The most important factor when obtaining a mortgage
In the mid-2000’s, I did a consolidation loan with a company called Lending Club. I applied and was approved to consolidate the debt I had at the time, only to see the actual amount of cash I received was over a thousand less than what I had financed- ouch! It was explained on the phone that their origination fees were deducted. I had no idea there were fees, given the easy and quick e-sign process to go through pages and pages of paperwork. I was fresh out of college, so I didn’t know any better and it was ultimately my fault for not reading or understanding the fine details. I can say, it will never happen again.
I want to share some very important mortgage lending advice: Every lender/bank/broker can offer you the same interest rates. The difference comes down to the cost, and only the cost, of your chosen interest rate. What makes a mortgage loan estimate (LE) confusing is that there are many closing costs that your actual lender does not control, yet many of the costs can read differently between different lenders, banks, etc. making it very difficult for you, the borrower, to tell who is actually giving you a better deal. Understanding this, I am going to break down page 2 of the official federal LE that itemizes the costs of a mortgage so you can fully understand each section and what the lender is charging you.
For the purpose of simplicity, I am dissecting a fixed rate refinance LE and not a purchase LE; however, the premise is the same with the exception of down payment, deposit, seller credits, and other things that are unaffiliated with actual costs.
Here is what a blank “closing cost details” page of an official LE looks like, each section has its own importance:
LOAN COSTS
Section A: Origination Charges
These are fees charged by your lender. The fees in this section can include a standard Origination Fee, Processing Fee, Underwriting Fee, and/or Points. Some lenders charge all of these items, some charge one or more.
Example of Lender Fees:
Section B: Services You Cannot Shop For
These are fees passed through for services performed. All lenders have different vendors that perform various services such as a credit report, appraisal, and many others that are required for a successful mortgage transaction. On government loans such as VA or FHA – Their upfront fee would appear here as applicable.
Example of Vendor Fees:
Section C: Services You Can Shop For
These are fees typically charged by a title company and/or attorney (depending on state regulations). For a purchase these fees will ultimately be different on every lender estimate you receive. This is because you and your realtor are selecting the title/attorney and lenders are just trying to estimate in good faith. Once the purchase process begins, your lender will order title from the chosen title/attorney and will replace their estimated fees with their actual fees. So ultimately, when you close, the fees listed here will be the same regardless of your chosen lender. For a refinance, the lender will get an estimate from their preferred title company and the fees should be accurate unless you choose to use your own title/attorney. The fees in this section vary greatly from state to state in accordance to state and local laws.
Section D: Total Loan Costs (A+B+C)
This section of the LE is just a summation of section A-C stating it is total “loan costs”. There are never additional fees in this section.
OTHER COSTS
Section E: Taxes and Other Government Fees
These are fees charged by government entities. In some states there are taxes imposed by the state and/or local government for a purchase or refinance. Your local government will have a recording fee for the deed. In a purchase transaction, in many states, the seller can be responsible for a portion of these costs. Fees in this section will be the same regardless of lender or mortgage option chosen
Section F: Prepaids These are fees that are due related to taxes, insurance, and interest - mostly dependent on when the loan closes. For a purchase, you will pay your homeowners insurance in advance for a full year. If taxes are paid in advance in your county, then the amount needed for taxes would be listed here also. In most states/counties, taxes are paid in arrears and there would be no fee.
For a refinance, taxes and insurance premiums are only collected here if they are due within two months of close. Prepaid Interest is entirely based on your closing date. If you close closer to the beginning of a month it will be more expensive than if you close closer to the end of the month. Prepaid interest is charged because interest would not start accruing on your loan until the first of the month after close.
Prepaids will be the same regardless of lender or mortgage option chosen. Prepaids are not considered an investment to the mortgage transaction.
Section G: Initial Escrow Payment at Closing
In my blog, "Understanding Escrow Reserves", I go into detail on the purpose of escrow reserves and how they work.
For a home purchase, you can expect to pay three months of taxes and insurance. Although you are paying insurance in advance through prepaids, your continued monthly mortgage payment with the reserves will give enough money in your escrow account to pay your next insurance premium when it’s due the following year.
