Q : What are the most commonly made mistakes in Buying a house?
A : If you're like most people, purchasing a home is the biggest
investment you'll ever make. If you're considering buying a
home, you're likely aware of the complexity of the endeavor.
Because of the numerous factors to consider when purchasing a
home, it's important to prepare as best you can. Some common
home-buying principals and caveats are presented below for your
By keeping them in
mind, you'll help create a successful and more enjoyable
experience. These Top Ten lists are by no means exhaustive.
Since your home could cost you 25 to 40 percent of your gross
income, it's important to conduct research, ask questions and
study the process carefully.
Buying a home
Looking for a home
without being Pre-Approved...
As a potential buyer
competing for a property, you'll have a better chance of getting
your offer accepted by being as prepared as possible. Consider
this hierarchy of preparedness: - Neither pre-qualified nor
pre-approved - Pre-qualified - Pre-approved
available at each level can be easily understood when viewed
from the seller's perspective. Imagine you're a seller in
receipt of multiple offers to purchase your property. A complete
stranger (buyer) is asking you to take your property off the
market for at least the next two to three weeks while they apply
for a loan. As the seller, lets consider the type of buyer you'd
prefer to deal with.
Q : What are the most commonly made mistakes in Refinancing a
A : Refinancing with your existing lender without shopping
around... Your existing lender may not have the best rates and
programs. There is a general misconception that it is easier to
work with your current lender. In most cases, your current
lender will require the same documentation as other companies.
This is because most loans are sold on the secondary market and
have to be approved independently. Even if you have made all
your mortgage payments on time, your existing lender will still
have to verify assets, liabilities, employment, etc. all over
Not doing a
break-even analysis... Determine the total cost of the
transaction, then calculate how much you will save every month.
Divide the total cost by the monthly savings to find the number
of months you will have to stay in the property to break even.
Example: if your
transaction costs $2000 and you save $50/month, you break even
in 2000/50 = 40 months. In this case you'd refinance if you
planned to stay in your home for at least 40 months.
Note: This is a
simplified break-even analysis. If you are refinancing
considering switching from an adjustable to a fixed loan, or
from a 30-year loan to a 15-year loan, the analysis becomes much
Q : What are the most commonly made mistakes in getting a Home
A : Not knowing if your loan has a pre-payment penalty clause.
If you are getting a "NO FEE" home-equity loan, chances are
there's a hefty pre-payment penalty included. You'll want to
avoid such a loan if you are planning to sell or refinance in
the next three to five years.
Getting too large a
credit line. When you get too large a credit line, you can be
turned down for other loans because some lenders calculate your
payments based upon the available credit--not the used credit.
Even when your equity line has a zero balance, having a large
equity line indicates a large potential payment, which can make
it difficult to qualify for other loans.
the difference between an equity loan and an equity line. An
equity loan is closed--i.e., you get all your money up front and
make fixed payments until it is paid if full. An equity line is
open--i.e., you can get numerous advances for various amounts as
you desire. Most equity lines are accessed through a checkbook
or a credit card. For both equity loans and lines, you can only
be charged interest on the outstanding principal balance.
Use an equity loan
when you need all the money up front--e.g., for home
improvements, debt consolidation, etc. Use an equity line when
you have a periodic need for money, or need the money for a
future event--e.g., childrens' college tuition in the future.
Not checking the
lifecap on your equity line. Many credit lines have lifecaps of
18 percent. Be prepaired to make payments at the highest
Q : Should I Refinance?
A : The most common reason for refinancing is to save money.
Saving money through refinancing can be achieved in two ways:
1) By obtaining a
lower interest rate that causes one's monthly mortgage payment
to be reduced.
