Gaylord-Hansen's "Nobody Wants a Mortgage" podcast airs live on Facebook.
Bill Gaylord, NMLS #680603.
Jeff Hargrove, NMLS #965837.
The information contained is the viewpoint of the presenter(s). Individuals should consult their own financial representative.
Let’s face it, whether you are getting a mortgage or shopping for a car, a salesman will try and put their offer into the best light possible. When you understand the basics, it will be easy for you to figure it out.
We will discuss the most common “tricks” lenders play including:
It’s time to dive in and understand the tricks that are played.
First, let’s get you up to speed on what really matters when refinancing. In addition to the interest rate that is offered, there are three basic components of a refinance:
Below is a section of a Loan Estimate that is standard in the mortgage industry. For illustrative purposes, we like to describe the costs as buckets.
Bucket #1 are the lender fees associated with obtaining a mortgage. There are so many different ways a lender can put them into the Loan Estimate. Some lenders will break it all out line item by line item so you can see what you are actually paying for. Some lenders try to make it simple and just put in one fee that encompasses all the fees they are incurring. We’ll get into some of the tricks that lenders do to make their offer look attractive.
Bucket #2 include fees for outside services necessary for the loan to close. These fees are primarily title and escrow fees necessary in a refinance transaction. While you can shop for these fees, more than likely your lender will recommend a particular title and escrow company they have had a good experience with in the past. This is one of those buckets where a lender can play tricks on you.
Other costs should generally be the same for all lenders. However, lenders can play significant games with this bucket to make their closing costs more favorable. More later.
Bucket #3 includes costs to record your new transaction at the county. They also include “clean up” costs to get your new impound account set up for taxes and insurance. The “clean up” costs also include prepaid interest that is necessary to make sure your mortgage payment is effective on the first of the month. All mortgage payments have a due date at the first of the month.
You don’t do mortgages every day, we do! We see all the little tricks that lenders play to try and sell you their services. While not illegal, the little things they do can really be deceiving to someone not adept at doing this day in and day out. When shopping for a mortgage, you want to be able to compare apples-to-apples. Being educated will help you do that. Hopefully, you won’t be shopping for mortgages every day!
The first step a consumer generally makes when shopping for a refinance is to go online and view interest rates. It’s natural to see who has the lowest rates. When you Google rates, all these super low rates pop up. Big mortgage companies pay millions of dollars to Google to get to the top of the list. It is madness trying to decipher all the offers.
Lenders know this is the case and want to put their best foot forward. They will quote these super low rates and APRs that just look too good to be true. The reality is these rates typically include HUGE fees and have disclaimers galore in fine print that rates are subject to change, not everyone qualifies, your FICO score may not be high enough, and the list goes on.
The reality is that rates DO change daily and can actually change multiple times during the day. The interest rate also factors in such things as credit score, loan-to-value, debt-to-income, lock periods, type of loan, location, closing costs, etc. Thus, lenders can squirm out of the super low rates they quote on the internet. In essence, they don’t have to deliver the price they quote on the internet.
The on-line lenders are quoting super low rates to get your information and be the first in-line to sell you a loan. If you call them first, they believe the sales training program they put their loan associate through will win you over. Believe it or not, these sales associates actually get paid for how long they keep you on the phone! Most of them work in warehouse cubicles and have never even owned a home themselves. They have scripts to overcome your questions and objections.
Instead of an “advisory” call, it is a “sales” call. They are probably not looking out for your best interest on the largest debt you will ever have. They’re interested in the sale!
APR stands for Annual Percentage Rate. It was developed to help consumers understand the “real cost” of the interest rate factoring in fees. In our opinion, APR is NOT the best way to evaluate two competing offers. Why? Because the APR spreads the cost of your refinance over 30 years! The likelihood of ANYONE keeping a mortgage for 30 years is incredibly low.
The average length of time people reside in their home is around 10 years. In some instances it is far less. And in the case of the life of a mortgage due to refinancing, it’s even less. Life changes for everyone over time for many reasons:
In almost all lending offers that include lots of points, the APR will look more attractive than an offer with little or no points, because the costs are spread over 30 years! It just doesn’t make sense and in all likelihood will cost you more money than you need to spend.
Using APR as the gauge for comparing loans is antiquated and just doesn’t reflect the reality of most homeowners.
