Mortgage Originators Initiate The Process
Your mortgage lender is part of an extensive and wealthy system of residential real estate finance. The person at the very knife-edge of the lending process is the loan originator, the loan officer or independent arranger who helps loan applicants fill out forms, gather documents and submit the loan application; they are there to help you. Applying for a home loan is uniquely stressful, and surprises can pop up, even after you begin making payments.
However, the mortgage originator is also responsible to the lender, and they have to balance the conflicting responsibilities of being the person in the middle. The range of organizations that offer residential mortgages to consumers is diverse; banks, credit unions, and finance companies to name just a few, but, the function of the loan officer who directly facilitates the process of setting up home loans is a constant.
Back Office Issues And Secondary Action
The first factor is that there are many regulations involved in mortgage lending, which includes requirements for loan originator licensing under the 2008 SAFE Act, a Federal statute that dictates that all originators must hold either Federal or state issued licenses. Also, the practices that work well in one instance tend to apply to the whole market; consumer behavior determines lending officer behavior to a large extent.
In all likelihood, the next thing that happens to your loan once you have begun the term, your lender will sell it on the secondary mortgage market. As a borrower in good standing, this means little to you directly. However, it sends the loan into a system that spreads the risk among many investors and gives liquidity back to the mortgage companies, so they can keep funding new loans.
Your loan officer or independent originator hands off the mortgage to the company that funds it, the funder may hold it and service it in-house or, when it is an FHA conforming loan, sell it to Fannie Mae or Freddie Mac to bundle into mortgage-backed securities (MBSs).
Mortgage companies routinely sell home loans on the secondary market for real estate loans. The transfer does not impact borrowers directly. However, the servicer will stake a fraction of a percent as a fee to send the payments to the MBS holders.
Sending Home Loans Down The Pipeline And Servicing Them
The organization that takes your payments and passes them to the MBSs is your mortgage servicer, which may be the same company that initially underwrote your loan, or it may not. Do not be surprised if, not long after you have bought a new home or refinanced, your lender sends you a formal letter of notification of a new servicer.
It is a common practice for lenders to sell to your loan on the secondary market. They may also introduce another financial company that will service your loan by taking your payments. As surprising as this is to unsuspecting consumers, you need not worry, it is all business as usual and part of the structure of the financial industry that forms the foundation of America’s dreams of homeownership.
When you finance the purchase of a home, in most cases, you will either have to make a sizable down payment or take out a private mortgage insurance policy (PMI). The choice is cut and dried for most borrowers.
But in some cases, if you want to have the most refined control over your costs, you may be able to find another alternative to PMI. If the numbers add up, you may be able to take out a piggyback loan to top up your deposit and save money over the life of the loan.
The Piggyback Loan
A second or junior loan is that because it takes a subordinate position in its claim on your assets, should you default on the payments. Your primary or first lender can claim your assets in foreclosure and sell them. Any amount that remains, after the recovered first loan, goes to repaying subordinated obligations, which means more risk and higher interest rates for junior loans.
In practice, a second often means a home equity line of credit (HELOC). PMI does not contribute to repayment, and you can potentially pay a second back more quickly, reducing the interest when otherwise you would still lack the equity to escape the need for a policy. A small second with a term of five years may be the right ticket. If your first loan is for thirty years, you may still have a high enough balance outstanding that you require PMI for more than five years.
Finding The Right Tools For Any Situation
Another instance that this strategy might be useful is when using a second mortgage will enable you to avoid a high-priced jumbo loan. If your loan would take you over the conforming limit, a jumbo loan will have a higher rate of interest and put additional requirements on your loan. One remedy would be to use a second loan to keep within conforming loan limits, saving money for you in the long-term.
The question is how to make up the equity in your home and having an adequate down payment rather than a loan that requires private mortgage insurance and the added cost. There are other options, for example, if you are a qualifying veteran, VA home loans have no requirements for insurance, regardless of the size of the deposit.
