principles of mortgage banking products and pricing rick...

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Products and Pricing

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Principles of Mortgage Banking – Products & Pricing

Rick Herrick, CMPPresident, MBBA-NH

Senior Loan Officer, NMLS#48452Embrace Home Loans, NMLS # 2184

[email protected]

mailto:[email protected]

TYPES OF MORTGAGE LOANS As of January 10, 2014 all residential mortgages must meet the definition of being “QM” (Qualified Mortgage) or non - ”QM”

Government – loans insured or guaranteed by the federal government

FHA, VA, Rural Development

Conventional – loans insured by private mortgage insurance companies, A/K/A “PMI”

- conforming or non-conforming

Portfolio – conventional loans held on a lender’s own books known as their “portfolio”


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As part of the implementation of the “Financial Reform Act” of 2008, legislation known as “QM” (Qualified Mortgage), “ATR” (Ability to Repay Rules) and other regulations aimed at improving the quality of mortgage loans went into effect January 10th 2014.

- Stricter qualifying ratio of 43% overall (firm)

- Qualifying income subject to higher scrutiny “Residual” income formula used, as well as standard ratio analysis in some cases

- Source of income used in qualifying must bestable and likely to continue at the same amount or greater

- Limitation on amount of closing costs known as “3% Rule”


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Government Loans


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The FHA, or Federal Housing Administration, provides mortgage insurance on loans made by FHA-approved lenders. FHA insures these loans on single family and multi-family homes in the United States and its territories. It is the largest insurer of residential mortgages in the world, insuring tens of millions of properties since 1934 when it was created.

Government Loans - FHA


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Benefits of an FHA Loan, borrowers that use them are able to take advantage of benefits and protections unavailable with most traditional mortgage loans. FHA loans are insured by HUD and provide lenders with greater leniency in underwriting. Here are a few benefits you can enjoy with an FHA loan:

• Easier to Qualify - FHA makes loans available with less restrictive requirements • Competitive Interest Rates - FHA loans usually offer lower interest rates • Lower Fees - In addition to lower interest rates, you can also enjoy lower costs

on other fees like closing costs, mortgage insurance and others.• Bankruptcy / Foreclosure - As long as you meet other requirements that satisfy

the FHA, such as re-establishment of good credit, solid payment history, etc., you can still qualify.

• No Credit - The FHA usually requires two lines of credit for qualifying applicants. If you don't have a sufficient credit history, you can try to qualify through a substitute form.



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Debt-to-Income RatioThe FHA requires borrowers to have stable, dependable income that is verifiable by the lender.

Borrowers generally must have a debt‐to‐income ratio including the proposed mortgage payment of no greater than 43%‐which means the amount of total monthly debt cannot consume more than 43% of the borrower’s total monthly income.

Also, the amount of a proposed mortgage payment alone that includes principal, interest, taxes and insurance cannot be more than 31% of the borrower’s monthly income.

It’s important to note that FHA requirements may be more forgiving than those of an individual Lender. FHA loan rules do provide exceptions for borrowers who may exceed these limits when there are “compensating factors.”



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Down Payments and FHA Mortgage InsuranceAll FHA home loans require a down payment. Those eligible for maximum financing must provide at least 3.5% of the price of the home as a down payment. Those who qualify for a LTV of 90% will need a 10% down payment or higher, depending on the terms of the loan agreement.

For most FHA home loans, the borrower must pay:• An Up Front Mortgage Insurance Premium or UFMIP• An annual insurance premium, collected in monthly installments.• The FHA official site states the monthly premium varies by the type of FHA

home loan.

(New purchase home loans may have different requirements than refinancing loans, etc.) The premium is based on the outstanding principal balance.



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FHA Loan LimitsThe FHA does not set a single, maximum loan amount for FHA‐insured home loans. The amount of your FHA home loan depends on a combination of factors including the local market in your county or zip code, the appraised value of the property, and the amount you may qualify to borrow based on your credit and payment history.

