Mortgage 101
Lock Terms
When you signal your intent to proceed, I will lock in your rate for a specified number of days. A lot of buyers choose a 30-day lock, which means they have up to 30 days to close on the mortgage. Others might ask for a 45-day lock because they need a little more time to close. The longer time period comes with a small charge to offset the duration. Some others might ask for a 60-day lock, perhaps they are renting an apartment and the apartment management requires a 60-day notice before moving out without getting charged a penalty. If the seller is comfortable with the longer period, this is a choice that comes with an additional small cost for the extra days. The point is there is flexibility on the time line to close depending upon each borrower’s needs.
Debt-to-Income Ratio
There are two DTI (Debt-to-Income) ratios. The front-end is the ratio of the PITI (Principal, Interest, Tax and Insurance) that a homeowner pays on their home every month divided by their gross monthly income. Then there is a second ratio, the back-end ratio. This ratio includes the PITI and adds any recurring liabilities like car payments, student loans, and child support, to name a few. All major loan types have a limit on the ratios because the underwriting guidelines are designed to prevent new homeowners from taking on more debt than they can reasonably afford.
Mortgage Insurance vs Homeowners Insurance
Mortgage insurance is generally required on a mortgage if the LTV (Loan-to-Value) ratio is more than 80%. The LTV ratio is simply the amount of the mortgage divided by the sales price or appraised value of the home. Mortgage insurance is designed to protect the lender in worst-case scenarios, which means the borrower defaults on the mortgage and the home is then foreclosed on and sold at auction to pay off the balance of the mortgage. The catch to mortgage insurance is that the borrower pays for it, but does not benefit in that worst case scenario. Rather, the lender is paid off in that scenario. Mortgage insurance protects the financial instrument that is the mortgage.
Homeowners insurance, on the other hand, which is sometimes referred to as hazard insurance, protects the actual physical structure of the home. It protects the house, townhouse or condominium in case of fires, storms and other natural causes. If you have a mortgage, you will have homeowners insurance. But, generally speaking, only those that put less than 20% down on a conventional mortgage, or take out a FHA, USDA, or VA mortgage will have mortgage insurance.
*VA loans have a funding fee, which inherently includes mortgage insurance, whether explicitly outlined or not.
Credit Checks
If you are not already doing this, please go check your credit right now. Every year, you can check your credit report with all three of the credit reporting agencies for free at Annual Credit Report. You can either do all three at the same time or spread them out over time so you can stay on top of your credit profile while you look for a home. This is something you want to do immediately because if there is an error or discrepancy on your report, it will take some time for them to remove it from your credit profile after you report the mistake. You don’t want to discover the mistake right as you are applying for a mortgage because it could cost you a substantial amount of money.
When you apply to get pre-approved, I will check your credit as part of the underwriting process. However, I don’t charge for running your credit. Also, I will do a soft-pull on your credit so that it does not affect your credit score.
Retail vs Wholesale
It takes a lot of people to originate a mortgage. There are loan officers, processors, underwriters, closing coordinators and shipping clerks to name a few. Banks and a lot of large mortgage companies are classified as “retail” because all of the people that work on their mortgages work directly for the bank or lender. Then, there is a different category of lenders called “wholesale.” Their process is quite similar to retail, except they outsource the loan origination and sometimes the processing to mortgage brokers, like myself.
Because wholesale lenders outsource the origination, they generally do not have multiple offices spread across the country. They just have one central office. Also, since they deal directly with mortgage brokers they generally do not spend money on advertising. This centralized business model makes wholesale lenders more efficient as they cut down on their costs. This business structure benefits the borrower when the wholesale lenders pass along their savings to the borrower in the form of lower interest rates. As of the fall of 2022, the largest lender in the US is a wholesale lender. They didn’t become the largest by accident.
Refinancing Myths
In wake of the 2007-2008 Global Financial Crisis, the US Federal Reserve cut rates as part of its pursuit of avoiding a second great depression. For more than a decade, interest rates stayed at historically low levels below 5%. With the arrival of COVID, the US Federal Reserve again had to drop rates to stave off a financial disaster. Only since 2022, when the Fed raised rates in response to inflation, have they returned closer to historical norms. If you look at the 30-Year Fixed Rate Mortgage Average in the United States from 1970 up until the Great Recession, it was well above 7%.
Don’t assume that if you take out a mortgage today, that you will be able to refinance it at a lower rate sometime in the near future. There is nothing in historical data that suggests we will see the low rates that we grew accustomed to recently. Now, if you get lucky and rates drop enough that you are able to refinance into a lower rate, then good for you. But, it would not be a good idea to “plan on refinancing” your mortgage. My advice to you is that whatever rate you get, assume that will be the rate you will have for the life of your mortgage.