By:Â Â Â Ernest W. Lester,
Author / Developer of Transaction IntelligenceÂ®
As mortgage lenders wait for the Consumer Finance Protection Bureau to consider feedback on its final proposed rules, not all is known about what home mortgage lenders will be required to disclose to consumers as â€˜the comparisonâ€™ of loan proposals to a â€œno fee mortgage.â€
If a lender wants to propose any rate in its rate schedule that charges lender fees, the CFPB will require disclosure of a â€œno fee mortgageâ€ at the same time, with exceptions.
The CFPB has described the no fee mortgage as a loan without lender fees. The originating lender is paid from a loan premium. For example, if required fee income to the originating lender is 2% inclusively, a wholesale rate coupon priced at 102 (priced at par to the customer with no other lender charges) would be the deal. Its definition does not preclude a wholesale price of 106 provided only that all lender fees are paid from the premiumâ€¦ apparently. The regulation is not telling lenders what their all inclusive fee must beâ€¦ so far.
When Scenarios Compete
The CFPBâ€™s stated purpose in requiring competing loan scenarios is "to provide consumers with clearer options and enable them to choose the loan that they believe is right for them."
There is further guidance on paying pointsâ€¦ The increased cost must actually reduce the note rate (must be bona fide).
The requirement that one of the scenarios be a low cost alternative (the â€œno fee mortgageâ€) is good. When compared to a higher cost (lower rate) alternative, the borrower can see both the payment savings and the upfront cost difference. The borrower can see the difference, as well, when a no fee mortgage is compared to a lender-paid closing cost scenario; but, apparently, the CFPB is concerned only with lender fees visible to the borrower (Look for this to change.)
The point in time when the disclosure must be rendered has not yet been defined. The CFPB is requesting industry feedback as to whether to require at the time the GFE is required, or sooner. The GFE is currently required post-real estate contract.
Seller-paid Costs Create Challenges
I have a practical issue with the usefulness of the comparison, rendered post-real estate contract, when the real estate contract has some or all of the transaction costs being paid by the seller. If the higher cost of the lower rate alternative is covered by a seller payment, it is not so likely the borrower will choose the lower cost alternativeâ€¦ as that would mean either not spending some of the seller contribution (to the sellerâ€™s benefit) or renegotiating the contract for the lower seller contribution. This may be counter-intuitive to some borrowers who regard the seller contribution as â€˜free moneyâ€™. The possible borrower reaction will not be popular with the real estate broker(s), who must then renegotiate the deal. Transaction alternatives should be evaluated well before the contract is written so that the contract can be negotiated on the terms required. With current technology that can provide such evaluations simply, there is no excuse not to do this early and often.
"We are fallible human beings who more often than not ignore even the most elegant of explanations with impunity."Â - carl801 Madison, Alabama
Seller-paid costs may also pose a challenge to constructing a valid, apples-to-apples, purchase scenario for the no fee mortgage. The buyer will be due an amended contract (with lower purchase price and lower seller payment) if he chooses the no fee mortgage. The purchase scenario must be found that is equivalent (i.e.; delivers the same proceeds to the seller). In the case of maximum loan-to-value scenarios, this will be a trial and error exercise for the MLO without automation specific to the task.
A comparison of the proposed Loan Scenario 1 to a â€œno fee mortgageâ€ is required. Loan Scenario 1 reflects the negotiated purchase agreement.
NOT A VALID COMPARISON â€“ Scenario 2 nets seller more than the contract requires because the allowed seller payment cannot exceed costs.
A VALID COMPARISON â€“ These scenarios are equivalent because they net the seller the same amount. (6% brokerage fee assumed)
Borrowers with maximum back ratios may not qualify at the higher no fee mortgage rate/payment. A CFPB rule waives disclosure of the no fee mortgage in cases where the consumer is unlikely to qualify. This is not good regulation. These are the at-risk borrowersâ€¦ who may qualify for a lower cost alternative (just not a â€œno fee mortgageâ€)â€¦ and they donâ€™t get to choose?? If there are ANY practical lower cost alternatives, then a comparison is possible and should be provided.