The FHA official site features a list of loan limits by countyhttps://entp.hud.gov/idapp/html/hicostlook.cfm

https://entp.hud.gov/idapp/html/hicostlook.cfm


FHA (summary)

- Down payment as low as 3.5%

- Allows the borrower to use 100% “gift” fundsfor the down payment

-Loan limits are set by countyhttps://entp.hud.gov/idapp/html/hicostlook.cfm


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Government Loans – cont’d

FHA (summary)

- Fixed and ARM products available

- Declining markets not a problem, more flexible underwriting guidelines, ratios, etc.

- Sellers allowed to contribute up to 6% of the sales price to help with closing andsettlement costs.


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Government Loans – VA


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The main purpose of the VA home loan program is to help veterans finance the purchase of homes with favorable loan terms and at a rate of interest which is usually lower than the rate charged on other types of mortgage loans. For VA housing loan purposes, the term "veteran" includes certain members of the Selected Reserve, active duty service personnel and certain categories of surviving spouses (provided they do not remarry.)



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VA helps Service members, Veterans, and eligible surviving spouses become homeowners. As part of their mission, they provide a home loan guaranty benefit and other housing-related programs to buy, build, repair, retain, or adapt a home for their own personal occupancy.• VA Home Loans are provided by private lenders, such as banks

and mortgage companies. • VA guarantees a portion of the loan, enabling the lender to provide

more favorable terms.• http://www.benefits.va.gov/homeloans/



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VA loans offer the following important features: • Ensure that all veterans are given an equal opportunity to buy homes with VA

assistance, without regard to their race, color, religion, sex, handicap, familial status, or national origin.

• No downpayment (unless required by the lender); the purchase price is more than the reasonable value of the property as determined by VA, or the loan is made with graduated payment features.

• A freely negotiable fixed interest rate competitive with conventional mortgage interest rates

• The buyer is informed of the estimated reasonable value of the property.• Limitations on closing costs.• An assumable mortgage. The assumption must be approved in advance by the

lender or VA. Generally, this involves a review of the creditworthiness of the purchaser (ability and willingness to make the mortgage payments).

• Forbearance extended to VA homeowners experiencing temporary financial difficulty.



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VA BenefitsPurchase Loan help purchase a home at a competitive interest rate often without requiring a downpayment or private mortgage insurance. Cash Out Refinance loan allow cash out of a home’s equity to take care of concerns like paying off debt, funding school, or making home improvements.Interest Rate Reduction Refinance Loan (IRRRL): also called the Streamline Refinance Loan helps obtain a lower interest rate by refinancing an existing VA loan.Native American Direct Loan (NADL) Program: helps eligible Native American Veterans finance the purchase, construction, or improvement of homes on Federal Trust Land, or reduce the interest rate on a VA loan. Adapted Housing Grants: help Veterans with a permanent and total service-connected disability purchase or build an adapted home or to modify an existing home to account for their disability.Other Resources: many states offer resources to Veterans, including property tax reductions to certain Veterans



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Eligibility RequirementsThe length of service or service commitment and/or duty status may determine eligibility for specific home loan benefits.

Purchase Loans and Cash-Out Refinance: VA-guaranteed loans are available for homes for personal occupancy. To be eligible, one must have a good credit score, sufficient income, a valid Certificate of Eligibility (COE), and meet certain service requirements.

To obtain a Certificate of Eligibility (COE), one must have been discharged under conditions other than dishonorable and meet related service requirements.



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Obtain a Certificate of Eligibility (COE)Servicemembers, Veterans, and National Guard and Reserve Members• Apply online: go to the eBenefits portal. • Apply through your lender: Most lenders have access to the Web LGY

system. This Internet-based application can establish eligibility and issue an online COE in a matter of seconds.

• Apply by mail: Use VA Form 26-1880, Request for Certificate of Eligibility.