For a refinance, the amount needed in this section is solely based on when your taxes and insurance are due. You will receive a refund from your current servicer for your escrow balance to make up for this and any prepaids. Escrow Payment is not considered an investment to the mortgage transaction and the amount will be the same regardless of lender or mortgage option chosen.
Section H: Other
For a home purchase you will see the “optional” fee for an Owner’s Title Policy. This is an optional fee imposed by the title/attorney to insure you against any claims against your ownership of the home and any dispute issues on any type of liens that went unnoticed on the property. Also, if you are purchasing a property in a homeowner’s association (HOA), they may have specific fees to enter new ownership into the association. For a refinance there typically are no fees associated with this section. Other costs will be the same regardless of lender or mortgage option chosen.
Section I: Total Other Costs (E + F + G + H)
This section of the LE is just a summation of section E-H stating it is total “other costs”. There are never additional fees in this section.
Section J: Lender Credits
Lender Credits are an excellent tool to help alleviate costs of a mortgage. If you are purchasing a home it is most effective to go to the seller to help cover closing costs; however, lender credits are available in exchange for an above market rate. The market is changing all the time so don’t feel bad about utilizing lender credits, as necessary. Depending on where the market is at, there could be an excellent opportunity to refinance down the road. When refinancing, I am a huge fan of utilizing lender credits for “no-cost/no-investment loans”- See my “Refinance without Risk” post.
Summary
Purchase: Full loan estimates are an excellent tool for you to prepare yourself on the expenses of a home purchase. However, if you are trying to get an understanding of what fees the lender is charging or passing though, you should look at the rate you are receiving and the total cost of the rate:
(Section A + B) - (Section J) = Investment with Lender
To add another iron to the fire, the cost and/or lender credit of each interest rate option changes every day with the mortgage market. If you are new to the process, have a consultation and get an “idea” – but to have exact figures prior to finding a home is impossible. A good and experienced loan officer will work with you side by side to make sure you are taken care of.
Refinance: When refinancing you will want to look at the total cost of the loan versus the rate you are receiving. It is important to understand that Prepaids and Escrow Reserves are not considered an investment. These costs are made up by a skipped payment as well as your refunded escrow account from the previous mortgage servicer. If you are trying to understand your total return on investment in a refinance you should look at the total investment:
(Section A + B + C + E) - (Section J) = Total Investment with Refinance
Mortgage Pro Tip:
How much you invest in one interest rate versus another interest rate rests entirely based on your short- and long-term goals with a property: while also taking market fluctuations into consideration. Investing in lower interest rates take time for the lower payment to pay for itself; often 6-10 years before it reaches the “break-even point”.
Interest rates have moved up and down a lot over the years. Since 2016, rates have dropped into fantastic territory several times due to events like Brexit / China Trade War / Corona Virus. So historically, taking higher rates and playing the short-term game has proven to be the safest and most cost-effective strategy. However, for various reasons- this may not always be the best way to go. There are great options out there, but also very bad options – it’s a good idea to have some knowledge yourself while also expressing goals, concerns, and questions with a proven and effective mortgage consultant.
Disclaimer: The information and graphics provided is for information purposes only. It is not a commitment to lend on any specified terms. Opinions related to this article are solely those of Mark Taylor; NMLS: 1504731 and not necessarily shared by UMortgage
Mark Taylor | NMLS # 1504731 | AL: 67777, AZ: 0939604, CA: CA-DBO1504731, CO: 100520451, FL: LO35912, GA: 51692, ID: MLO-21237, IL: 031.0043598, KS: LO.0039017, KY: MC394725, LA:, MO: 18752-MLO, MT: 1504731, NE:, NV: 59226, NJ:, NM:, NC: I-170118, OR:, PA: 66651, RI:, SC: MLO-1504731, TN: 125173, TX:, VA: MLO-29826VA, WA: MLO-1504731, WV: LO-36484, WI: 1504731, WY: 6646
For information purposes only. This is not a commitment to lend or extend credit. Information and/or dates are subject to change without notice. All loans are subject to credit approval. UMortgage LLC D/B/A UMortgage NMLS #1457759 Equal Housing Opportunity, 2022 All Rights Reserved.