© 2012 Rockwell Publishing Financing Residential Real Estate Lesson 7: The Financing Process

© 2012 Rockwell Publishing Introduction This lesson will cover: shopping for a loan applying for a loan application processing closing

© 2012 Rockwell Publishing Shopping for Loan For home buyers, shopping for mortgage loan involves: assessing wants, needs, finances choosing lender comparing rates, fees evaluating financing options

© 2012 Rockwell Publishing Shopping for Loan To establish price range before house hunting begins, buyers should find out what financing they qualify for. Two ways of doing that: prequalifying preapproval Assessing buyer’s position

© 2012 Rockwell Publishing Assessing Buyer’s Position Prequalifying: informal process (done by real estate agent or online mortgage calculator) rough estimate of maximum loan amount Preapproval: formal process (done only by lender) specific maximum loan amount Prequalifying vs. preapproval

© 2012 Rockwell Publishing Assessing Buyer’s Position For preapproval, buyer must: complete loan application provide documentation of income, assets, debts, credit history Preapproval

© 2012 Rockwell Publishing Assessing Buyer’s Position Lender gives buyer preapproval letter, agreeing to loan up to specified amount. Valid only for limited period. Advantages of preapproval: tool in negotiations with sellers streamlines closing process Preapproval

© 2012 Rockwell Publishing Assessing Buyer’s Position Prequalifying still useful for buyers who aren’t ready to apply for preapproval. Knowing how to prequalify buyer can also help agent understand underwriting process. Prequalifying

© 2012 Rockwell Publishing Assessing Buyer’s Position Basic steps in prequalifying: 1. Apply income ratios to monthly income to find maximum monthly payment. Must cover principal, interest, taxes, insurance (PITI). 2. Subtract percentage from PITI figure to find maximum principal and interest payment. How to prequalify buyers

© 2012 Rockwell Publishing Assessing Buyer’s Position 3. Use current market interest rate to calculate maximum loan amount based on maximum principal and interest payment. 4. Divide maximum loan amount by LTV ratio to determine ceiling of price range. How to prequalify buyers

© 2012 Rockwell Publishing Choosing Lender Several ways to find lender: research referrals mortgage broker buyer’s bank Identifying prospects

© 2012 Rockwell Publishing Choosing Lender Involves reviewing print, online, other media advertisements. Should be followed with phone calls. Talk to loan officers. Newspaper may have mortgage comparison chart. Research

© 2012 Rockwell Publishing Choosing Lender Often best way to find good lender. Ask family, friends, co-workers. Talk to real estate agent. Agents should not accept referral fees. Referrals

© 2012 Rockwell Publishing Choosing Lender Mortgage broker specializes in bringing buyers and lenders together. Presents buyers with options offered by multiple lenders. Research still necessary to find good broker. Mortgage broker

© 2012 Rockwell Publishing Choosing Lender Banks sometimes offer special financing to established customers. One location for handling all financial matters. Buyer’s bank

© 2012 Rockwell Publishing Choosing Lender Buyers should talk to 3 or 4 lenders before submitting application. Ask each lender for written good faith estimate of loan costs, closing costs. Good loan originator puts buyers at ease, explains process thoroughly. Interviewing prospective lenders

© 2012 Rockwell Publishing Choosing Lender Buyers should also consider lender’s reputation. Expertise, efficiency, stability, honesty. Get references from lender’s recent customers. Look for customer satisfaction information online. Interviewing prospective lenders

© 2012 Rockwell Publishing Summary Prequalifying & Choosing Lender Prequalifying Preapproval Preapproval letter PITI Loan originator Loan officer Mortgage broker Referral Good faith estimate of costs

© 2012 Rockwell Publishing Loan Costs Primary consideration for most buyers in choosing lender is how much loan will cost. In addition to interest rate, cost of loan may include: loan origination fee discount points miscellaneous charges mortgage broker’s fee

