A WORD ABOUT LENDERS AND BROKERS

My number one rule about lenders & brokers: Never take a lender’s initial quote without negotiating rates & fees.

My number two rule about lenders & brokers: Rule #1 can be broken only if the initial quote (AND SUBSEQUENT PAPERWORK) is reasonable and fair (they have to make a living too).

 

There are hundreds of lenders & brokers out there, both private and public, each with their own set of rules & requirements for loaning you money. Some require high fees, some require none. Some require physical proof of income (pay stub, tax returns, etc.), some could care less and need only your word (stated income). Some do creative financing, some only do conventional straight-forward loans. Some require 20% down, some require zero, zilch, nada.

Finding the right lender or broker can be a full-time job, but it is well worth it to put in the effort to find the right one who can offer you all that you want and need. It’s a numbers game, the more you call, the higher the likelihood of finding the right one. It’s an unfortunate fact that most people settle on the first lender/broker they talk to, regardless of how much more it might cost them in closing costs & interest. All lenders and brokers know this! The more time they spend talking to you, taking down your information, the stronger your sense of obligation to them becomes. They know that if you let them pull your credit or fill out any paperwork with them, they pretty much have your business no matter what they quote you.

Most people are too nice and don't want to say "no" so they end up paying thousands of dollars simply because they don't feel comfortable negotiating or feel bad that they've "wasted" someone else's time if they don't stick with them. It's ok to feel this way. I still feel it all the time in my business dealings. The difference is I don't let it stop me from getting the best deal. I recognize that I'm going to feel bad and I move on. If you're only talking about a few dollars here and there, no problem. But when you're dealing with thousands of dollars, feeling bad for an hour or so is a consequence I'm prepared to deal with.

You don't have to string anyone along. Tell the lenders you talk to that you are shopping around. Tell them you've spoken to others and may continue to in order to find the best deal. This not only sets your conscience clear if you decide not to go with them, but also it motivates them to give you a better deal to begin with.

Remember, a lender makes money from you, the client. If they cannot give you what you want (no matter how desperate your situation seems), politely move on to another one.

 

HOW LENDERS MAKE MONEY

A lender generally makes money 3 ways (there’s a lot more to it, but these are the basics): the interest rate, the loan origination fee and the points. They sometimes change the names of their fees to include “lender fee,” “processing fee,” “loan charge,” etc. Loan origination fees and points are basically the same thing. Be aware of ALL fees as a lender may charge 0 points but charge origination fees to equal the same amount of those extra points or vice versa. Or they may advertise “no points & no origination fees” but may charge an inflated “lender fee” or high interest rates (this has become a very common practice in recent years. Lenders know their little mailing promising no points will generate leads and as mentioned above, they are aware of the likelihood of borrowers settling on the first lender they talk to). Regardless of what they call the fees, in the end, the money comes out of your pocket just the same. Some fees (like points) are tax-deductible and some are not, talk to your tax professional. If you're going to pay the same amount anyway, wouldn't you rather pay it towards something you can deduct from your taxes?

 

HOW BROKERS MAKE MONEY

A mortgage broker makes money a little differently. It's a bit too complicated to get into detail here, but for your purposes, it will behoove you to know that they are paid by the lender for bringing the lender business. They receive bonuses in the form of rebates (par plus, yield spread, etc.) from the lender (called the "back end") as well as make money from you directly in the form of application fees and mortgage broker commissions (called the "front end"). Brokers, like lenders, also name their fees variously.

Knowing about the front end and the back end helps you negotiate smarter. You can often negotiate down any front end commissions (your out-of-pocket costs) by working with them to raise their back end commissions (the lender's costs). For example (there are many factors at play but this is a very basic example to help you get an idea of front & back end commissions), by agreeing to increase your interest rate by say, half a percentage point, the broker can make more money from the lender (in the form of a bonus for getting higher interest) and you can avoid paying him/her money up front. True, you are paying that money in the form of a higher interest rate but if having cash to pay for closing costs up front is a problem, it might be better to pay that extra $10 a month or whatever it amounts to.

Take your situation into consideration and look at the bigger picture. If you're planning on reselling your home in 2 years, that extra $10 a month will total $240 (tax-deductible, by the way) in 2 years. What would you have paid if you had to pay the broker's commission up front? A lot more than $240 for sure! If cash up front is not a problem and you're feeling generous, then that's a different story.

Keep in mind that brokers need to make money too and it often balances out whether it's in the front end or the back. But wouldn't you rather have a lender pay their commissions than you?

A note about paying higher interest: It seems easier to refinance to a great loan than it is to initially get a great loan. Perhaps once you have collateral (your property), lenders are more open to talking with you. I have twice refinanced my loans a few months after the deal is through (be sure your current loan doesn't have any pre-payment penalties) to a company that offers no closing costs for refinancing and a lower interest rate. There are many out there competing for your business. ING Direct is a wonderful bank and I refinanced my current home with them. There were no charges on my end and I ended up with a superb interest rate of prime plus ZERO - at time of this posting, 5.25%. Click here to find out more about ING DIRECT and my experiences with them.

 

THE BOTTOM LINE

Always read the fine print and get everything in writing before committing to a lender or broker. They are required under the Truth in Lending Act to provide you with a disclosure estimating the costs of the loan you have applied for. This disclosure must include your interest rate and the APR. A Good Faith Estimate is required to be provided to you within three business days after your application. If you ask nicely and/or be persistent about it, they often will give it to you before you fill out an application. In addition, a statement of your actual costs should be given to you at or before settlement.

Whether you decide to go with a lender or a broker, do not hesitate to ask questions if you are not sure about anything. You are their client and they are there to serve you. But also remember they are in business too and need to eat just as you do. Be fair and reasonable in your negotiating.

 

A WORD OF CAUTION: Be wary of lenders/brokers who qualify you for an inordinate sum. During one of my employment breaks years ago, a lender approved me for a half million dollar home loan. I told him there was no way I could afford the monthly payment since I could barely afford my $400 rent, having no income. He brushed me off and said, "oh don't worry, we'll figure something out." What the heck did that mean??? I since learned that this company was offering loans in outrageous amounts with outrageously high interest and when their borrowers defaulted because they simply couldn't pay, the company went in, took their homes and resold them. That is how they made their money. They probably made money by selling the loans in the Secondary Mortgage Market as well. Don't get swept away in the excitement of hearing you could possibly buy a half million dollar home. Be sure you can afford the monthly payments, whether it's for one hundred thousand or five hundred thousand. It's not about how much house you can qualify for, it's about how much house you can afford!

 

Please don't let any of this scare you. Like lawyers, there are some good lenders out there, you just have to find them.

For more about my experiences with lenders (and warnings), click here.

If you are an owner/builder and want to know more about construction loans, click here.

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