This is a good one but don’t fall for it. Some lenders go through a full analysis, quote you an extremely low interest rate, tell you how much money you can save, and the numbers can look incredible. The monthly savings are great and you have more spending money each and every month. Plus...you don’t have to come out-of-pocket for anything!
Stop the presses! The goal for most homeowners is to pay off their mortgage NOT to get into more debt! Guess what...the “no out-of-pocket” costs are tacked onto your existing mortgage. Your loan balance can go way up and it can take years to pay it back down to the level you started. Yes, the payment is lower and feels good, but you lost equity in your home that may not ever come back.
Unfortunately, we had an elderly VA couple we helped purchase a home around $300,000. Six months later, they received an offer in the mail to refinance at a lower rate. Not being able to understand what they were getting into, they refinanced, saved about $150 per month in their mortgage payment. Sounds great right! Not so fast...the lender added $21,000 to their loan amount! It will take them over 10 years to recoup this equity. The worst part, they can refinance right now at a lower interest rate with very low closing costs. They will never see the “savings” that the other lender sold them! It’s a shame and we wanted to go punch the other lender out.
While a “No out-of-pocket Refi” can be beneficial in many cases, be educated on what the lender is charging so you don’t jack up your loan amount.
The “No Cost” refinance can actually be a good option to consider. The reason is that you can start saving money right away and there is no payback period. However, a “No Cost” refinance is not fully accurate.
A “No Cost” refinance essentially absorbs the cost of obtaining the loan by offering you a higher interest rate. By giving you a higher interest rate, that loan is more valuable to a lender when it is sold to Fannie Mae or Freddie Mac or other financial investors. In other words, Fannie Mae and Freddie Mac will pay the lender more for a higher interest rate loan. This allows the lender to pay closing costs on your behalf.
Some of the reasons you would consider a “no cost” loan include:
Remember, if you decide on a “No Cost” mortgage, the goal is to get as low a rate as possible.
Many lenders will promote a refinance as if you can “skip” a payment. This is just not the case. You will owe interest on the loan for as long as you have it.
Why do they promote this? This approach is many times combined with the “no out-of-pocket” refinance. The way mortgages are structured, interest is paid in arrears. In other words, interest is paid backwards. For example, when you pay your May 1st mortgage payment, your payment pays the interest accrued in the previous month of April.
As discussed earlier, mortgage payments always fall on the 1st of the month. When you close on a refinance, it is likely you will close somewhere in the middle of the month. It could mean closing on the 2nd of the month or the 29th or somewhere in between. If this is the case, the refinance has to be “cleaned up” by having the interest paid so your payment falls on the first of the month. This is known as prepaid interest.
It could feel like you're skipping a payment but you are definitely paying interest. Let’s show why it feels like you are skipping a payment.
Assume you close your refinance on April 5th. You would have to “pre-pay” the interest on your new loan from April 5th through April 30th. Because interest is paid in arrears, you will not have a May 1st payment because you have already paid the April interest. Your May 1st payment is to pay April interest. Your first payment after refinancing in this instance will be June 1st which will pay May interest. Thus, it feels like you skipped May’s mortgage payment.
In the end, you are paying interest on your loan.
How does a lender rope you in? They try to show you closing costs that are lower than their competitor. A law known as TRID, put into effect in 2015, created 3 categories of fee tolerance levels. In other words, the initial Loan Estimate has fee tolerance levels when compared to your final Closing Disclosure when you actually close on your loan. For a more complete explanation on the tolerance levels, this is a good article to refer to Understand the TRID Rule and Fee Tolerances
Below is a quick explanation of the fee tolerances:
Let’s talk about the fee game. This is where lenders bend and stretch to make their Loan Estimate look better than their competitor. Are they lying? Probably not. They are using the laws to the best of their advantage but not giving you the full story.
Let’s go back to our three buckets of expenses:
Bucket #1 - These are mortgage costs. The lender knows what they are and when they are disclosed to you on the Loan Estimate, they cannot change on your final disclosure. Interestingly, we have seen some lenders “move” a fee into Bucket #2 so it looks like their fees are lower. An example of this is Document Preparation. We have seen lenders push that out of their bucket into the third party bucket. Be careful.
Bucket #2 - These are 3rd party fees that a borrower can technically shop for. These generally fall into the 10% tolerance level. In other words, some lenders will quote title and escrow fees lower than they know they will be. It just makes their closing costs appear lower and more attractive. The lender knows they don’t have to honor that lower fee quoted on the Loan Estimate because of the 10% tolerance.
