September 18th, 2009 11:23 AM by Preston Ware
When I am advising a client as to the best way to price their loan we usually look at three options. The most popular option is a mortgage loan with “no points”. This means there is no broker origination fee. The second most popular option is to price the loan with the lowest interest rate by “buying the rate down” by paying a point. This means inclusion of 1% of loan amount fee.
The third option that is quite often not even considered is the option where I pay closing costs for the customer. This option is typically available on larger loans, usually $200,000 or more. With loans that size, I can pay all of the closing costs if that’s the way the customer wants to price their loan.
Skeptics say to me, “Why would you do that? Don’t you lose money?” The answer is “No, definitely not.” To understand the concept you have to understand the mechanics of how a mortgage guy gets paid. The two ways we are compensated are by charging fees directly to the customer such as a mortgage origination fee or a broker fee or to receive service release premium or yield spread from the lender. It is paid outside of closing. The lender will pay a larger premium for a loan that is locked at a higher interest rate.
For example a loan at a 5% rate might have a yield spread premium of 1% where a loan at an interest rate of 5.5% could have a yield spread premium of 3% to the mortgage broker. Since the average amount of closing costs on a larger loan is about 1.7% - 2%, I can pay all the costs for that customer and still net my one percent earnings.
To answer the question what is the best scenario for me, you have to ask yourself, “How long do I intend to stay in this loan?” The average customer changes their mortgage every five years. For whatever reason, if you feel you may move or change jobs take a loan with no points and reap the benefit of a low interest rate with average costs. If you are buying your dream home and have no intention of moving ever again and rates in general are very low, look at paying a one point origination fee to secure the absolute lowest interest rate. This will keep accumulated interest the lowest of the three options.
Whenever we do the math on a mortgage refinance, we take the difference in cash flow savings between the old and new mortgages, divide it into hard closing costs and that gives us our break-even point. Quite often the paying the point option will have a break-even point of about 48 months. The break-even on the no point loan may be 30 months and the break-even point on the no cost loan is always zero months.
Even if you are bringing your rate down just a little, you reap the benefits on day 1 and it didn’t cost you anything.
Here is a typical scenario. A guy thinking about moving in two years when he retires has a loan of $250,000 at 6.375%. Even though the current prevailing interest rate is 5% with no points, I can take him down to 5.5% and pay all his closing costs. His payment drops by $140 per month and because of the timing of the payoff of the current mortgage and the start of the new mortgage he will skip a payment in the middle. His cash flow savings is about $5000 in two years time and it didn’t cost him a dime.
Written by Preston Ware of First South MortgageTel: 704-542-8057http://www.prestonware.comEmail is email@example.comCharlotte, NCExclusive to HULIQ