Here we are six years into one of the worst financial crises since the Great Depression, and most prospective homebuyers still don’t understand the concept of home loans or how they work.
To help, here is a list of the top questions I think you must ask before you make a final decision to borrow from any particular lender.
1. What is the actual stated interest rate on the note?
For many years, lenders have been required by our federal government to reveal a confusing number called the “APR” for “annual percentage rate.” The problem with APR is that it may or may not include certain fees that you may or may not be paying, which can give you a distorted view of the loan you are receiving.
Home mortgage loans are “simple interest” loans, calculated on a monthly basis. So every month, your lender takes the outstanding principal balance, multiplies that by the stated interest rate, then divides that sum by 12 to see what interest has been earned for the prior month. Anything you pay beyond that amount goes to reduce the principal balance.
Most home loans today are fixed rate, and are calculated in advance to pay out with equal monthly installments of principal and interest in 30 years or 15 years.
It is critical that you know the actual stated interest rate on the loan you are seeking, because that number will determine what portion of each payment is interest, with the remainder being principal repayment.
2. What is the actual cash required at closing and what will the total monthly payments be?
These two dollar amounts are perhaps the most important numbers related to your home purchase. The first represents your cash outlay on the day of purchase — the amount you will be expected to bring to the settlement table in certified funds. If you don’t have it, you can’t buy the house.
Included in this sum will be closing costs, discount points, prorated amounts for property taxes and association fees, advance deposits for setting up any required escrow account, and any other charges such as owner’s title insurance, first years insurance premium, inspection fees, delivery fees, and any other miscellaneous fees the lender or attorney can dream up.
The second number represents the minimum monthly payment of interest and principal you must make in order to avoid losing your home. Remember that you may be required to include an advance payment for taxes and insurance, which the lender will hold in escrow.
3. How can I “lock in” on this rate, how long will the lock last, and what will a rate lock cost me?
For the past 20 years or so, home loan rates have been volatile, often changing daily, and sometimes even multiple times in the same day.
That’s why lenders often agree to “lock you in” at a specific interest rate at no charge for 30 days from the official date of application. Unfortunately, that may not be enough. And once you ask for a lock for 45 days or longer, the lender either wants a fee or it will offer a higher rate, both unacceptable.
The problem with a “30-day lock” is that if a slowdown develops with your loan application, and rates have risen since your application date, you will be left with no alternative other than accepting the higher rate.
On the other hand, if rates have fallen, you can probably talk your lender into getting you at least a portion of the drop. If push comes to shove, you could likely transfer your loan package to another lender and get the new, lower rate.
My prognostication is that long term home loan rates will rise this year, making the scenario of exceeding your lock a serious threat.
To avoid it, pester your loan originator almost daily on paperwork and needed documentation, offering to help in any way you can, but reminding them that you absolutely must close on time or the deal may be called off.