Surviving Spouses• Can take the VA form 26-1817 to their lender for processing. • Call 1-888-768-2132 and follow the prompts for Eligibility. • Mail completed form 26-1817 and DD214 (if available) to: VA Loan Eligibility

Center Attn: COE (262) PO Box 100034 Decatur, GA 30031.

http://www.ebenefits.va.gov/

http://www.vba.va.gov/pubs/forms/vba-26-1880-are.pdf



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Restoration of EntitlementVeterans can have previously-used entitlement "restored" to purchase another home with a VA loan if:

• The property purchased with the prior VA loan has been sold and the loan paid in full,

• A qualified Veteran-transferee (buyer) agrees to assume the VA loan and substitute his or her entitlement for the same amount of entitlement originally used by the Veteran seller.

• The entitlement may also be restored one time only if the Veteran has repaid the prior VA loan in full, but has not disposed of the property purchased with the prior VA loan.

• Remaining entitlement and restoration of entitlement can be requested through the VA Eligibility Center by completing VA Form 26-1880.

http://www.vba.va.gov/pubs/forms/VBA-26-1880-ARE.pdf



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Funding fees• A funding fee must be paid to VA unless the veteran is exempt from such a fee

because he or she receives a minimum of 10% VA disability compensation. If a veteran is awarded disability compensation after paying a funding fee, he/she can apply for a refund of this funding fee, so long as the beginning date of the disability is prior to the closing date of the home mortgage.

• The VA Funding fee may be paid in cash or included in the loan amount. Closing costs such as VA appraisal, credit report, loan processing fee, title search, title insurance, recording fees, transfer taxes, survey charges, or hazard insurance may not be included in the loan. However, the seller may pay these on behalf of the VA borrower.



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Purchase and construction loans funding feehttp://www.benefits.va.gov/homeloans/purchaseco_loan_fee.asp check for

updates.

Type of Veteran Down Payment First Time Use

Subsequent Use for loans from 1/1/04 to

9/30/2011

Regular MilitaryNone5%-9.99%10% or more

2.15%1.50%1.25%

3.3%*1.50%1.25%

Reserves/National Guard

None5%-9.99%10% or more

2.4%1.75%1.5%

3.3%*1.75%1.5%

http://www.benefits.va.gov/homeloans/purchaseco_loan_fee.asp



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Cash-out refinancing loans funding fee

Type of VeteransPercentage for First

Time UsePercentage for

Subsequent Use

Regular Military 2.15% 3.3%*

Reserves/National Guard

2.4% 3.3%*



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Other types of loans funding fee

Type of Loan

Percentage for Either Type of Veteran

Whether First Time or Subsequent Use

Interest Rate ReductionRefinancing Loans

.50%

Manufactured Home Loans 1.00%

Loan Assumptions .50%


VA- Summary

- Restricted to individuals qualified by militaryservice or other entitlements

- In most cases no down payment is required

- No monthly mortgage insurance; VA acts as a co-signer with eligible borrowers


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Government Loans

VA- Summary

- Seller is allowed to pay for closing costs and settlement items on behalf of buyer(s).

- Loan principle generally follows FNMA/FHLMC conforming limits

- Self-sustaining through use of VA “funding fee which is waived for 10% or greaterdisability.


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Government Loans Rural Development (RD)


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Single Family Housing Programs provide homeownership opportunities to low- and moderate-income rural Americans through several loan, grant, and loan guarantee programs. The programs also make funding available to individuals to finance vital improvements necessary to make their homes decent, safe, and sanitary.

We will detail the Guaranteed Loan Program

For information on all programs, visit rurdev.usda.govhttp://www.rd.usda.gov/NH http://www.rd.usda.gov/MAhttp://www.rd.usda.gov/VT http://www.rd.usda.gov/ME

http://www.rd.usda.gov/ma

http://www.rd.usda.gov/VT

http://www.rd.usda.gov/ME

Government Loans – RD


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Guaranteed Housing Loans, Applicants for loans may have an income of up to 115% of the median income for the area. Families must be able to afford the mortgage payments, including taxes and insurance. In addition, applicants must have reasonable credit histories.

Direct Housing Loans, Purpose:Section 502 loans are primarily used to help low-income individuals or households purchase existing homes in rural areas including modular and manufactured homes; funds can be used to build, repair, renovate or relocate a home, or to purchase and prepare sites, including providing water and sewage facilities.



