Mortgage lenders are chiefly concerned with your ability to repay your mortgage. To determine if you qualify for a loan, they will consider your credit history, your monthly gross income and how much cash you'll be able to accumulate for a down payment, which generally runs anywhere from 5 percent to 20 percent of the purchase price of the home. The lenders generally evaluate your credit worthiness by obtaining a
from one or more credit rating agencies.
The total debt-to-income, or back-end ratio, shows how much of your gross income would go toward all of your debt obligations, including mortgage, car loans, child support and alimony, credit card bills, student loans and condominium fees. In general, your total monthly debt obligation should not exceed 36 percent of your gross income. To calculate your debt-to-income ratio, multiply your annual salary by 0.36, then divide by 12 (months). The answer is your maximum allowable debt-to-income ratio.
There are calculators that are useful in determining how much home you can afford , whether a buyer can afford a house at a given price , which tells you the approx. amount that your monthly income needs to be to afford the house (when using this calculator, the amount given as "maximum debt service permitted" means other debt service, such as car payments, credit card payments, and other consumer installment payments; click on the "full details" box to get mortgage payments, monthly taxes, etc.) , or whether to buy now or continue to rent and save for a larger down payment
Loan Terms:
Interest only loans have become very popular due to the fact that the monthly payment requires only payment of interest, and does not require a principal amortization payment. Because of this, borrowers may be able to qualify for a larger loan, and therefore be able to purchase a more expensive home, than they would otherwise be able to. The problem with these loans, however, is that the interest-only feature only lasts for a limited time, usually 5 years. At the beginning of the 6th year, however, the lender will require a significantly larger monthly payment which will include principal amortization, with this monthly payment being even higher that that of a 30 year amortized mortgage, because it is being amortized over a shorter period, which is the 25 years remaining on the mortgage. The borrower, of course, may refinance the loan at the end of 5 years, however if interest rates have increased significantly, the borrower may not have many alternatives.
Adjustable rate mortgages had generally been the mortgage type of choice in the recent past due to the previous large spread or difference between short term interest rates and long term interest rates. This had enabled borrowers to qualify for a larger mortgage than for a 30 year fixed mortgage due to the lower interest rate and the resultant lower monthly mortgage payment. The interest rate can be locked in for varying periods, ranging usually from 3 to 5 years, with the interest being readjusted yearly thereafter. The borrower is exposed, however to interest rate risk due to the potential for rapidly increasing interest rates which could significantly increase the borrowers monthly mortgage payment.
The attractiveness of the ARM over the 30 year fixed rate mortgage, however, had greatly diminished from 2005 to 2009 due to the decreasing spread or difference between short term and long term rates. ARM's were very attractive when there was a large difference between short-term ARM mortgage rates and 30 year fixed rates, and the spread between short and long term rates has decreased significantly. This led many borrowers to reconsider a 30 year fixed rate mortgage, in order to protect themselves from the possibility of rapidly increasing interest rates. In August 2007, however, turmoil in the sub-prime mortgage markets spilled over to the other sectors of the mortgage market, and significantly affected long term mortgage rates for non-conforming jumbo mortgages. These loans are dependent on lenders pooling these mortgages and reselling them as mortgage backed securities in the secondary markets, however investor interest in these mortgage backed securities decreased significantly, therefore raising the required interest rates on these mortgages to make them attractive to buyers, therefore leading to significant increases in jumbo mortgage rates. Rates on fixed rate long term mortgages for conforming loans, however, have not been significantly affected. See my new web blog for the latest in news about the trends in interest rates.
Prior to the sub-prime mortgage meltdown in 2007-2008, ARM lenders had offered multiple options as to the amount of the monthly payment. These options included interest only, a fixed payment regardless of the interest amount (which may result in "negative amortization", or an increase in the loan balance, if the loan payment is less than the interest that accrued during the month), or a full amortization payment, which includes both interest as well as the principal payment required to fully pay off the loan over the loan period. Recently, however, many of these options have disappeared as lenders have raised their underwriting standards.