Bucket #3 - This is the big one. Bucket 3 expenses are what is known as prepaid items. Remember the prepaid interest to make your mortgage payment due on the 1st of the month? This is part of it. The other part is to reestablish the monies held by the mortgage company to pay your real estate taxes and home insurance when they become due and payable.
Regardless of who you select for your refinance, Bucket #3 costs should be virtually the same for every mortgage company. However, this section can make one lender look to have incredibly low costs when compared to the other lender. Here is an example:
The difference is $3,415!!! If you didn’t know how to evaluate this you would think that Lender A has far less closing costs than Lender B. They may actually be able to add higher expenses in the other buckets and still look better.
This type of situation can actually happen and we’ve seen it! Bucket 3 expenses have unlimited tolerance. This means they can quote whatever they feel like and not have to adhere to their quote. You may be in for a big surprise. Or...better yet, they increase your loan amount because they quoted you a “No out-of-pocket Refi” and they hide this from you. While Lender A is supposed to give you a good indication of what to expect, they’re not telling you the whole story.
In the case above, Lender B has likely done more research on what to expect to reestablish your impound account just due to the timing of the year and when your insurance and taxes are due.
Remember...these costs will be virtually identical from lender to lender.
Impound refund: The funny thing about this is you currently have an impound account established with your current mortgage. The new account is to replace your existing account. The monies in your current account will be refunded to you within 30 days after close of escrow by law. In essence, the reestablishment of a new escrow account isn’t really a cost at all. It’s a wash.
If your goal is to payoff your mortgage, be careful not to increase your loan balance through the “no out-of-pocket” refinance as your escrow funds come back to you in a short period of time.
This is another good one. We all get a bunch of junk mail. Sometimes that junk mail catches your eye because it has a familiar name on it or an offer that looks too good to be true. How does a lender rope you in? Let’s count the ways!
1. The mailer looks like it’s from your current lender: Your current lender’s name is prominent in the text but it is from a completely different lender. Sometimes you can’t even tell who the mailer is from. It shows “Re: LOANDEPOT” The “Re:” stands for “regarding”. It wants you to think it is from your current lender so you will call.
2. It comes in an official looking letter with perforations. The packaging of the letter looks like it is official business and could definitely be from your current lender.
3. It has an expiration date. This cracks us up because the mailer was probably produced and printed 2 weeks prior to you receiving it in the mail. As mentioned earlier, rates change daily and sometimes hourly! The rates quoted are totally out of date and when you call they can weasel out of the offer.
4. Includes immediate benefits: These are sales and marketing “hooks”. The most recent mailer we received included the following:
Does this sound familiar to you? Sounds like skip a payment and no-out-of-pocket tricks discussed earlier.
5. Low APR - This strategy is used on these mailers as well. The low APR is likely packed with high closing costs and spread out over 30 years. There are no specifics on closing costs. This just isn’t reality!
6. Multiple Mailers - The lender sends you multiple mailers that quotes a lower rate for each mailer. It makes it look like rates are continuing to drop. Again...the rates are out of date before they even mail it to you!
We could go on with other little deceptions but you get the idea. Just be careful. They are setting the hook and hope you bite without knowing what you’re getting into.
At the end of the day, protect yourself by becoming educated during the process. Don’t be sold! While it can be overwhelming to analyze, there are mortgage lenders that can help you decipher and compare competing offers. They will provide you with the information and advice you need to make a good financial decision.
One of the tools we use is Mortgage Coach. It is a financial calculator that will compare each offer down to the minute details. It can also help you better understand the differences between a “no cost”, paying points, or a “no out-of-pocket” option and help you determine which choice best fits your financial goals. Below is an example of a homeowner interested in refinancing from a 30 year to a 15 year mortgage.
Are you ready to get started with your refinance analysis? Go to Refi Analysis and start today! We will put together an analysis to determine how to structure your refinance that best fits your long term financial goals.
We’re super excited for you to start saving money and can’t wait to help!
Bill & Minh discuss a VERY pressing topic: the end of the foreclosure moratorium! Will more houses be on the market soon?
We're with our pal Minh of What's A Mortgage discussing a topic that flies under the radar most of the time but could truly make or break it when it comes to getting into a home in this crazy market: Pre-Approval vs. UNDERWRITTEN Pre-Approval!