© 2012 Rockwell Publishing Loan Costs Point: percentage point. 1 point = 1% of loan amount. Some lenders use “points” to refer to origination fee and discount points together. Others use “points” to refer only to discount points. Points

© 2012 Rockwell Publishing Loan Costs Origination fee: pays lender’s expenses, such as staff compensation, facilities costs, other overhead. Charged in almost every mortgage transaction. Typically around 1% of loan amount. Paid at closing, usually by borrower. Loan origination fee

© 2012 Rockwell Publishing Loan Costs Lump sum paid at closing to increase lender’s upfront yield (profit) on loan. In exchange for upfront payment, lender charges lower interest rate. May save borrower money in long run, depending on how long loan in place. Discount points

© 2012 Rockwell Publishing Loan Costs Discount points charged can vary depending on market conditions, other factors. Might charge 4 to 6 points for 1% interest rate reduction. Discount points

© 2012 Rockwell Publishing Loan Costs May be paid by buyer or seller. Buydown: paying discount points to “buy down” buyer’s interest rate. When buyer pays points, pays lender in cash at closing. When seller pays points, amount withheld from loan, deducted from seller’s proceeds. Discount points

© 2012 Rockwell Publishing Loan Costs Lenders often charge borrowers other fees, such as: application fee document preparation fee underwriting fee Miscellaneous fees

© 2012 Rockwell Publishing Loan Costs Buyers working with mortgage broker usually charged mortgage broker’s fee. May be separate fee or included in points quote for loan. Broker gets loan at wholesale price, marks it up to retail price, keeps overage as fee. Mortgage broker’s compensation

© 2012 Rockwell Publishing Comparing Cost of Loans Various fees charged in addition to interest make it hard to compare loans offered by different lenders. Truth in Lending Act (TILA): federal consumer protection law requiring lenders to disclose loan costs in format that makes comparison easier. Truth in Lending Act

© 2012 Rockwell Publishing Truth in Lending Act APR most important TILA disclosure. APR expresses relationship between amount financed and total finance charges as a percentage. To determine which of two loans is more expensive, compare APRs, not just interest rates. Annual percentage rate

© 2012 Rockwell Publishing Truth in Lending Act Another key TILA disclosure. Total finance charge includes: interest origination fee discount points (by buyer) mortgage broker’s fee finder’s fee service fee mortgage insurance/guaranty fees Total finance charge

© 2012 Rockwell Publishing Truth in Lending Act Does NOT include: title insurance costs credit report charges appraisal fee discount points paid by seller Total finance charge

© 2012 Rockwell Publishing Loan Costs Some lenders offer no-fee loans or low-fee loans. No major lender fees (origination fee, points). Only financing charge is interest. Interest rate often much higher. Helpful for buyers with little cash for closing. No-fee or low-fee loans

© 2012 Rockwell Publishing Evaluating Financing Options First-time buyers may benefit from home buyer counseling before deciding what financing option is best for them. Home buyer counseling

© 2012 Rockwell Publishing Evaluating Financing Options Department of HUD developed Housing Counseling Assistance Program. Open to anyone looking for home or applying for mortgage. Also for renters and people who already own home. Home buyer counseling

© 2012 Rockwell Publishing Evaluating Financing Options Program intended to educate people about home ownership responsibilities: making mortgage/rent payments maintaining home avoiding foreclosure/eviction Counselor would prepare action plan to help buyer achieve goals. Home buyer counseling

© 2012 Rockwell Publishing Evaluating Financing Options Federal funding for the program was eliminated in mid Legislation to restore funding currently being considered. Home buyer counseling

© 2012 Rockwell Publishing Summary Loan Costs & Financing Options Origination fee Discount points Buydown Mortgage broker’s fee Truth in Lending Act APR Total finance charge No-fee or low-fee loan Home buyer counseling

© 2012 Rockwell Publishing Applying for Loan After buyers have chosen lender, next step is to apply for loan. Loan interview: buyers talk with loan originator. Originator helps buyers: choose best financing option prepare application Loan interview