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WHY USE USDA/RURAL DEVELOPMENT GUARANTEE PROGRAM? • Increases your purchasing power. • No down-payment required. Loans can be for the total purchase price of the

home. • The up-front guarantee fee of 2.0% can be included in the loan amount. • Apply at a local lender – a lender of your choice. • Qualifying ratios of 29/41 are generous. • If you have good credit scores over 680, ratios can be stretched to expand your

purchasing power. • If you have no credit history, lenders can use other alternatives to check your

creditworthiness. • No maximum purchase price limits - The only limiting factor is your purchasing

power as determined by the ratios



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OVERVIEW OF THE RURAL DEVELOPMENT (RD) GUARANTEE PROGRAM: The purpose is to provide low cost mortgage insurance for loans financed through local lenders for applicants who need insurance. Loans can be used to purchase a single family home, including installation of a new mobile home, modular home, or refinance an existing USDA/RD direct loan. Unlike the USDA/RD direct program, these loans are not subsidized. There is no recapture of subsidy in the guaranteed program. Summary of features for purchase transactions include: • 102% LTV Financing. • One-time up-front fee of 2% for acquisition and .5% annual fee • Fixed rate 30 year term. • No purchase price limits. • Income up to 115% of county• Gifts and seller contributions can be used to pay closing costs• Escrow accounts must be established for taxes and insurance.



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WHAT ARE THE PROPERTY REQUIREMENTS The property must be a single family unit or an approved condominium unit. Homes must be located in designated rural areas. Eligible property locator.

http://www.rd.usda.gov/programs-services/single-family-housing-guaranteed-loan-program/mahttp://www.rd.usda.gov/programs-services/single-family-housing-guaranteed-loan-program/nh http://www.rd.usda.gov/programs-services/single-family-housing-guaranteed-loan-program/me http://www.rd.usda.gov/programs-services/single-family-housing-guaranteed-loan-program/vt

Homes may be new construction stick built, modular, or new manufactured housing is acceptable on individual sites.

Camps, existing mobile homes, multifamily dwellings and Income-producing property cannot be financed.

http://www.rd.usda.gov/programs-services/single-family-housing-guaranteed-loan-program/ma

http://www.rd.usda.gov/programs-services/single-family-housing-guaranteed-loan-program/m



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Guaranteed Program: Maximum income limits, by family size and by area of the State are shown below. Household Size: 1-4 PERSON 5-8 PERSON.

Income Eligibility charts for each statehttp://www.rd.usda.gov/files/RD-GRHLimitMap.pdfFrom the United States map, pick your state.

http://www.rd.usda.gov/files/RD-GRHLimitMap.pdf

Government Loans – HECM

FHA Reverse Mortgages (A/K/A) HECM” exempt from “QM” definition)- Must be 62 years of age or older to be

eligible

- May be an equity line, closed end loan orannuitized payment based on life expectancy of borrower(s).

- No credit or income requirements, loan is “collateral-based”.


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Government Loans – cont’dFHA Reverse Mortgages (A/K/A “HECM”)

- No restrictions on use of funds

- No required payments from borrower(s)

- Borrower(s) retain title to home

- Must maintain and insure propertyand keep property taxes paid.


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Government Loans – cont’d

FHA Reverse Mortgages (A/K/A “HECM”)

- Must remain in property for at least one month out of every twelve

- Principle balance comes due if borrower passes away or moves out and stays out for more than 12 consecutive months

- Borrower(s) retain title to home


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Conventional Loans

Conforming - Meaning “conforms” to FNMA/FHLMC guidelines and now also includes “QM”

- Fannie and Freddie establish loan amounts, terms, credit, collateral and other standards

- Typically must carry “PMI” if down payment is less than 20%.

- Seller allowed to contribute up to 3% of sales price to help with closing and settlement costs.


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Conventional Loans – cont’dMortgage Insurance (MI)

Three ways to pay- Borrower paid monthly- Borrower paid single premium- Lender paid single Premium - MI coverage and cost goes away when loan amortization schedule reaches 78% LTV or less automatically.


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Conventional Loans – cont’dTypes of loans -

- Fixed rate for the life of the loan

- Fixed rate with temporary buy-down.