2) By reducing the term of the loan, thus saving money over the
life of the loan. For example, refinancing from a 30-year loan
to a 15-year loan might result in higher monthly payments, but
the total of the payments made during the life of the loan can
be reduced significantly.
refinance to convert their adjustable loan to a fixed loan. The
main reason behind this type of refinance is to obtain the
stability and the security of a fixed loan. Fixed loans are very
popular when interest rates are low, whereas adjustable loans
tend to be more popular when rates are higher. When rates are
low, homeowners refinance to lock in low rates. When rates are
high, homeowners prefer adjustable loans to obtain lower
A third reason why
homeowners refinance is to consolidate debts and replace
high-interest loans with a low-rate mortgage. The loans being
consolidated may include second mortgages, credit lines, student
loans, credit cards, etc. In many cases, debt consolidation
results in tax savings, since consumers loans are not tax
deductible, while a mortgage loan is tax deductible.
The answer to the
question "Should I refinance?" is a complex one, since every
situation is different and no two homeowners are in the exact
same situation. Even the conventional wisdom of refinancing only
when you can save 2% on your mortgage is not really true. If you
are refinancing to save money on your monthly payments, the
following calculation is more appropriate than the rule of 2%:
1) Calculate the
total cost of the refinance example: $2,000 2) Calculate the
monthly savings example: $100/month 3) Divide the result in 1 by
the result in 2 in this case 2000/100 = 20 months.
This shows the
break-even time. If you plan to live in the house for longer
than this period of time, it makes sense to refinance.
Sometimes, you do not have a choice you are forced to refinance.
This happens when you have a loan with a balloon provision, but
with no conversion option. In this case it is best to refinance
a few months before the balloon comes due.
Whatever you choose
to do, consulting with a seasoned mortgage professional can
often save you time and money. Make a few phone calls, check out
a few web sites, crunch on a few calculators and spend some time
to understand the options available to you.
Q : Should I pay points? Does a 0 point/0 fee loan really exist?
A : The best way to decide whether you should pay points or not
is to perform a break-even analysis. This is done as follows:
Calculate the cost of the points. Example: 2 points on a
$100,000 loan is $2,000. Calculate the monthly savings on the
loan as a result of obtaining a lower interest rate. Example:
$50 per month Divide the cost of the points by the monthly
savings to come up with the number of months to break even. In
the above example, this number is 40 months. If you plan to keep
the house for longer than the break-even number of months, then
it makes sense to pay points; otherwise it does not. The above
calculation does not take into account the tax advantages of
points. When you are buying a house the points you pay are
tax-deductible, so you realize some savings immediately. On the
other hand, when you get a lower payment, your tax deduction
reduces! This makes it a little difficult to calculate the
break-even time taking taxes into account. In the case of a
purchase, taxes definitely reduce the break-even time. However,
in the case of a refinance, the points are NOT tax-deductible,
but have to be amortized over the life of the loan. This results
in few tax benefits or none at all, so there is little or no
effect on the time to break even. If none of the above makes
sense, use this simple rule of thumb: If you plan to stay in the
house for less than 3 years, do not pay points. If you plan to
stay in the house for more than 5 years, pay 1 to 2 points. If
you plan to stay in the house for between 3 and 5 years, it does
not make a significant difference whether you pay points or not!
Q : What is a FICO score?
A : A FICO score is a credit score developed by Fair Isaac & Co.
Credit scoring is a method of determining the likelihood that
credit users will pay their bills. Fair, Isaac began its
pioneering work with credit scoring in the late 1950s and, since
then, scoring has become widely accepted by lenders as a
reliable means of credit evaluation. A credit score attempts to
condense a borrowers credit history into a single number. Fair,
Isaac & Co. and the credit bureaus do not reveal how these
scores are computed. The Federal Trade Commission has ruled this
to be acceptable.
Credit scores are
calculated by using scoring models and mathematical tables that
assign points for different pieces of information which best
predict future credit performance. Developing these models
involves studying how thousands, even millions, of people have
used credit. Score-model developers find predictive factors in
the data that have proven to indicate future credit performance.
Models can be developed from different sources of data.
Credit-bureau models are developed from information in consumer
Q : Why do interest rates change?