Locking in an Interest Rate when Applying for a Home Loan:
When applying for a loan, the borrower should obtain a "lock-in" of the quoted interest rate for a period adequate to close escrow. Lock durations can vary for mortgage financing, but most lenders lock in the interest rate for 60 days from the date the loan application is submitted. As long as the loan is closed within that lock-in period, the lender honors the agreed upon interest rate.
Some consumers are misled by advertising that quotes unrealistically low rates based on 15- or 30-day lock durations. This is called 'short-pricing.' The lender basically knows the borrower doesn't have time to meet their conditions and have all the necessary paperwork in order within that brief time period. As a result, the lender is not obligated to honor the low rate that was listed in their advertising.
For simple refinance transactions, a 45-day lock-in period is more realistic. For purchase transactions, which are typically much more complex, you're much safer going with a 60-day lock, even though the interest rate might be a little higher than the rate you see quoted on billboards and the Internet.
Borrowers should make sure they have a written rate lock agreement, and allow themselves a reasonable amount of time to close their loan.
Lender's Required Good Faith Estimate Form:
Effective January 1, 2010, all lenders must provide a new standardized Good Faith Estimate Form . Page One of the new form includes information about your new loan such as interest rate, loan amount , payment terms, etc. Page 2 includes information on origination fees charged by the lender as well as other settlement and closing costs. The following is a chart that explains some of these items:
Loan originators will be required to provide borrowers their Good Faith Estimate three days after the loan originator's receipt of all necessary information. To facilitate shopping, loan originators could not require verification of GFE information (tax returns etc.) until after the applicant makes the decision to proceed.
As noted in the chart above, certain fees are limited to an increase at final closing of no more than 10% depending on whether the lender is selecting the company. Fee estimates may change if the borrower selects another company not selected by the lender. Other fees such as origination fees and transfer taxes may not be increased at all.
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"Making Home Affordable" Loan Refinancing and Modification Program
In February 2009, the Federal Government began a $75 billion "Making Home Affordable" loan refinancing and loan modification program ("HAMP"). The following are some of the Guidelines for the HAMP program:
Loan Refinancing Program Guidelines :
1). Borrowers must be current on their payments for the loan
2) Loans that are between 80% and up to 105% of the property's market value are eligible
3) Loans must be held by a federal agency such as Fannie Mae or Freddie Mac. Unfortunately, many home loans were syndicated into mortgage backed securities and sold to investors, so these loans would not be eligible for the Federal Program
4) Loans must be under $729,750 and originated before January 1, 2009 and the program ends June 2010
5) The loans must be for owner occupied homes
6) Borrowers must be able to document their income
7) Freddie Mac, the second-largest U.S. mortgage-finance company, will eliminate the upfront fees it typically charges lenders based on consumers' credit scores and home equity, but Fannie Mae, the largest, left similar fees "largely unchanged," according to a Barclays Capital report. Both will eliminate the requirement for Private Mortgage Insurance payments normally required.
Loan Modification Program Guidelines:
1). Borrowers may be delinquent or current on their payments for the loan, but at imminent risk of default
2) Loans will be modified so that payments are no more than 38% of a borrowers income, and the Federal Reserve will participate in limiting the payments to no more than 31% of the borrowers income. The first step will be to reduce the loan's interest rate to as low as 2 percent for five years. If that isn't enough to bring the payment down to 31 percent, the lender then will extend the term of the loan to 40 years. The new interest rate would then remain in place for five years, after which it will increase by 1 percentage point a year until it reaches either the original rate or the prevailing mortgage rate at the time of the modification, whichever is lower.
3) Borrowers would be required to demonstrate hardship to their loan servicers, such as a job loss, reduction in income or a looming payment increase that cannot be met
4) Under the new loan modification guidelines, the Treasury will offer mortgage-servicing companies upfront incentive payments of $1,000 for every loan they modify and additional payments of $1,000 a year for the first three years if the borrower remains current. The Treasury will also chip in $1,000 a year to directly reduce the borrower's loan amount, if the borrower stays up to date on payments.