- Adjustable rate, A/K/A “ARM”

- “Portfolio” loans (meaning held in-house)


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2 Year Buydown option

- Sale price: $250,000- Loan amount: 237,500- Note rate: 5.50%- Regular payment: 1,348.50- Buydown amount: 5,126.00*

*Can be buyer funds, gift or seller concession

Year 1 Year 2 Year 3

$1,066.48 1,203.38 1,348.50

$3,384.24 (cash needed to fund)

$1,741.44 (cash needed to fund)

0


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Adjustable Rate Loans

Interest rate and monthly principle and interest payments can change over the life of the loan

Rate and monthly payment change according to a pre-determined schedule

In “negative amortization” ARMs, the rate can change but not the monthly payment. Interestdifference is added to the outstanding principle witheach payment.


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Adjustable Rate Loans – cont’d- With negative amortization loans, the

principle increases over time, rather than being paid down.

- Negatively amortized loans usually come with a “balloon” payment at the end of the term.

- Reverse mortgages are a type of negativelyamortized loan.


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Adjustable Rate Loans – cont’d- Adjustable rate loans were first developed in

the high rate environment of the 1980s to help keep home-buying affordable.

- Lenders were willing to accept a lower rate in the early years of the loan in exchange for a higher rate, later on.

- Borrowers were helped, as well, as they could qualify for more home if the start rate was lower and that was used in qualifying.


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Components Of The ARM

- Initial rate is typically 1% to 3% lower than the fixed rates offered at the time.

- Fixed rate period is the time that the rate is fixed, or locked in, until the first and subsequent rate adjustments

- The index is the variable built into the loan to determine future rate adjustments, typically “LIBOR” or one of the U.S. Treasury indices.


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Components Of The ARM – cont’d- The margin is the constant component that

is added to the (variable) index to determine rate adjustments.

- Margins are a set of numbers such as 2.00% or 3.250% which is added to the index to determine the rate through the next fixed rate period.

- Indices represent the rate of return a bank would receive for an investment.


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Principles of Mortgage Banking– Products & Pricing

Components Of The ARM – cont’dThe margin represents the amount above that rate of return the bank expects to receive for added risk in a mortgage

The calculation of index + margin is referred to as the “fully-indexed” rate.

The “ATR” rules now require the borrower to be qualified at the higher of the start rate, fully indexedor the projected rate as of payment #61 in the amortization schedule.


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Components Of The ARM – cont’d

“Caps” are put into place to limit the amount the rate can increase in a given period and over the life of the loan.

Interim caps are used on the periodic rate adjustments.

Life of loan or “lifetime” caps limit the rate can increase over the entire amortization period. Common rate caps are 2% (interim) and 6% (lifetime).


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Components Of The ARM – cont’d

Example of “Caps” 2/2/62 - How much rate % rise or fall in first adjustment.2 - How much rate % rise or fall annual adjustment6 - How much rate % rise or fall from start rate over life of loan.

5/1 ARM – 2/2/6 CAPS, means the initial rate is fixed for 5 years then annual thereafter. Start of 6th year rate could move +-2%, than annually rate could move +-2% and no more than 6% +- lifetime.


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Common ARM Indices

- Constant Maturity Treasury (CMT)

- Treasury Bill (T-Index)

- London Interbank Offering Rate (LIBOR)

- Prime Rate - published in Wall Street Journal

- Average Prime Offer Rate (APOR)


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Common ARM Indices – cont’d CMT, Treasury and LIBOR are the most commonly used indices. Approximately 80% of all ARMs, today, are based on one of these. Each index has its own advantages and disadvantages which either “lead” or “lag” changing market rates. An index is a lagging index when it rises after market rates begin to rise. A lead index is slightly ahead of market rates and would tend to rise in advance of market rates.


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Interest Only Mortgages Interest only, negative amortization and terms greater than 30 years are not “QM” loan products.

Interest only payment option loans can be fixed-rates or ARMs

They allow the borrower to pay just the accrued interest every month and make their own principle reductions.