© 2012 Rockwell Publishing Loan Interview During loan interview, originator may enter information into automated underwriting system. System provides preliminary evaluation of what buyers are likely to qualify for. Does not guarantee preapproval. Prequalifying during interview

© 2012 Rockwell Publishing Loan Interview Loan originator may require deposit to cover certain expenses: application fee credit report fee other preliminary charges Deposit

© 2012 Rockwell Publishing Loan Interview If buyers have already signed purchase agreement, loan originator reviews contract. Main concerns: terms of financing contingency closing date Contract and closing date

© 2012 Rockwell Publishing Loan Application Form First section of form asks about: type of loan loan amount loan term interest rate Type and terms of loan

© 2012 Rockwell Publishing Loan Application Form Second section asks for: property address/legal description purpose of loan (purchase, construction, refinancing) how buyer will take title source of downpayment Property information and purpose

© 2012 Rockwell Publishing Loan Application Form Third section asks about applicant(s): name social security number date of birth years of schooling marital status Number, age of any dependents Borrower/co-borrower information

© 2012 Rockwell Publishing Loan Application Form Each applicant must also provide: name and address of employer number of years at job position held type of business Employment information

© 2012 Rockwell Publishing Loan Application Form This section asks about: primary employment income overtime, bonuses, or commissions other sources of income current rent or mortgage payment Income and monthly housing expense

© 2012 Rockwell Publishing Loan Application Form Assets may include: good faith deposit money in bank investments Liabilities may include: car loan credit cards alimony/child support Assets and liabilities

© 2012 Rockwell Publishing Loan Application Form Application also asks for information about transaction, including: purchase price cost of land prepaid expenses closing costs Details of transaction

© 2012 Rockwell Publishing Loan Application Form Applicants must answer questions about: outstanding judgments, lawsuits bankruptcies foreclosures or deeds in lieu alimony/child support citizenship Declarations

© 2012 Rockwell Publishing Loan Application Form Applicants also must state: whether any portion of downpayment was borrowed whether property is to be primary residence any other property owned in last three years Declarations

© 2012 Rockwell Publishing Applying for Loan Truth in Lending Act (TILA): APR, total finance charge, lender’s charges Real Estate Settlement Procedures Act (RESPA): good faith estimate of closing costs booklet about closing process mortgage servicing disclosure Federal disclosure requirements

© 2012 Rockwell Publishing Applying for Loan Lenders must provide all disclosures within 3 business days after application submitted. Disclosures not required if application rejected before 3-day deadline. If any costs change, new disclosures must be made before closing. Federal disclosure requirements

© 2012 Rockwell Publishing Applying for Loan Sharp increase in rates might increase monthly payment so buyers no longer qualify. Should ask lender about lock-in. Lock-in: lender guarantees certain interest rate for specified period. Float: interest rate will move up or down with market interest rates until closing. Locking interest rate

© 2012 Rockwell Publishing Applying for Loan Lock-in period should extend beyond expected loan processing time. But lender can charge locked-in rate if market rates have gone down. Locking interest rate

© 2012 Rockwell Publishing Summary Applying for Loan Uniform Residential Loan Application Real Estate Settlement Procedures Act Good faith estimate of closing costs Rate lock-in Float

© 2012 Rockwell Publishing Application Processing After application form filled out: verification forms sent to employers, banks credit reports, credit scores obtained if purchase agreement exists: appraisal ordered title report ordered

© 2012 Rockwell Publishing Application Processing After verification forms returned and reports received, loan processor puts together loan package and sends it to underwriting department.