5) The program requires that borrowers with high overall debt payments( total debt payments including mortgage payments, credit card payments, car payments, etc. over 55% of the borrowers income) to participate in credit counseling.
6) Loans must be first mortgages under $729,750 and originated before January 1, 2009 and the program ends December 31, 2012
7) One major concern regarding the loan modification program is that many of the potentially eligible loans are held by investors in mortgage backed securities, with those loans serviced by separate loan servicing companies. Many of these companies are concerned over their legal liability if they modify these loans without express authority to do so on behalf of their investors.
8) All government agencies such as Fannie Mae and Freddie Mac, as well as any bank receiving Government "bail-out" funds must participate in the program. If the benefits of loan modification outweigh those of foreclosure, the lender must participate in the program. absent a contractual prohibition from modifying the loan. Details of this calculation are still to be released.
9) Homeowners who are on time in making their payments on their modified loans will be eligible to receive up to $1,000 in principal reduction payments per year over the first 5 years.
10) The loans must be for owner occupied homes
11) Borrowers must be able to document their income
See below for modifications to this program announced on March 26, 2010
Home Affordable Program Foreclosure Alternatives - Short Sale and Deed-in-Lieu of Foreclosure
On March 26, 2010, , the Federal Reserve released Supplemental Directive 09-09 ( Revised ) announcing an expanded program offering distressed borrowers additional alternatives to a loan restructuring including short sales and deed-in-lieu called the Home Affordable Program Foreclosure Alternative ( "HAFA" ) .
Only those institutions that have applied to participate in this program are held to the program requirements, and they do not apply to loans owned by Fannie Mae or Freddie Mac, which account for over 50% of all loans outstanding. Fannie Mae and Freddie Mac are following several of the guidelines of this program such as the amount allowed to be paid to junior mortgage holders from the sales proceeds.
The HAFA program simplifies and streamlines the use of short sales by incorporating the following unique features:
- Complements HAMP by providing viable alternatives for borrowers who are HAMP eligible. Servicers must evaluate a borrower for a HAMP modification prior to any consideration being given to HAFA options .
- Utilizes borrower financial and hardship information collected in conjunction with HAMP, eliminating the need for additional eligibility analysis.
- Allows the borrower to receive pre-approved short sale terms prior to the property listing.
- Prohibits the servicer from requiring, as a condition of approving the short sale, a reduction in the real estate commission agreed upon in the listing agreement.
- Requires that borrowers be fully released from future liability for the debt.
- Uses standard processes, documents and time frames.
- Provides financial incentives to borrowers, servicers and investors. Among the financial incentives are the following:
1) The servicer will be paid $1,500 to cover administrative and processing costs
2) The investor will be paid a maximum of $2,000 for allowing a total of up to $6,000 in short-sale proceeds to be distributed to subordinate lien holders. This reimbursement will be earned on a one-for-three matching basis. For each three dollars an investor pays to secure release of a subordinate lien, the investor will be entitled to one dollar of reimbursement. To receive an incentive, subordinate lien holders must release their liens and waive all future claims against the borrower. Each lien holder, in order of priority, may be paid six percent (6%) of the unpaid principal balance of their loan, until the $6,000 aggregate cap is reached. Payments will be made at closing from the gross sale proceeds and must be reflected on the HUD-1 Settlement Statement.
3) Following the successful closing of a short sale or DIL, the borrower shall be entitled to an incentive payment of $3,000 to assist with relocation expenses.
A loan meets the basic eligibility criteria if all of the following conditions are met:
- The property is the borrower's principal residence;
- The mortgage loan is a first lien mortgage originated on or before January 1, 2009;
- The mortgage is delinquent or default is reasonably foreseeable;
- The current unpaid principal balance is equal to or less than $729,7501; and
- The borrower's total monthly mortgage payment exceeds 31 percent of the borrower's gross income.