Weigh Your Options
Using second mortgages to save costs is just one of the many options you have in home finance. Connect with your lending professional to work out the numbers. Using a piggyback loan to circumvent the requirement for PMI is creative and proactive, it gives you an advantage as long as you first set it up in a viable plan and then you discipline yourself to stick to the plan.
Deciding to use a loan to avoid the obligation for PMI is a matter of determining the value of the trade-off regarding the risk. You might be able to reduce your payment obligation regarding the total payments. However, it is important to remember that you can always cancel your PMI but a second loan is an enduring commitment; you have to pay until the debt has been satisfied.
Bonds are just loans that are so big that the institutions that create them divide them into standardized securities and slice them up into affordable units. That is what Fannie Mae and Freddie Mac do with residential mortgages; they bundle home loans together so that many small streams of income become giant securitized cash flows, this is the mortgage-backed securities (MBS) market.
For government debt and corporate bonds, the units usually are $1,000 each. For more technical bonds like MBSs, the units usually sell for $25,000 each initially. Once on the market, they can trade at a discount or premium to face value, depending on market sentiment.
The Market For Mortgage Backed Securities
Mortgage-backed securities give investors income from a small share in a wide range of borrowers. The MBS market helps you buy your home because they bring institutional money into the residential lending market and create a cycle of lending and investing that helps everyone. For most conforming loans, Fannie Mae and Freddie Mac do the work of putting MBSs together.
You take out a home loan, and the bank or mortgage company that sold it to you goes to the market and sells your loan for cash; the money they gave to you they recuperate from the MBS markets. The market makers then collect these loans and add them to new MBSs, which they sell to investors. The lender still services your loan, but they pass on most of your payment to the market, which distributes it to the investors who hold the bonds.
There has been a lot of talk in the financial press in the last decade about the MBS market; most of the chatter has put these bonds in a very negative light. However, there was a good philosophical concept behind MBSs, one that reflects the values of this country and its market-based culture of self-help. It is true that as the lending market overheated that financial markets made the situation worse and then suffered a collapse in 2008. Sub-prime loans were misidentified as triple-A rated debt and collapsed overnight, taking the markets down with them.
3 Reasons Mortgage Backed Securities Mean Easier Lending
They keep the funds liquid – Real estate is an investment that makes it difficult to withdraw funds; you cannot just cash out part of the value the way that you might sell off stocks or withdraw funds from a savings account. By taking loans and bundling them into securities the cash comes from the size of the market makes the best use of cash.
They replenish your local lender – More people can own homes because of the liquidity mentioned above. The cycles of cash that flow from institutional investors replace the funds for finance companies and banks, which can then create more loans.
They help to preserve standards in lending – As long as the agencies create the bonds correctly, and the ratings represent the actual quality of the underlying home loans, MBSs are stable assets that deliver income to investors. Although lenders do not have to follow the FHA rules for conforming loans, access to the secondary markets makes the terms appealing as part of successful lending business models, giving lenders a stake in maintaining high standards.
What Are These Bonds And Why Should Home Buyers Care?
When you borrow from a bank or finance company to buy your home, the loan itself becomes a valuable asset for the holder. The value comes from your promise to pay the amount due each month, on time, every month. Given the time and effort that it took to approve you and the solid reputations of the institutions involved, it is very likely that your promise to repay your conforming loan will be a sound investment for the holders of such bonds.
Consumers want to purchase homes, but they seldom have the cash to do so without some assistance. Real estate ownership requires capital, which has to come from somewhere. It is also difficult to buy and sell homes, compared to other investments like stocks and bonds. These agency bonds make buying your home affordable by providing the liquidity that allows investors to inject capital into the market.
Liquidity For Mortgage Lending
If there were nothing like the real estate bond market investors would be in short supply, and lenders would charge much higher interest rates. Since it is the equity in the land and buildings that secure the lending, it is a relatively safe investment, and that was the attraction to pool loans together and sells them as agency bonds.
