Financing Residential Real Estate
Lesson 7:
The Financing Process
Loan Costs
Primary consideration for most buyers in choosing
lender is how much loan will cost.
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, and
 mortgage broker’s fee.
Loan Costs
Points
Point = percentage point
1 point = 1% of loan amount
Loan Costs
Points
Point = percentage point
1 point = 1% of loan amount
Usage issue:
 Some lenders use “points” to refer to
origination fee and discount points
together.
 Others use “points” to refer only to
discount points.
Loan Costs
Loan origination fee
Origination fee pays for lender’s expenses, such as
staff compensation, facilities costs, and other
overhead.
Charged in almost every mortgage
transaction.
Typically around 1% of loan amount.
Paid at closing, usually by borrower.
Loan Costs
Discount points
Discount points are a lump sum paid at closing to
increase lender’s upfront yield (profit) on loan.
In exchange for upfront payment, lender
charges borrower lower interest rate.
May save borrower money in long run,
depending on how long she owns home.
Loan Costs
Discount points
How many discount points lenders charge varies
depending on market conditions and other factors.
 Might charge 4 to 6 points for
1% interest rate reduction.
Loan Costs
Discount points
Example:
Market rate for mortgage: 5.25%
Lender charges 4 points for 1% rate reduction
$300,000 Loan amount
x
4% 4 points
$12,000 Cost of discount
If lender is paid $12,000 up front, will charge
borrower only 4.25% interest on loan.
Loan Costs
Discount points
Discount points may be paid by buyer or seller.
Buydown = Paying lender discount
points to “buy down” buyer’s interest rate.
Loan Costs
Discount points
Discount points may be paid by buyer or seller.
Buydown = Paying lender discount
points to “buy down” buyer’s interest rate.
When buyer pays points, pays lender in cash
at closing.
When seller pays points, amount is withheld
from loan amount and deducted from
seller’s proceeds at closing.
Loan Costs
Miscellaneous fees
In addition to an origination fee and discount points,
lenders often charge borrowers other fees, such as:
 application fee
 document preparation fee
 underwriting fee
Loan Costs
Miscellaneous fees
In addition to an origination fee and discount points,
lenders often charge borrowers other fees, such as:
 application fee
 document preparation fee
 underwriting fee
These vary widely from one lender to another.
Borrower should ask loan originator if
any can be reduced or waived.
Loan Costs
Mortgage broker’s compensation
Buyers working with mortgage broker are generally
charged a mortgage broker’s fee.
May be separate fee or included in points
quote for loan.
Loan Costs
Mortgage broker’s compensation
Buyers working with mortgage broker are generally
charged a mortgage broker’s fee.
May be separate fee or included in points
quote for loan.
Shouldn’t make loan more expensive than
one obtained without a broker’s help.
Broker gets loan at wholesale price, marks
it up to retail price, keeps overage
as fee.
Loan Costs
Mortgage broker’s compensation
Controversy over another form of mortgage broker
compensation: yield spread premium (YSP).
Loan Costs
Mortgage broker’s compensation
Controversy over another form of mortgage broker
compensation: yield spread premium (YSP).
Broker persuades borrower to accept a loan at
“above par” (higher-than-market) interest rate.
Loan Costs
Mortgage broker’s compensation
Controversy over another form of mortgage broker
compensation: yield spread premium (YSP).
Broker persuades borrower to accept a loan at
“above par” (higher-than-market) interest rate.
Lender pays broker YSP based on difference
between market rate and borrower’s rate.
Loan Costs
Mortgage broker’s compensation
Controversy over another form of mortgage broker
compensation: yield spread premium (YSP).
Broker persuades borrower to accept a loan at
“above par” (higher-than-market) interest rate.
Lender pays broker YSP based on difference
between market rate and borrower’s rate.
Practice gives mortgage brokers incentive to
steer borrowers to more expensive
loans.
Comparing the Cost of Loans
Truth in Lending Act
The 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 that requires lenders to disclose the
cost of a loan using certain figures and terminology,
to make comparison easier.
Truth in Lending Act
Annual percentage rate
Most important TILA disclosure: annual percentage
rate (APR).
APR expresses relationship between all of the
financing charges and the amount borrowed as
a percentage.
To determine which of two loans is more
expensive, compare APRs, not just interest
rates.
Truth in Lending Act
Total finance charge
Another key TILA disclosure: total finance charge.
Total finance charge includes:
 interest,
 origination fee,
 discount points paid by borrower,
 mortgage broker’s fee,
 finder’s fee,
 service fee, and/or
 mortgage guaranty or
insurance fees.
Truth in Lending Act
Total finance charge
Total finance charge does NOT include:
 title insurance costs,
 credit report charges,
 appraisal fee, or
 discount points paid by seller.