Servicers must consider possible HAMP eligible borrowers for HAFA within 30 calendar days of the date the borrower:
- Does not qualify for a Trial Period Plan;
- Does not successfully complete a Trial Period Plan;
- Is delinquent on a HAMP modification by missing at least two consecutive payments; or
- Requests a short sale
The program offers borrowers the opportunity to get their short sale parameters preapproved by the lender through a Short Sale Agreement ( " SSA" ) . This SSA must include the following:
- A fixed termination date not less than 120 calendar days from the effective date of the SSA ("Effective Date").
- A requirement that the property be listed with a licensed real estate professional who is regularly doing business in the community where the property is located.
- Either a list price approved by the servicer or the acceptable sale proceeds, expressed as a net amount after subtracting allowable costs that the servicer will accept from the transaction.
- The amount of closing costs or other expenses the servicer will permit to be deducted from the gross sale proceeds expressed as a dollar amount, a percentage of the list price or a list by category of reasonable closing costs and other expenses that the servicer will permit to be deducted from the gross sale proceeds.
- The amount of the real estate commission that may be paid, not to exceed 6% of the contract sales price, and notification if any portion of the commission must be paid to a contractor of the servicer that has been retained to assist the listing broker with the transaction.
- A statement by the borrower authorizing the servicer to communicate the borrower´s personal financial information to other parties (including Treasury and its agents) as necessary to complete the transaction.
- Cancellation and contingency clauses that must be included in listing and sale agreements notifying prospective purchasers that the sale is subject to approval by the servicer and/or third parties.
- Notice that the sale must represent an arm´s length transaction and that the purchaser may not sell the property within 90 calendar days of closing, including certification language regarding the arm´s length transaction that must be included in the sales contract.
- An agreement that upon successful closing of a short sale acceptable to the servicer, the borrower will be released from all liability for repayment of the first mortgage debt.
- An agreement that upon successful closing of a short sale acceptable to the servicer the borrower will be entitled to a relocation incentive of $3,000, which will be deducted from the gross sale proceeds at closing.
- Notice that the servicer will allow a portion of gross sale proceeds to be paid to subordinate lien holders in exchange for release and full satisfaction of their liens.
- Notice that a short sale may have income tax consequences and/or may have a derogatory impact on the borrower´s credit score and a recommendation that the borrower seek professional advice regarding these matters.
- The amount of the monthly mortgage payment, if any, that the borrower will be required to pay during the term of the SSA, which amount must not exceed 31% of the borrower´s gross monthly income.
- An agreement that so long as the borrower performs in accordance with the terms of the SSA, the servicer will not complete a foreclosure
Upon negotiating a purchase contract, the borrower would submit a Request for Approval of Short Sale ("RASS") to the lender. The lender must approve the RASS within 10 business days. The lender must approve a RASS if the net sale proceeds available for payment to the lender equal or exceed the minimum net determined by the lender prior to the execution or extension of the SSA and all other sales terms and conditions in the SSA have been met. Additionally, the lender may not require, as a condition of approving a short sale, a reduction in the real estate commission below the commission stated in the SSA. The servicer may require that the sale closing take place within a reasonable period following acceptance of the RASS, but in no event may the servicer require that a transaction close in less than 45 calendar days from the date of the sales contract without the consent of the borrower.
Borrowers who have pursued a short sale without applying for a loan modification under HAMP or requested preapproval through an SSA may still request approval from their participating lender through an Alternative Request for Approval of Short Sale (Alternative RASS). The servicer must verify the borrower's financial information through documentation and obtain a signed Hardship Affidavit from the borrower prior to approving the short sale. If the borrower does not wish to be considered for a modification, the servicer may consider the Alternative RASS without first having to enter into an SSA with the borrower. If the servicer approves the short sale, then the loan will qualify for the HAFA program.
The Program Enhancements Described below have modified some of the details of the HAMP and HAFA programs:
On March 26, 2010, the Administration announced enhancements to the Home Affordable Modification Program (HAMP)to provide additional resources for struggling homeowners. These changes will provide temporary mortgage assistance to some unemployed homeowners, encourage servicers to write-down mortgage debt as part of a HAMP modification, allow more borrowers to qualify for modification through HAMP, and help borrowers move to more affordable housing when modification is not possible.