Bonds are high-value loans in which brokers sell shares. In return for holding a bond, you get a coupon, which is a periodic payment, usually semi-annually, and the repayment of the face value of the loan when it matures. However, no law says that this is the only structure; it is a matter of the market makers finding the bond structures that are most popular with investors and exploiting them for profit.
Agency Bonds From Fannie Mae Freddie Mac And Ginnie Mae
Entities such as FNMA (Fannie Mae), FHLMC (Freddie Mac), and GNMA (Ginnie Mae), are not part of the government, but they do receive sponsorship for the agency bonds they create. These instruments pool together home loans and sell the bonds to investors. These organizations were set up to purchase home loans and bundle them as investments, to sell to institutional investors such as investment banks, pension funds, insurance companies, sovereign wealth funds, and wealthy private investors.
Agency bonds generate the capital that funds your home loan. It is this form of institutional investing that enables you as a homeowner to purchase a home with financing at a low rate of interest and a low down payment. Ginnie only invests in loans that are backed by government guarantees. Fannie Mae and Freddie Mac will buy notes that conform to their standards but which do not have the same government backing. The government backing makes the Ginnie Mae bonds even safer investments than the others.
Balance Due At Maturity
The conventional residential real estate mortgage has a structure, which includes monthly repayments of principal and interest, where the payments over the term of the loan pay off the principal entirely, and nothing is due at maturity. In other lending instruments, such as corporate bonds, the borrower has to make payments of interest, called coupons semi-annually, and the full balance becomes due when they reach maturity.
Balloon payment mortgages have features that make them intermediate between conventional amortizing home loans and bonds. The balloon is the balance that becomes due at maturity. The advantage that you get from this type of mortgage is that your payments will be lower, in the same way that an adjustable rate mortgage. The difference is the risk of not being able to make the balloon payment when it comes due.
Loans That Grow Up Too Soon
Lenders calculate the payments based on a long-term amortization, but the mortgage come due at a date considerably earlier than it would take to pay it off. That means that at the end of the term, you will have to pay the outstanding balance. The balloon is the large final repayment of principal.
If you have a seven-year term with a thirty-year amortization and a balloon payment it will be less expensive the same a loan with a seven-year amortization, but then so will an adjustable rate mortgage. ARMs tend to have much less painful adjustments than the balance due at the end of a balloon loan.
Emulating Commercial Real Estate Lending Practices
You make a few assumptions if you agree to a balloon payment. You assume that you will have the payment, one way or another. Perhaps you have the capital, but you don’t want to tie up in something as illiquid as real estate. Or you are very confident that you will be able to sell at a profit when the loan comes due.
This type of funding is more popular in commercial real estate; making a balloon payment is less of a concern if the property is merely one in a much larger portfolio of investments. As with most financial obligations, you will benefit most if you are in a position of strength; things cost less in the long run if you have the capital assets to back your choices.
Selling Balloon Property Tricks
Lenders also benefit from the balloon payment; they always prefer to receive payments sooner rather than later. The risk of investing extends along with the period of the loan so that on average, loans that pay back capital faster represent a smaller risk. To encourage consumers to take on balloon mortgages lenders will sometimes offer a version that gives the option of a reset at maturity.
Choosing a balloon mortgage is one option to finance your home. However, it is a less appealing option arguably than an ARM if you need the low payments. A 5/1 ARM will reset but rather than a struggle to cover a balance due at the risk of foreclosure; you might just have to scramble to find a larger but manageable monthly payment. If you can make larger payments and wish to pay less over the long-term, you will get greater benefit from a fifteen-year repayment loan.
A cash-out refinance mortgage repays your current balance with a larger loan and gives you the difference as a lump sum of cash at closing. You can use this money for anything that you wish, but some choices are wiser than others. There are few proper uses to cash out in this way and plenty of options for other sources of funding. However, you can use a cash-out refi to consolidate higher rate liabilities and save some money on payments for the long-term.