Loan Costs
No-fee or low-fee loans
Some lenders offer no-fee loans or low-fee loans.
No major lender charges such as origination fee
or discount points.
Only (or almost only) financing charge is
interest.
Interest rate often much higher than rate for
loan with standard fees.
Helpful for buyers with little cash for
closing.
Summary
Loan Costs and 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
Summary
Lesson 14:
Fair Lending and
Consumer Protection
Consumer Protection Laws
Federal consumer protection laws that apply to
mortgage loan transactions:
Truth in Lending Act
Real Estate Settlement Procedures Act
Consumer Protection Laws
Truth in Lending Act
Truth in Lending Act (TILA) – 1968
Implemented by Federal Reserve Board’s
Regulation Z.
Requires disclosure of finance charges.
Regulates advertising of consumer credit.
Truth in Lending Act
Loans covered by TILA
TILA applies only to consumer loans.
Consumer loan = a loan used for personal,
family, or household purposes.
Consumer loan is covered by TILA if it is to be
repaid in more than four installments (or is
subject to finance charges) and is either:
 for $25,000 or less, or
 secured by real property.
Truth in Lending Act
Loans covered by TILA
Thus, TILA applies to any mortgage loan used for
personal, family, or household purposes, such as:
 buying or remodeling a home,
 consolidating personal debt, or
 sending kids to college.
Truth in Lending Act
Loans exempt from TILA
TILA only applies to loans made to natural persons.
Truth in Lending Act
Loans exempt from TILA
TILA only applies to loans made to natural persons.
Doesn’t apply to:
1) loans made to corporations or organizations;
2) loans made for business, commercial, or
agricultural purposes; or
3) loans > $25,000 not secured by real property.
Truth in Lending Act
Loans exempt from TILA
TILA only applies to loans made to natural persons.
Doesn’t apply to:
1) loans made to corporations or organizations;
2) loans made for business, commercial, or
agricultural purposes; or
3) loans > $25,000 not secured by real property.
Most seller financing is also exempt.
Truth in Lending Act
Disclosure requirements
Lender must give mortgage loan applicant
disclosure statement with estimates of loan costs
within 3 days of receiving written application.
Truth in Lending Act
Disclosure requirements
Lender expected to use best info reasonably
available in preparing TILA disclosure statement.
If estimates later prove incorrect, revised
disclosures required.
Truth in Lending Act
Disclosure requirements
Two most important disclosures:
Total finance charge
“Dollar amount your credit will cost you”
Annual percentage rate (APR)
“Cost of your credit as a yearly rate”
TILA Disclosure Requirements
Total finance charge
For mortgage loan, these expenses would be
included in total finance charge, if applicable:
 Interest
 Origination fee
 Points paid by borrower
 Finder’s fee
 Service charge
 Mortgage insurance premiums
 Guaranty fee
 Mortgage broker’s fee
TILA Disclosure Requirements
Total finance charge
Not part of total finance charge for mortgage loan:
Application fee
Pest inspection fee
Appraisal fee
Flood inspection fee
Document prep fee Impounds
Notary fee
Points paid by seller
Credit report fee
Late payment fees
Survey fee
Fees charged on default
Title report fee
Title insurance premiums
TILA Disclosure Requirements
Other disclosures
TILA disclosure statement must also show:
 Lender’s identity
 Amount financed
 Payment schedule
 Total payments
 Any prepayment penalty
 Late charges
 Assumption policy
TILA Disclosure Requirements
ARMs
APR for ARM can’t be calculated in same way as
APR for fixed-rate loan, because total amount of
interest to be charged is unknown at outset.
When calculating APR for ARM, lender
may use loan’s initial interest rate.
Must state that APR is subject to increase
after closing.
TILA Disclosure Requirements
ARMs
Numerous special disclosures required for ARM
secured by principal dwelling.
CHARM booklet: “Consumer Handbook on
Adjustable-Rate Mortgages.”
TILA Disclosure Requirements
ARMs
Numerous special disclosures required for ARM
secured by principal dwelling.
CHARM booklet: “Consumer Handbook on
Adjustable-Rate Mortgages.”
Specific disclosures about ARM program(s)
the applicant is considering, such as:
how interest rate and payment may change;
index used to determine ARM’s interest rate.
TILA Disclosure Requirements
ARM adjustment notice
For ARM secured by principal dwelling, lender must
notify borrower each time interest rate is being
adjusted.
Notice explains effect of adjustment on payment,
loan balance, other aspects of loan.
If payment amount will change, adjustment
notice must be sent at least 25 days, but
no more than 120 days, before change.
Truth in Lending Act
Right of rescission
If security property is borrower’s existing principal
residence, borrower has right of rescission.
Truth in Lending Act
Right of rescission
If security property is borrower’s existing principal
residence, borrower has right of rescission.
