Take a Peek Inside Your Lender’s Bag of Tricks

Question: I know you have written about the “tricks of the trade” that mortgage brokers, and some other lenders, use, but I’m sure I don’t have them all. Could you list them and explain how I can deal with them?

Answer: A core problem in home-loan shopping is that mortgage brokers usually offer the best deals and also the worst deals. So shoppers need to know how to protect themselves.

Here are some of the common ploys, followed by tips on how to protect yourself:

* Low-Ball Offers:

To draw customers, some brokers will advertise low-ball prices that they have no intention of honoring.

Once they get you in the door, they will play “bait and switch” or “let ‘em dangle.”

“Bait and switch” is the game played by some appliance merchants and others who advertise a low-ball price but when you arrive at the store they happen to be out of the advertised special and try to interest you in something else.

“Let ‘em dangle” means keeping you on the hook in the hope that market rates might drop enough to make the advertised special profitable.

Protection: Don’t respond to any ad that quotes a price half a point or more below the lowest price offered by anyone else.

Read “Is This Deal Too Good to Be True?” on my Web site.

* Bait and Remember:

Some mortgage brokers will fail to mention certain fees until the borrower is in too deep to bail out, then “remember” them.

Protection: Require the broker to provide a written list of all fees to be paid by you, including known payments to third parties such as credit reports and appraisal fees.

It should not include prepaid items, payments by the lender to the mortgage broker or charges by third parties unconnected to the lender which are not accurately known until later.

Read “How to Shop Settlement Costs” on my Web site.

* Charge the Lock Price but Don’t Lock:

Some mortgage brokers will charge borrowers to lock the rate and points but not inform the lender.

If interest rates don’t rise, the broker pockets the lock premium; if they do rise, the broker moves to Mexico.

Protection: Don’t deal with a mortgage broker who was not in business before 1994, when the current refinance boom began.

On a purchase transaction, referrals from the real estate sales agent are generally reliable because their commission is dependent on your deal getting done.

Read “Did You Pay for Insurance You Didn’t Get?”

* Rig the Market Rate Against Floaters:

Borrowers prepared to take the risk may elect to “float” the rate and points during the period until the loan closes, betting that market rates will not rise.

The “market rate,” however, is what the broker says it is, and some brokers up the price as the closing date approaches.

Protection: Do not float past the point where you can bail out and shop elsewhere. If you do, you must develop your own measure of market changes with which to confront the broker.

Read “How to Keep Lenders Honest on Rate Floats.”

* Excessive Fees on High-Rate Loans:

Cash-short borrowers who haven’t shopped interest rates may be vulnerable to brokers who promise not to charge for their services and even to pay some or all of their closing costs.

The rate quoted on such deals is so high that the lender will pay the broker points for the loan (“negative points”).

The fees earned by mortgage brokers are almost always higher when they are paid by the lender than when they are paid by the borrower.

Protection: If you need a negative-point loan, the place to get it is online at one of the mortgage shopping sites.

Read “Why Shop for a Mortgage on the Internet?”

* Interim Refinance:

Borrowers who want to refinance a mortgage that has a sizable prepayment penalty may fall prey to the interim refinance ploy.

The first refinance is for an increased loan amount that includes the penalty but carries a high rate, while the second, occurring several months later, lowers the rate.

The borrower does avoid having to pay the penalty in cash, but the cost of the two deals wipes out most or all of the gains from refinancing.

Protection: Just don’t do it. Read “Is Interim Refinance a Saving or a Scam?”

These various tricks of the trade are not equally distributed through the mortgage brokerage industry.

Charging a lock price while failing to lock is a ploy of a relatively small number of fly-by-nights.

Low-ball offers, bait and remember and interim refinance are sleazy business practices of a minority of brokers.

Rigging the market against floaters and earning excessive fees on high-rate loans are more common practices.

Interim Loan Cost More in Long Run

Q: I had a $300,000 fixed-rate loan at 8.25% with 28 years to run that I wanted to refinance, but it had a prepayment penalty that amounted to $5,000. So my mortgage broker put me into an interim 30-year loan at 8.5% for $305,000, the extra $5,000 covering the prepayment penalty. It cost me $2,600 out of pocket, reducing my gain to $2,400.

I expect to refinance again in three months at a better rate. My new payment is $2,345 compared to $2,100, which is what it would have been had I gone directly to a final loan at 7.5% and zero points. So I lose $245 a month for three months, which cuts my gain to $1,665. Still, I come out ahead. Or am I missing something?

A: What you are missing is that you didn’t avoid paying the prepayment penalty, so there was no $5,000 benefit from the interim loan. You merely borrowed an amount equal to the penalty. Though it did not cost you anything out of pocket, now you must pay it back with interest.

If you had refinanced permanently the first time, it would have cost $5,000 out of pocket for the prepayment penalty, and you would have had a new loan balance equal to the old balance of $300,000. Total cost: $305,000.

With the interim loan, you paid $2,600 out of pocket plus $735 in additional monthly payments, and your new loan balance is $305,000. Total cost: $308,335.

In short, the interim loan did not allow you to avoid the prepayment penalty, so the cost associated with it is money out of your pocket.

The interim refinance loan designed to save a prepayment penalty is a scam. Like many scams, it works best with consumers who are fixated on how much cash goes into or out of their pockets today and on what their monthly payments are, while ignoring how much they owe.

Jack M. Guttentag is syndicated columnist and professor of finance emeritus at the Wharton School of the University of Pennsylvania. Questions or comments can be e-mailed to [email protected]. Distributed by Inman News Features.