A : To understand why mortgage rates change we must first ask
the more general question, "Why do interest rates change?" It is
important to realize that there is not one interest rate, but
many interest rates! Prime rate: The rate offered to a bank's
best customers. Treasury bill rates: Treasury bills are
short-term debt instruments used by the U.S. Government to
finance their debt. Commonly called T-bills they come in
denominations of 3 months, 6 months and 1 year. Each treasury
bill has a corresponding interest rate (i.e. 3-month T-bill
rate, 1-year T-bill rate). Treasury Notes: Intermediate-term
debt instruments used by the U.S. Government to finance their
debt. They come in denominations of 2 years, 5 years and 10
years. Treasury Bonds: Long-debt instruments used by the U.S.
Government to finance its debt. Treasury bonds come in 30-year
denominations. Federal Funds Rate: Rates banks charge each other
for overnight loans. Federal Discount Rate: Rate New York Fed
charges to member banks. Libor: London Interbank Offered Rates.
Average London Eurodollar rates. 6 month CD rate: The average
rate that you get when you invest in a 6-month CD. 11th District
Cost of Funds: Rate determined by averaging a composite of other
rates. Fannie Mae-Backed Security rates: Fannie Mae pools large
quantities of mortgages, creates securities with them, and sells
them as Fannie Mae-backed securities. The rates on these
securities influence mortgage rates very strongly. Ginnie
Mae-Backed Security rates: Ginnie Mae pools large quantities of
mortgages, secures them and sells them as Ginnie Mae-backed
securities. The rates on these securities influence mortgage
rates on FHA and VA loans. Interest-rate movements are based on
the simple concept of supply and demand. If the demand for
credit (loans) increases, so do interest rates. This is because
there are more buyers, so sellers can command a better price,
i.e. higher rates. If the demand for credit reduces, then so do
interest rates. This is because there are more sellers than
buyers, so buyers can command a lower better price, i.e. lower
rates. When the economy is expanding there is a higher demand
for credit, so rates move higher, whereas when the economy is
slowing the demand for credit decreases and so do interest
Q : What is the difference between Pre-Qualifying and
A : A pre-qualification is normally issued by a loan officer,
who, after interviewing you, determines the dollar value of a
loan you can be approved for. However, loan officers do not make
the final approval, so a pre-qualification is not a commitment
to lend. After the loan officer determines that you pre-qualify,
he/she then issues you a pre-qualification letter. This
pre-qualification letter is used when you are making an offer on
a property. The pre-qualification letter indicates to the seller
that you are qualified to purchase the house you are making an
Pre-approval is a
step above pre-qualification. Pre-approval involves verifying
your credit, down payment, employment history, etc. Your loan
application is submitted to an underwriter and a decision is
made regarding your loan application. If your loan is
pre-approved, you are then issued a pre-approval certificate.
Getting your loan pre-approved allows you to close very quickly
when you do find a house. A pre-approval can help you negotiate
a better price with the seller, since being pre-approved is very
close to having cash in the bank to pay for the house!
Q : What is a rate lock?
A : You cannot close a mortgage loan without locking in an
interest rate. There are four components to a rate lock:
1) Loan program
2) Interest rate
4) Length of the lock
The longer the
length of the lock, the higher the points or the interest rate.
This is because the longer the lock, the greater the risk for
the lender offering that lock.
Let's say you lock
in a 30-year fixed loan at 8% for 2 points for 15 days on March
2. This lock will expire on March 17 (if March 17 is a holiday
then the lock is typically extended to the first working day
after the 17th). The lender must disburse funds by March 17th,
otherwise your rate lock expires, and your original rate-lock
commitment is invalid.
The same lock might
cost 2.25 points for a 30-day lock or 2.5 points for a 60-day
lock. If you need a longer lock and do not want to pay the
higher points, you may instead pay a higher rate.
After a lock
expires, most lenders will let you re-lock at the higher of the
original price and the originally locked price. In most cases
you will not get a lower rate if rates drop.
Lenders can lose
money if your lock expires. This is because they are taking a
risk by letting you lock in advance. If rates move higher, they
are forced to give you the original rate at which you locked.
Lenders often protect themselves against rate fluctuations by
Some lenders do
offer free float-downs i.e. you may lock the rate initially and
if the rates drop while your loan is in process, you will get
the better rate. However, there is no free lunch the free
float-down is costly for the lender and you pay for this option
indirectly, because the lender has to build the price of this
option into the rate.