May rescind loan agreement any time within
3 days after:
signing agreement,
receiving disclosure statement, or
receiving notice of right of rescission.
Truth in Lending Act
Right of rescission
If borrower doesn’t receive statement or notice,
right of rescission doesn’t expire for 3 years.
Truth in Lending Act
Right of rescission
Right of rescission applies to:
home equity loans
refinancing with a new lender
Doesn’t apply to purchase loans.
Truth in Lending Act
Advertising under TILA
TILA advertising rules apply to anyone who
advertises consumer credit, not just lenders.
Truth in Lending Act
Advertising under TILA
TILA advertising rules apply to anyone who
advertises consumer credit, not just lenders.
Rules prohibit:
Bait and switch tactics.
Misleading ads that feature only most
attractive terms and disguise true cost of
loan.
Truth in Lending Act
Advertising under TILA
It’s legal to state cash price or APR in ad.
But if particular “trigger” terms (such as
downpayment, interest rate, or monthly payment)
are stated, the rest of the terms must also be stated.
Summary
Truth in Lending Act
Regulation Z
Consumer loan
Annual percentage rate
Total finance charge
ARM disclosures
CHARM booklet
Adjustment notice
Right of rescission
Advertising rules
Bait and switch
Consumer Protection Laws
RESPA
Real Estate Settlement Procedures Act – 1974
Affects how closing is handled in most
residential mortgage transactions.
RESPA
Purpose of law
RESPA has two main goals:
to provide borrowers with information about all
financing fees and closing costs; and
to eliminate kickbacks and referral fees that
increase borrowers’ costs.
RESPA
Covered transactions
RESPA applies to all federally related loan
transactions.
Category includes most residential
mortgage loans.
RESPA
Covered transactions
Loan is federally related if both 1 and 2 apply:
1. Loan is secured by residential property with up
to four dwelling units.
Or loan will be used to finance construction
of dwelling with up to four units.
2. Lender is federally regulated, has federally
insured accounts, sells loans to secondary
market agency, or makes more than $1 million
in real estate loans per year.
RESPA
Exemptions
RESPA doesn’t apply to:
loan to purchase 25 acres or more;
loan primarily for business, commercial, or
agricultural purpose;
loan to purchase vacant land, unless it will have
dwelling built on it or mobile home placed on it;
temporary financing (construction loan);
assumption where lender’s approval
not required or obtained.
RESPA Requirements and Restrictions
Disclosures to loan applicant
1. Within 3 days of written application, lender must
give loan applicant:
booklet about settlement procedures
good faith estimate of closing costs
mortgage servicing disclosure statement
RESPA Requirements and Restrictions
Affiliated business arrangements
2. When referring a party to another provider, a
settlement service provider must disclose any
affiliated business arrangement.
Settlement service provider = lender,
mortgage broker, title company employee,
real estate agent.
Affiliated business arrangement = referring
provider has more than a 1% ownership or
beneficial interest in the business
the party is being referred to.
RESPA Requirements and Restrictions
Uniform Settlement Statement
3. Closing agent must itemize loan settlement
charges on Uniform Settlement Statement form.
Completed form must be available for
inspection by borrower, upon request, at
least one day before closing.
Form has special sections for buyer and
seller information; copies given to both
parties at closing.
RESPA Requirements and Restrictions
Impound account deposits
4. If borrower required to make deposits into an
impound account, lender can’t require excessive
deposits.
Excessive = more than necessary to cover
expenses when due.
Cushion of more than two months’ worth of
payments generally considered excessive.
RESPA Requirements and Restrictions
Kickbacks and unearned fees
5. Lender or settlement service provider may not:
give or receive kickbacks or referral fees;
accept unearned fees; or
charge a document preparation fee for
required disclosures (Uniform Settlement
Statement, impound account statement, or
TILA disclosures).
RESPA Requirements and Restrictions
Choice of title company
6. Property seller may not require buyer to use a
particular title insurance company.
RESPA Requirements and Restrictions
RESPA rule changes in 2010
In 2010, lenders will be required to start using new
standardized form for good faith estimate (GFE)
and new version of Uniform Settlement Statement.
RESPA Requirements and Restrictions
RESPA rule changes in 2010
New rules will also:
Encourage lenders to give applicants GFE
earlier in process, to facilitate comparison
shopping.
Place strict limits on cost increases between
time of GFE estimates and closing.
Require disclosure of more information about
trade-offs between interest rate and other loan
costs (such as yield spread premiums
for mortgage brokers).
Summary
Real Estate Settlement Procedures Act
RESPA
Federally related loan transaction
Settlement service provider
Affiliated business arrangement
Kickback or referral fee
Unearned fee
Good faith estimate of closing costs (GFE)
Uniform Settlement Statement