This program enhancement will be funded through the $50 billion allocation for housing programs under the Troubled Asset Relief Program (TARP). It will take time to get these new program enhancements up and running. Some pieces, such as increased payments for alternatives to foreclosures, will be put in place in the coming weeks. The Government anticipates the full set of programs to be available by the fall of 2010. Keep in mind that many of these guidelines are voluntary, and it is hoped that the govbernment incentives will lead to most banks following the initiative guidelines.
This new HAMP program enhancements include the following features:
1. Temporary assistance for unemployed homeowners while they search for re-employment
Mortgage payments reduced to affordable level for a minimum of three months, and up to 6 months for some borrowers, while eligible homeowner looks for new job
2. Requirement to consider alternative principal write-down approach and increased principal write-down incentives
All servicers required to consider alternative modification approach that emphasizes principal write-down with incentives based on the dollar value of the principal reduced
The principal reduction and the incentives will be earned by the borrower and investor based on a pay-for-success structure
3. Improvements to reach more borrowers with HAMP modifications
Improvements to borrower solicitation requirements including clear performance time-frames for both servicers and borrowers and a prohibition against initiation of a new foreclosure referral when a borrower is cooperating with the servicer to obtain a modification
Borrowers in active bankruptcy must be considered for HAMP upon request
Increased incentives for servicers to provide permanent HAMP modifications
Expansion of HAMP to include homeowners with FHA loans
4. Helping homeowners move to more affordable housing
Relocation assistance payments to homeowners receiving foreclosure alternatives doubled
Increased incentives to servicers and lenders, including increased incentives for extinguishment of subordinate liens, to encourage more short sales and other alternatives to foreclosure
For details of the enhancements described above, see my web blog entry Making Home Affordable Program Enhancements to Offer More Help for Homeowners
Effect of Federal Reserve Funds Rate or Discount Rate on Long Term Mortgage Rates:
Many borrowers are confused as to what the impact on mortgage rates is when the Federal Reserve (the "Fed") chooses to raise or lower short term interest rates. The Fed does this by changing the "Discount Rate", which is the rate at which member banks may borrow short term funds directly from a Federal Reserve Bank. This rate is set directly by the Federal Reserve. The Federal Reserve can also indirectly impact short term interest rates by open-market transactions (buying and selling government securities), which will impact the "Federal Funds" rate. The federal funds rate is the interest rate that banks charge each other to lend excess funds that they have on a daily basis, and is also referred to as an "over-night" rate. The discount rate and the federal funds rate is an important factor in determining other short-term interest rates that banks charge, such as the Prime Rate, which banks use as a factor in computing the interest rate on short term loans. Since the actions of the Federal Reserve only directly affect short-term interest rates, the effect that they have on longer term mortgage interest rates is really an indirect one, and can often lead to a short term effect on long term mortgage rates that is the opposite of the move in short term interest rates.
The short term effect that the Federal Reserve's actions have on mortgage interest rates is based on the interaction of the stock and bond markets (primarily longer term bonds and mortgage-backed securities), and will often lead to a short term effect on long term mortgage rates opposite that on short term rates. For instance, when the Federal Reserve increases the discount rate or federal funds rate, the stock market generally will react by selling off stocks due to the anticipated reduction in corporate profits due to the higher interest rate that companies will be paying on their short term borrowings. Investors will generally reinvest the proceeds from these stock sales in bonds, thus increasing the demand for long term bond investments, and an increase in the price of bonds. This increase in pricing of bonds effectively leads to a decrease in these bond's interest rate yield to an investor, thus leading to a drop in the market long term interest rates.
