problems – be proactive to preserve your credit profile.

Gather Your Financials

When you submit a completed loan application, you’ll also be asked to provide some documentation that will verify certain aspects of your loan. Prepare these in advance so you won’t have to worry about scrambling for paperwork while the clock is ticking on a 30-day closing. Gather your:

  • Most recent pay stubs covering the last 30 days
  • Two most recent W2 forms from your employer(s)
  • Most recent bank statements (all pages) covering the past 60 days
  • Homeowners insurance information
  • Two most recent annual federal income tax returns
  • A year-to-date profit and loss statement as well as business bank statements if self-employed

Note: When using a digital mortgage platform, you’ll still need information contained on these documents – or should review them to eliminate any surprises.

Lookout For New Info

Just before your settlement date and the signing of your loan papers, the lender will make a final pass over your application to be sure the documentation in the file is current.  This includes a review of recent pay stubs, retirement account documents, bank statements and other items. At this time, if there is a more recent document available, the lender will ask for it – and it will feel like a bit of an emergency.

To avoid this issue, always provide updated documents to your lender right when you receive them. You should also save a copy of all messages sent – so you can easily resend if needed.

Don’t Make Changes

This is one of the most common requests/gripes from loan officers when accepting a loan application because the consequences can be catastrophic.

Here are the “Don’ts” to follow when your loan is in process:

  • Don’t take out another credit account.
  • Don’t get a new phone
  • Don’t miss a payment on anything
  • Don’t ask a credit card company for a credit line increase
  • Don’t accept a new credit card offer
  • Don’t co-sign on a loan
  • Don’t buy or lease a car
  • Don’t change jobs
  • Don’t deposit cash into your savings or checking account
  • Don’t withdraw cash from your savings or checking account
  • Don’t change at all from what appears on your mortgage loan application.

Here is the list of “To Do” to follow when your loan is in process:

  • Follow the list above

Ask Questions

One of the main responsibilities of your loan officer is to ensure you have a clear understanding of the process, especially as it relates to closing costs and your interest rate. When you receive your initial offers or cost estimate, review the prospective charges with your loan officer line item by line item and get a clear picture of not just the charge, but why it’s being ordered.

For example, all transactions require a certified Flood Certificate stating whether or not the property is located in a flood zone. Even if your property is nowhere near water or flooding, you’ll still need this in your file. It’s best to ask questions long before you get to the closing table.

Follow Your Lender’s Lead

If you could to look inside your mortgage company while your loan application is being documented and verified, it would probably look like people were spinning plates.

Mortgage lenders must document every aspect of your application and work with multiple other professionals to complete the documentation process in order to get your loan to the underwriting department, which then approves loan. We touched on this earlier, but it can’t be stressed enough: follow the advice of your loan officer, and work with your loan processor to provide requested information as soon as possible.

Mortgage companies do one thing and one thing only: they process mortgage loans. They know exactly what documentation is required and when, so follow the mortgage company’s lead.

If you follow these simple steps, you will be your loan officer’s favorite borrower but more importantly, your loan approval will be easy and stress-free. It all boils down to communication. Talk, ask questions and work hand-in-hand and with your mortgage company to ensure a smooth and simple transition into home ownership.

Articles, Down Payments, Home Buying, Learning, Loan Programs, Purchase Mortgage, Refinance Mortgage, Shopping Mortgages Now, Uncategorized

Mortgage Closing Costs: 3 keys to successful shopping

Getting a mortgage is a complex transaction. Behind the scenes, the process of completing a mortgage requires services from a range of different providers.  Mortgage lending guidelines state that any company providing a service on your loan (and charging for it) must be accounted for and documented within your loan file.

Where can you find your closing costs?

Your mortgage company will typically collect the necessary documents pertaining to these charges and deliver a Loan Estimate.  By law, a Loan Estimate is provided to you within three days of your loan application.  This will be your first opportunity to see a detailed breakdown of the closing costs you can expect for your purchase or refinance. While some charges shown can change by up to 10 percent or more, other charges must be exact and cannot change between the time you make your application and your closing date.

When you first view the Loan Estimate, it may seem a bit confusing as you’ll find charges from numerous third parties – and you may not recognize the names or services they offer.

Fortunately, taking a short amount of time to understand the different categories of closing costs, fees and points will vastly improve your chances of getting a great deal because you will be an informed consumer. So read on!

1. Recurring vs. Non-Recurring Costs

When it comes to the costs of your mortgage loan, certain costs will occur again (recurring), while others are associated with the transaction only and are simply one-time charges (non-recurring).

Why is this important? It is important to differentiate these costs, as recurring costs will typically be associated with owning the actual property (regardless of which mortgage company closes your loan) and should be factored into your ongoing budget. Non-recurring costs are associated purely with the transaction and will not come up again.

Recurring Costs

Recurring costs include prepaid interest charges which are, in reality, your very first mortgage payment! (Wasn’t that exciting!) Normally, mortgage payments are made in arrears, which means that on the first day of every month, you are paying for the previous month’s interest accumulation and a bit of the principal balance.