Q : Can my loan be sold? What happens if my lender goes out of
A : Your loan can be sold at any time. There is a secondary
mortgage market in which lenders frequently buy and sell pools
of mortgages. This secondary mortgage market results in lower
rates for consumers. A lender buying your loan assumes all terms
and conditions of the original loan. As a result, the only thing
that changes when a loan is sold is to whom you mail your
payment. If your loan has been sold, your existing lender will
notify you that your loan has been sold, who your new lender is,
and where you should send your payments from now on.
If your lender goes
out of business, you are still obligated to make payments!
Typically, loans owned by a lender going out of business are
sold to another lender. The lender purchasing your loan is
obligated to honor the terms and conditions of the original
loan. Therefore, if your lender goes out of business, it makes
little difference with regards to your loan payments. In some
cases, there may be a gap between the date of your lender's
going out of business and the date that a new lender purchases
your loan. In such a situation, continue making payments to your
old lender until you are asked to make payments to your new
Q : What is PMI? Can I get rid of the PMI on my loan?
A : PMI or Private Mortgage Insurance is normally required when
you buy a house with less than 20% down. Mortgage insurance is a
type of guarantee that helps protect lenders against the costs
of foreclosure. This insurance protection is provided by private
mortgage-insurance companies. It enables lenders to accept lower
down payments than they would normally accept. In effect,
mortgage insurance provides what the equity of a higher down
payment would provide to cover a lender's losses in the
unfortunate event of foreclosure. Therefore, without mortgage
insurance, you might not be able to buy a home without a 20%
The cost of PMI
increases as your down payment decreases.
Example: The cost of
PMI on a 10% down payment is less than the cost of PMI on a 5%
down payment. Your PMI premium is normally added to your monthly
The decision on when
to cancel the private insurance coverage does not depend solely
on the degree of your equity in the home. The final say on
terminating a private mortgage-insurance policy is reserved
jointly for the lender and any investor who may have purchased
an interest in the mortgage. However, in most cases, the lender
will allow cancellation of mortgage insurance when the loan is
paid down to 80% of the original property value. Some lenders
may require that you pay PMI for one or two years before you may
apply to remove it.
To cancel the PMI on
your loan, contact your lender. In most cases, an appraisal will
be required to determine the value of your property. You will
probably also be required to pay for the cost of this appraisal.
Another way of cancelling the PMI on your loan is to refinance
and to get a new loan without PMI.
Q : What is an APR?
A : The annual percentage rate (APR) is an interest rate that is
different from the note rate. It is commonly used to compare
loan programs from different lenders. The Federal Truth in
Lending law requires mortgage companies to disclose the APR when
they advertise a rate. Typically the APR is found next to the
The APR does NOT
affect your monthly payments. Your monthly payments are a
function of the interest rate and the length of the loan. The
APR is a very confusing number! Even mortgage bankers and
brokers admit it is confusing. The APR is designed to measure
the "true cost of a loan." It creates a level playing field for
lenders. It prevents lenders from advertising a low rate and
hiding fees. If life were easy, all you would have to do is
compare APRs from the lenders/brokers you are working with, then
pick the easiest one and you would have the right loan. Right?
different lenders calculate APRs differently! So a loan with a
lower APR is not necessarily a better rate. The best way to
compare loans in the author's opinion is to ask lenders to
provide you with a good-faith estimate of their costs on the
same type of program (e.g. 30-year fixed) at the same interest
rate. Then delete all fees that are independent of the loan such
as homeowners insurance, title fees, escrow fees, attorney fees,
etc. Now add up all the loan fees. The lender that has lower
loan fees has a cheaper loan than the lender with higher loan
The reason why APRs
are confusing is because the rules to compute APR are not
What fees are
included in the APR? The following fees ARE generally included
in the APR: - Points - both discount points and origination
points - Pre-paid interest. - The interest paid from the date
the loan closes to the end of the month. Most mortgage companies
assume 15 days of interest in their calculations. However,
companies may use any number between 1 and 30! - Loan-processing
fee - Underwriting fee - Document-preparation fee - Private
mortgage-insurance - Appraisal fee - Credit-report fee
Q : When Should I Lock?