Typically the interest only payment options runs for a set time frame; 3, 5, 7 or 10 years.

Then the principle balance must be paid off or amortized.


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Balloon Loans Balloon payment loans are also not “QM” loans

Option to pay principle in full at a pre-determined time in loan term

Often couple with interest only loan terms in first few years.

Or, a “commercial” loan which requires the existing loan to be “renewed” at a particular point in the loan amortization typically 5 years.


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- Full Doc – complete file of supporting documentation for the file: W2s, depositstatements, pay stubs, etc. Everything isverified. Only fully documented loans are now considered “QM” loans.

- Stated Income - Income stated but not verified. Assets are verified.

- No Income/ No Assets Verified – Knownas “NINA” loans.


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Documentation Types & Requirements

No ratios – Employment and assets are verified, but debt-to-income ratios are not calculated.

Stated Income/Stated Assets (SISA)- Income and assets are stated but not verified.

No Doc with Assets – Only assets are verified.


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Documentation Types & Requirements - cont’d

No Doc - Income, assets and even employment are neither stated on the application or verified in anyway.

All of these have various levels of risk involved with the last one, the true “no doc” loan, being the riskiest to the lender and ultimately, in hindsight, to the borrowers as well which is why they have been ruled non “QM” loans by the CFPB.


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Documentation Types & Requirements - cont’d

- If the lender is retaining the loan as their ownincome-generating asset, their revenue stream comes mainly from the “spread’ or difference between what the loan is generating for an interest rate and the lender’s cost of funds.

- For a depository, spread is the difference between deposit rates and loan rates. The lower the rate of interest they can afford to pay for deposits, the better the spread.

Pricing - How Does a Lender Generate Revenue?


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- If the lender is selling their production into the secondary market, their revenue will come mainly from the gain on the sale of the loan.

- A second form of revenue comes from servicing the loan for the investor, although that comes as annual income based on a percentage of the dollar amount of the loans being serviced. Servicing also generates gains in the form of a servicing-released premium or “SRP” if the servicing contract for the loan is sold along with it.

Pricing - How Does a Lender Generate Revenue – cont’d


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Pricing – How Does a Lender Generate Revenue – cont’d

- Lenders also generate revenue through fees such as origination, underwriting, and other charges known as “junk” fees.

- An additional new rule, known as the “3% rule limits the amount a lender can charge in retained fees.

- When a loan is sold above “par”, it means that there will be a gain generated from the difference between the par rate and the actual loan note rate. This is known as “yield spread”. Much the same way that a loan servicing contract has value which is turned into revenue when the loan is sold, so does yield spread.


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- “Points”, which are a percentage of the loan principle typically paid by the borrower but also by the seller in some situations, is another form of revenue or “gain” received by the originator at the time the loan is sold.

- Note: there are differences both legally and in the way they operate between mortgage lenders, mortgage bankers and mortgage brokers and the way they generate their revenue.

Pricing- How Does a Lender Generate Revenue – cont’d


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Broker: Closes with lender funds, does not underwrite or service. YSP in fee sheet

Correspondent: close with own funds, do not service, sell to large consolidators. SRP

Direct Seller: Avoid consolidators, sell direct to GSE’s

Depository: May keep servicing, sell to GSE’s

Pricing- How Does a Lender Generate Revenue – cont’d


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- Loan-to-value ratio- Loan purpose (cash-out, or debt

consolidation vs. LCOR or limited cash-out)- Loan principle- Loan product- Margins (ARM)- Credit score of the borrower- Property type - Rate lock time line

Factors That Affect Pricing


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Servicing released premiums or “SRP” –This is the net value of servicing rights paid to the lender when they sell off the servicing contract for the loan as well as the loan itself.

Points – a percentage of the loan chargedas an up-front fee to (the borrower) which increases the gain on the sold loan.

Pricing – Other Forms of Revenue


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Questions


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Rick Herrick, CMPPresident, MBBA-NH

Senior Loan Officer, NMLS#48452

Embrace Home Loans, NMLS # 2184

[email protected]

mailto:[email protected]

principles of mortgage banking products and pricing rick...

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