Why Not Compare the Lower Cost Loans?
In requiring these disclosures, the CFPB is obviously trying to reveal, by way of comparison, the value of the rate buy down. But why not also compare the no fee mortgage to a higher rate, lender-paid closing costs scenario? The dynamics are the sameâ€¦ the difference in rates results in different overall transaction costs and different monthly payments.
Given the CFPBâ€™s goal, this appears to be an inconsistency. Especially, it is the withholding of lender credits at the higher rates that has been an issue. Without the comparison requirement in every case, the issue is not being addressed.
Best Choices | All Choices
Most disconcerting to me: neither of the two alternatives presented may be a borrowerâ€™s best choice! Here, I am concerned with 1) considering only a single, defined alternative, that may not be the best, and 2) the absence of financial analysis to guide the borrower to a â€˜financially bestâ€™ choice from among all practical alternatives.
[This ends the discussion of the regulations and begins discussion of my better solution.]
Technology can bring this, thoroughly! So, I say if we are going â€œto enable them to choose the loan that they believe is right for them,â€ - we should do it in a manner that is so clear and transparent it leaves no uncertainty. After all, this is the biggest of deals! And uncertainty is a deal killer!
There are a couple side benefits I can think of, as well. One is that you are less likely to later be accused providing bad or less than totally transparent guidance. (Loose regs lead to loose litigation.) Another is that you are exceeding regulatory requirements to better care for your customer. These side benefits can ultimately help the industry get the government off its back.
Present ALL practical alternatives. There are often 9 or more rate/cost alternatives for a loan program. All may not be practical; but, usually, several more than one will be practical.
Include analysis that concludes which alternative is â€œfinancially bestâ€ given the borrowerâ€™s profile and plans (i.e.; tax bracket and expected term of ownership).
Compare the scenario that is â€œbest if my plans are realizedâ€ with the scenario that is â€œbest if I sell short of my plans.â€ Set the 'sell short term' of ownership at 4 years. (For those with not so much skin in the game, at least 4 years of loan amortization is needed to show enough equity for resale... so it doesn't look so scary.)
Have I just thrown you a curve? Perhaps. But isnâ€™t this exacting what we are trying to warn the borrower about?
If you finance more or pay more cash to buy down the rate, you are taking the risk of losing if you sell short of your plans.
Example: In the â€˜A VALID COMPARISONâ€™ above, the borrower saves $8.00 per month by paying $2,228.00 to buy down the rate. Only $384.00 is recaptured in 4 years. Had the borrower not saved the $8.00 per month (i.e.; chose Scenario 2), his payoff in 4 years would be $1,595 less.
Technology Can Handle This!
Above, I mentioned â€œcurrent technology that can provide such evaluations simply.â€ Mort Genius Brands has styled a Lender Proposal and supporting details as follows.
The Lender Proposal as Comparative Disclosure
This â€˜How to Read the Lender Proposalsâ€™ appears on our www.AskMort.com, website, under construction. This 'Ask Mort, Home Buyer Resource' site will be designed to attract, inform and connect serious home buying prospects with local, individual MLOs.
Below, the 'Best for 12 Years' alternative is, coincidentally, the original contract price and terms in the above examples. But also notice that the 'Best for 4 Years' alternative is a significantly lower cost alternative than the above no fee mortgage. A 4 year term will typically point to a cost alternative lower than the no fee mortgage, if available. The 'Best for 4 Years' alternative should, therefore, always meet the technical definition of a no fee mortgage (e.g.; no lender fees).
The Details Including All Practical Alternatives
This is from our Transaction IntelligenceÂ® (Beta) tool, the Best Scenario Analysis page. It is the same data as the 'Proposal Details', referred to above. You can test drive this beta version at www.mortgeniusbrands.com.