A : Interest rates are impacted everyday by forces in national
and global economies. The economic indicators that are key to
the mortgage markets are those that will impact the cost of
money - most notably inflation. If any economic data indicates
that the prices for services or goods, at a retail or wholesale
level, could potentially increase faster than expected, prices
for mortgage and bond securities will fall, driving interest
This would be most
commonly referred to as the economy, "heating up". Economic news
of a slowing economy, such as softening prices or rising
unemployment will usually result in higher prices for mortgage
or bond securities and subsequently lower interest rates. The
driving force behind it all is the Federal Reserve, which sets
the monetary policy in the United States in an effort to
maintain a healthy and robust, yet stable and non-inflationary
economy. By raising and lowering the cost of money (the federal
discount and federal funds rates), this institution is able to
impact the full spectrum of the financial markets. Because of
the unpredictability of these economic factors and the
subsequent volatility of interest rates, it is important to know
what a lock is and how your lender's lock policy works. A lock
is a lender's guarantee that the rate you have selected is
protected against rate fluctuations in the marketplace.
Different lenders have different rate lock policies and some are
trickier than others. So it is important to know how your
lender's lock policy works. There are three basic factors that
you should consider in deciding when to lock in your interest
1) How long is your
Locks are available for varying lengths of time, usually 15, 30,
45, 60, and 90 days. As the lock period increases, so will the
cost of the loan, either an increase in the rate or the fees, or
both. Taking a longer lock may cost a little more, but will
protect you from potentially large increases in rates during
that time period.
2) What are the
current market trends?
By taking a look at bond market activity and current economic
news, you can get a general idea of how interest rates will be
impacted. In a rising market it is best to lock a rate as early
in the lending transaction as possible. If interest rates are in
a downward trend you may want to watch the market and lock when
you feel the rate is acceptable. But keep in mind that interest
rates generally move up faster than they move down; there is a
risk in waiting for the "perfect" rate that may never come
around. The bottom line is, when a good interest rate is
available, it is best to secure it.
3) Get it in
Once you have decided to lock your rate, make sure you obtain a
lock-in agreement in writing. Verbal agreements are difficult to
prove in case of a dispute. Read your lock-in agreement
carefully and understand your lender's terms to avoid confusion
and disappointment. Understanding the lock-in process and your
lender's policies, and especially having your lock-in agreement
in writing, will bring peace of mind and will contribute to a
positive lending experience.
Q : Truth About Closing Costs
A : Too many fees? Too many numbers? How do you really compare
lenders to get the best deal? The confusing array of costs
associated with closing a mortgage loan transaction CAN BE
SIMPLIFIED. Don't let other lenders keep you in the dark.
Here are some simple
rules to keep your closing cost comparisons easy to figure out:
1. Don't compare
prepaid items or taxes. Prepaid items are NOT A COST of
OBTAINING your loan. They reflect a cost of servicing the loan
and may differ slightly from lender to lender. In those states
where it applies, mortgage taxes are not determined by the
2. Except on
purchase transactions, you should include estimates for ALL
closing fees. Your lender SHOULD work on your behalf to ensure
that all of the fees are as low as possible, even if they are
not providing those services. On purchase transactions
settlement and title fees are typically controlled by the
seller, so you should not compare those fees.
3. Don't let
different names for fees complicate the comparison analysis.
equitystore.com provides a detailed estimate and explaination of
each fee to keep the closing cost scenario as simple as
4. When you lock-in
your rate and points, you should also be locking in your fees!
The most important rule of all! If your lender cannot guarantee
their rate, points AND CLOSING COSTS, be ready for a surprise at
Q : What are "Freddie Mac" and "Fannie Mae"?
A : Freddie Mac refers to the Federal Home Loan Mortgage
Corporation and Fannie Mae refers to the Federal National
Mortgage Association. Both are organizations created by Congress
to buy loans from lending institutions.