When it comes time for your closing, you’ll see an amount listed as prepaid interest.  Prepaid interest is a “per diem” (per day) charge of interest between the day your loan closes up to the first day of the following month. This is the one and only time you will pay for interest ahead of time when it comes to your mortgage loan.

Example: Suppose your settlement date is on the 20th of a given month. Your settlement agent will collect ten days of interest (assuming 30 days in the month) at the time of closing. Again, this is your very first mortgage payment, and it is collected in advance just this one time.

Another form of recurring costs involves your property taxes and homeowners insurance. A full year of homeowners insurance premium is typically collected and paid to your insurance company at the time of closing.  Also, you’ll need to pay some amount of property taxes that may be due in the coming year. Property tax collection times and frequency will vary by state or county and include funds paid to the local school district, county and city.

Property taxes and homeowners insurance are recurring costs because you must continue to pay them as long as you are in your home – even if you pay off your mortgage balance completely!

If you decide (or are required to) escrow for these two items, your first regularly scheduled mortgage payment after closing (and all others) will include one-twelfth (1/12th) of your yearly tax and homeowners insurance amount.  These incremental payments will be accumulated by the mortgage company and paid when due.  If you receive a tax bill or insurance bill when you are escrowing these items it is always a good idea to forward to your mortgage company immediately.

Non-Recurring Costs

Non-Recurring costs are those costs associated with the closing of your mortgage loan which will not occur again.  Typically, these are referred to as transaction costs. Examples include a lender/broker fee (could be called “Origination Fee”), an appraisal fee, and document preparation fees.

In some states, you may also be required to pay a state-mandated transaction fee at closing. In the state of Pennsylvania, for example, a two percent (2%) transfer tax is charged by the State for each home purchase. This amount is typically split between the buyer and seller and is not a lender charge.

2. Lender Fees vs. Non-Lender Fees

When it comes to shopping for the best mortgage deal between lenders, you’ll want to pay attention to fees payable to the lender versus fees payable to third parties. Why? Lender fees and interest rates are the true “apples to apples” numbers you can compare when shopping for your mortgage provider. Accordingly, lender fees should be considered separately from third party fees which are payable to different companies and cannot be “padded” by the lender.

Note: You can always shop for third party services such as appraisal services, title companies and home inspectors, after you select a mortgage lender. 

Lender Fees

A lender or broker fee will appear in black and white when you are comparing offers or when you are viewing a Loan Estimate. This may also appear as a percentage of your loan amount.  In either case, this amount will be paid directly to the lender or broker in exchange for providing their services.

When two separate lenders provide the same interest rate, the offer that includes lower lender fees is the lower cost option of the two. 

Providing an interest rate above a “par rate” to earn yield spread (YSP) is another way money is generated for mortgage lenders or brokers.  Similar to a retail store owner sourcing and purchasing clothing at wholesale prices and then selling at a retail markup price, the mortgage lender or broker sources your loan on the wholesale market and charges a retail markup interest rate.

Non-lender Fees

Non-lender fees include charges for services such as title insurance, an appraisal or abstract. On your Loan Estimate, as well as on your Closing Disclosure, the lender charges will be located at the top of the document and all non-lender fees will be detailed below. Remember that you can shop for these third party services – just as you would a mortgage lender.

3. What are Points?

A point (discount point) is a percentage of the loan amount you can pay upfront to reduce, or discount, the interest rate on your loan.

Example: A loan officer might quote to you a 30-year fixed rate at 4.75% with no points, but if you want to get a lower rate, say 4.50%, you’ll be asked to pay one point, or one percent of the amount to be borrowed, at closing.

Points are a form of prepaid interest to the lender, and different from an origination fee or other fee, the lender is indifferent if you select to pay them. This is because the lender earns the same amount of interest either way. Either you pay a slightly higher interest rate over time, or you pay the interest upfront via a discount point and pay less interest over the life of the loan.

Lenders can provide an array of interest rate options based upon the number of points purchased. They can offer a particular interest rate for 0 points, another interest rate for 1 point, and so on. To determine whether or not paying points makes sense in your situation, it is a good idea to compare the total funds required at closing and the difference in monthly payments at various rate and point combinations. You may also want to think about how long you intend to be in the home and if paying interest ahead of schedule makes good financial sense.

Tip: Your lender can usually offer a lender credit toward closing costs if you elect to pay a higher interest rate over time. The higher rate generates extra revenue for the lender and they use these funds to pay some or all of your fees. When you hear about lenders advertising a “no closing cost loan,” this is how they do it.

Now that you know a bit more about the types of mortgage closing costs – be sure to compare them along with the interest rate when mortgage shopping. Your choice of a mortgage lender and loan program will have a lasting impact on your budget – so shop for a great loan and set yourself up for financial success by getting the best deal possible.

Tip: Compare mortgage lenders safely and easily at MortgageCS.com.  Once your account is set up – you can anonymously obtain detailed quotes for your exact situation.