The Uses For A Cash-Out Refinance Mortgage
A cash-out refinance mortgage is one of the options for extracting equity from your property; it is most suitable where you need a large lump sum to dispense with some other, more expensive liability. For example, if you have balances on high-interest credit cards, using a cash-out refi to pay them off will save the cost of interest payments and contribute to additional savings in tax deductions.
Another appropriate use for receiving cash at closing would be to pay for home improvements and refurbishments that will add at least as much value to the home as the cash that comes out of the loan. However, you might find that a home equity line of credit (HELOC) is a more suitable option for refurbishment, as costs tend to accrue gradually and the cash sitting in your account will incur interest whereas a line of credit only charges interest on the funds you use.
The Low Down On Cash Outs
Closing costs for a cash-out mortgage are comparable to other refinancing packages; the fees will quickly climb to more than a thousand dollars any time you restart your mortgage. You will also have to undergo the approval process for your credit and, as you are asking or more money, the condition of the property too.
Lenders may balk at approving a cash-out refi in some circumstances, such as if your credit score has dropped. They may require a higher credit score than regular re-fi loans, a minimum time in occupation of the property, and a loan-to-value ratio of not-more-than 85 percent.
There Is Probably An Alternative
Other options include junior loans such as home equity loans and home equity lines of credit. A home equity loan achieves the same ends and pays off more quickly; An HELOC is suitable when you will be making home improvements and need to draw on a revolving line of credit. You will not have to pay interest on any more of the HELOC than you use.
Refinancing any home loan is a matter of timing; you need to be confident that you can handle the payments and the interest rate. On the positive side, a cash-out refi gives you money in the bank to spend as you wish. The question is: What is it that you can do with such a lump sum that will improve your personal wealth?
Veterans of the United States Military who wish to own a home have a resource that in second to none in supporting home purchase through the U.S. Department of Veterans Affairs (VA), which offers a home loan guaranty benefit that is second to none. Not only is there an excellent facility to buy a home with a first mortgage on favorable terms, but veterans can also take advantage of the IRRRL program that enables them to refinance their VA home loan if and when better conditions become available.
VA Home Loan Program
Past and present service members in the United States Army, Air Force, Navy, Marine Corp, or Coast Guard, you may be eligible for financing with a Veterans Administration-backed home loan. If you are active duty military or a qualifying veteran you can take out home loans that have the best, most generous terms available on the market.
If you have sufficient credit, veterans and service members can get a low cost, no-money-down VA loan. These terms apply to veterans, active service, reserves, and National Guard, as well as some surviving spouses.
Like FHA and other government-backed loan programs, VA home loans have conforming limits. However, these limits are slightly more flexible when it comes to geography. The ceiling on a conventional VA home loan depends on the county in which the property is situated, with the maximum being $417,000 in most counties, but this increases significantly depending on the value of real estate in that county.
Interest Rate Reduction Refinance Loans For Veterans
Veterans who already have a home loan through the VA program can refinance at a low cost using the VA Interest Rate Reduction Refinance Loans (IRRRL) program. Unlike your original VA financing, you do not need to have a certificate of eligibility to qualify. The cost to refinance for qualifying veterans is very low because there is no requirement for appraisal or loan underwriting fees; there are no costs out of pocket because the interest payments include the expenses.
Lenders are under no obligation to make an offer on your IRRRL application. So, you will have to shop around if your preferred lender is not interested in responding. Other, less scrupulous, finance companies have been known to claim they are the only source of an IRRRL refinance, so again, shop around before you commit to any lender with which you are unfamiliar.
Getting The Most Out Of VA Loans
Considering the sacrifices and hard work undertaken by the members of our military it is only right that the country should honor our veterans with the chance to own homes on easy to meet terms. Financing your home purchase with the help of the VA is one of the most successful entitlements that we provide for our veterans. If you fit the criteria, you have an outstanding opportunity to own a home. With the VA IRRRL program, you might just be able to improve on the VA backed home that you already have.