On the other hand, when the stock and bond markets long-term inflationary expectations are similar to that of the Federal Reserve Board which sets the federal funds rate, the impact on long term mortgage rates may move in the same direction over the long term as the direction in short term interest rates set by the Federal Reserve. This is due to the fact that if the bond markets believe that inflation, over the long term, is going to be increasing, then the interest rate yields that they demand to buy bonds, which are a fixed rate investment, will increase, at the same time that the Federal Reserve is increasing short term interest rates in an attempt to slow the economy down by making the cost of borrowing funds by companies more expensive.
This is why it is so important for your financial advisor and mortgage broker to understand these market forces which affect mortgage rates, both for short term rates as well as long term rates, and to be able to advise you as to whether it makes more sense for you to choose a mortgage instrument tied to short term rates, or to fix your mortgage interest rate for a longer term. Understanding the market cycles of both short term and long term interest rates, and where we are in each cycle is critical in helping you make a choice as to whether to lock-in current long term interest rates, or to use a shorter term adjustable rate mortgage.
The spread, or difference, between short term interest rates and long term mortgage rates will also have an important effect on this decision. For instance, when the stock and bond markets believe that inflation, over the long term is generally under control, thus leading to relatively low long term interest rates, the Federal Reserve may be raising short term interest rates because they believe that the economy is growing too fast which may lead to future inflation. In this case, the difference between short and long term interest rates decreases, thus leading to a very flat interest rate yield curve (this is a term referring to a graph of interest rates, with shorter terms on the left of the graph and longer terms moving to the right, and plotting the related interest rate for each period of time). In this example, the advantage of selecting an ARM is not large enough to offset the risk of increasing interest rates, therefore a long term mortgage may be desirable. In the case where the spread in interest rates between short term and long term interest rates is large, it may be advantageous to select the ARM mortgage, particularly if the borrower expects to only live in the home for a relatively short period of time.
Reverse Mortgages:
For seniors, there is a relatively new mortgage available called a reverse mortgage. This type of mortgage is useful for people who have a large equity in their home, but who live on a fixed budget and find it difficult to live on their current income. Many seniors in this situation are forced to sell their homes. Instead of selling your home, a reverse mortgage pays the home owner a fixed amount each month while they own the home, with the mortgage amount thus increasing each month for the amount of the payment, plus interest. There are several types of reverse mortgage products, one of which, the Home Equity Conversion Mortgage which is used by 90% of reverse mortgage borrowers, is federally insured. All reverse mortgages are due and payable when the last surviving borrower dies, sells the home, or permanently moves out of the home. (Typically, a "permanent move" means that neither you nor any other co-borrower has lived in your home for one continuous year.) For those homeowners who are sophisticated, they can effectively accomplish the same thing by obtaining a home equity line of credit, which is relatively inexpensive to obtain, and designing their own monthly draw program on their loan by utilizing a payment calculator using various assumptions about their age, home value etc.
An excellent web site for borrowers is one run by Jack M. Guttentag, Professor of Finance Emeritus at the Wharton School of the University of Pennsylvania, which is called Mortgage Professors' Web Site. This site contains many excellent articles and advice on obtaining a mortgage and also includes many very useful calculators.
Sources of Funds for a down payment:
Sources of funds to make a down payment on a home can come from one of several sources:
1) Savings
2) Home equity line of credit on your existing home
3) Borrow money from your 401(K): You may borrow money from your 401(K) for a down payment on a home purchase, if the plan allows for it without a penalty. You may not borrow money from your IRA for a down payment, however 1st time buyers, may withdraw funds one time with out paying a penalty, up to $10,000, however you would have to pay income taxes on the withdrawal.
4) Equity from the sale of your existing home or investment
For some excellent articles and discussions about financing your home, click on one or more of the following website links:
Bankrate.com
Quicken Loans
Bank of America Financing Advice and Articles
E-Loans
For some information on the level of recent interest rates, Click Here
I recommend the following mortgage brokers for assistance in arranging your financing:
Carolina Brown, Amerifund Lending Group 310-999-3530 or carolinab@amerifundlending.com
Al Hermann American/California Financial Services 310-540-1330
To calculate what your mortgage payment would be under different scenarios, Click Here
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| Remax Palos Verdes Realty |
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Realtor
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