© 2012 Rockwell Publishing Underwriting Decision Underwriter reviews loan package, applies appropriate qualifying standards to buyers. May use automated underwriting system. Loan is either: approved rejected approved subject to conditions

© 2012 Rockwell Publishing Underwriting Decision If loan denied, lender must provide explanation. Written statement within 30 days. Buyers may want to: apply to different lender apply for different type of loan wait and take steps to improve finances Rejection

© 2012 Rockwell Publishing Underwriting Decision Conditional commitment commits lender to making loan if buyers: fulfill specified conditions, and/or submit additional documentation. Conditional commitment

© 2012 Rockwell Publishing Underwriting Decision Preapproval is form of conditional commitment. Approval contingent on: satisfactory appraisal satisfactory title report Preapproval

© 2012 Rockwell Publishing Underwriting Decision States that lender will loan buyers up to specified amount to buy house. Expires at end of specified period. Lender may agree to extension if buyers’ information reverified. Preapproval letter

© 2012 Rockwell Publishing Underwriting Decision When all conditions for approval are satisfied, lender issues final commitment letter. Confirms loan terms. Has expiration date. Final commitment

© 2012 Rockwell Publishing Closing Loan Last stage of financing process coordinated with closing of property sale. In many areas, closings handled through escrow. Escrow: neutral third party holds money and documents for buyer and seller until transaction ready to close. Escrow

© 2012 Rockwell Publishing Closing Loan Closing agent (escrow agent): makes sure all requirements are taken care of before closing date disburses purchase price, delivers deed when conditions in purchase agreement are satisfied Closing agent

© 2012 Rockwell Publishing Closing Loan May be: independent escrow agent employee of lender title company lawyer real estate broker Closing agent

© 2012 Rockwell Publishing Closing Loan Clearing and insuring title Inspections and repairs Loan documents issued and signed Funding loan Preparing settlement statements Recording documents Disbursing funds Steps in closing process

© 2012 Rockwell Publishing Steps in Closing Process Any liens that would have higher priority than new mortgage or deed of trust must be removed. Doesn’t include property tax or special assessment liens. To remove lien: seller pays amount owed release obtained and recorded Clearing and insuring title

© 2012 Rockwell Publishing Steps in Closing Process Lender will require extended coverage title insurance policy to protect its lien priority. Usually paid for by buyer. Clearing and insuring title

© 2012 Rockwell Publishing Steps in Closing Process Lender may require inspections or tests, such as: pest control inspection soil percolation test flood hazard inspection Based on inspection report, lender decides whether to require repairs or other corrective steps. Inspections and repairs

© 2012 Rockwell Publishing Steps in Closing Process Once loan has been approved, lender forwards loan documents to closing agent. Buyer: deposits funds required for closing into escrow signs loan documents Loan documents and buyer’s funds

© 2012 Rockwell Publishing Steps in Closing Process Lender often requires buyer to make deposit into impound account at closing. Ensures taxes, insurance will be paid on time. Portion of buyer’s monthly payment goes into impound account. Lender pays taxes and insurance out of account when due. Impound account

© 2012 Rockwell Publishing Steps in Closing Process Buyer will also pay interim interest (prepaid interest) at closing, since: buyer’s first payment is not due on first day of month immediately after closing, and mortgage interest paid in arrears, after it accrues. Interim interest

© 2012 Rockwell Publishing Steps in Closing Process Funding the loan: when lender releases buyer’s loan funds to closing agent. Happens only after: buyer signs loan documents, lender reverifies buyer’s employment and other information, and any other conditions imposed by lender have been satisfied. Funding loan

© 2012 Rockwell Publishing Steps in Closing Process Final settlement statements for buyer and seller itemize charges, credits for each party. RESPA requires closing agent to: use Uniform Settlement Statement form allow buyer to review statement at least one day before closing if buyer asks Settlement statements

© 2012 Rockwell Publishing Steps in Closing Process Closing agent records deed, other documents, disburses funds to parties. Title company issues policies. Lender gives buyer copy of final loan documents. Buyer gives lender copy of hazard insurance policy. Final steps

© 2012 Rockwell Publishing Summary Application Processing & Closing Loan package Conditional commitment Preapproval Final commitment Closing agent Escrow Interim interest Impound account Funding loan