by Brian Brady
Commercial Real Estate Finance Expert
Structured Debt and Equity
Licensed Real Estate Broker in AL, CA, and FL
Want to “finance your closing costs” but are confused about the disparity in offered mortgage rates? You might have to thank the Financial Regulatory Reform Act of 2010 (H.R. 4173) for limiting your ability to structure your loan fees. Read pp 1486- 1490, specifically Section 9903 of the Bill; Prohibition on Steering Incentives.
I’ve explained that Yield Spread Premium in a way for consumers to reduce upfront closing costs by accepting a higher rate:
Discount Points are upfront interest to the borrower . Along those lines, so are closing costs from third-party providers. This means that we figure in those costs as the true COST of credit to the consumer and measure it as an annual percentage rate (APR). There are 2-3 good arguments about why APR is an antiquated measure but I’ll leave them for another article. Borrowers pay points to lower the rate. A common term is to “buy down the rate”.
Did you know that mortgage brokers get money at a wholesale cost? It’s how we make profit. Just like your local Nordstrom’s, we buy at wholesale and sell at retail. The only difference is that we, acting as a mortgage broker have to tell the customer three times what we expect to profit on their mortgage transaction: First, within three days of an application on a good-faith estimate, at the bottom of the itemization (bottom of page 1 of the California MLDS), second, within three days of drawing loan documents (same disclosures), and finally, on the HUD-1 Settlement Statement as a paid outside of closing (POC) item.
That profit, paid by the lender to the broker is called yield spread premium or YSP. You can understand it as “negative points”. if a consumer “pays points to lower the rate”, why can’t they “receive points to accept a higher rate”. Instead of paying upfront interest in the form of a discount point, they receive upfront interest in the form of a “YSP”. That receipt of upfront interest defers the mortgage broker’s fee!
In the beginning of 2010, the industry adopted the 2010 good-faith estimate. The purpose of that disclosure was to smack the consumer, right between the eyes, with the dollar amount of the originator compensation. Moreover, if terms improved for the borrower, after receiving that disclosure and when locking the mortgage rate, the originator couldn’t profit from the increased yield spread premium; it has to be passed through to the borrower.
A borrower can compensate a mortgage broker a $4,000 fee, on a $200,000 loan, three ways today: (rates are for example only and are not current offerings)
RATE Borrower-Paid Points Lender-Paid Yield Spread Premium
4.50% $4,000 $0
4.75% $2,000 $2,000
5.00% $0 $4,000
Under subsections (c) 1-2, of Section 9300, the second (at 4.75%) or “hybrid compensation” plan would be illegal under the new Financial Regulatory Reform Act. As with all regulations, industry participants look for ways to better serve the consumer and give her what she wants. Under the proposed law, I think it is conceivable for an originator to charge the $4,000 fee directly to the borrower and allow the $2,000 yield spread premium (at 4.75%) to pay the other third-party fees (appraisal, escrow title, etc). If I’m incorrect about that assumption, this new law offers consumers less rather than more control of their mortgage options.
Don Reedy says:
Brian, all this Financial Reform Act hoopla reminds me that when Nolan Ryan (and now Stephen Strasburg) is running a 100 mile per hour fastball in on your hands, the last thing you are going to worry about is whether or not your agent is going to get you an extra “mill” next year. When you’re playing the game, up to bat, that’s the time that you’d better be a hitter, because all the other stuff doesn’t matter.
In the past six months I’ve had as clients three engineers (mechanical, electrical and bio), a doctor, college professor, fireman, CEO, web site designer, general contractor and a few teachers. You’d think these clients would be expected to be intelligent, aware and probably very savvy real estate clients.
Do most of these clients understand the Good Faith Estimate? Do they firmly grasp the HUD?
Here’s the heresy.
The red herring in the Financial Reform Act is the idea that informed consumers (informed as to mortgage options) are automatically informed consumers (informed as to the investment, balance sheet and cash flow issues that flow from a real estate purchase). They simply are not.
Jeff Brown writes about this every day. He says to his often “sophisticated” clients, “You need my expertise to follow the financial issues from the pitchers hand to the catcher’s glove.” Anything less, he preaches, will likely result in a strikeout.
Sure, if you take the time to counsel your clients about the pros and cons of spending or sparing cash up front, about payback periods, and about the potential cost of money, they’ll be able to make a better decision about what option to select as a loan product. But none of that (your valued advice) is in the Reform. In fact, you’re probably not ethically allowed to offer that advice, are you?
Love the information. But as a Realtor on the street, this governmental act doesn’t reform anything that really impacts the consumer. It reforms the umpires. It doesn’t do much for the batting average of a typical consumer. You probably agree, so thanks for the opportunity to resin up.
June 14, 2010 — 4:30 pm
Brian Brady says:
This one was straight “reporting” rather than opinion but, since you mentioned it…
“You probably agree”
Well…yeah.
June 14, 2010 — 8:58 pm
Brian Brady says:
“But none of that (your valued advice) is in the Reform. In fact, you’re probably not ethically allowed to offer that advice, are you?”
This was what I believe to be the complete failure of the Bill. I can offer advice about those things but I (and others in my industry) are not held to a fiduciary duty in making loan recommendations. Congress had an opportunity, in the 1500 page act, to address the most important part of the originator/client relationship but the bank lobbyists go to them. This is the glaring omission in the Bill.
I think licensure and regulation of compensation ultimately costs consumers more but the ONE thing they could have done was the establish an agency relationship with real standards of care that go beyond whether the client could repay the loan. That’s the heresy
You got me. I was chomping at the bit to offer opinion 🙂
June 14, 2010 — 9:07 pm