Troy D. Village, MBA | Sr. Loan Officer | NMLS #325112

Paying Loan Points – Waste of Money? Or Good Investment?: You've all seen loan rates and programs that offer a better rate but require paying loan points upfront. Paying loan points (one point is the equivalent of 1% of the loan amount) is an option a borrower can use to get a below market rate. The question is “how do you determine when paying loan points on a loan to reduce your interest rate makes sense?” Here a quick way to check:

First, determine your interest rate and monthly payment assuming you're paying no loan points and compare that to rates and payments you can get by paying one point (1% of the loan amount). For example, perhaps for a $400,000 loan, you can obtain a 30-year fixed loan at 5.00% without paying loan points and a monthly payment of $2,147, compared to the same loan at 4.625% with a payment of $2,056 and paying loan points of $4,000.

Now, take the total cost of loan points ($4,000 in this case) and divide by the difference in monthly payment ($2,147 - $2,056 = $91) to determine how long it will take to break-even. In this example, breakeven occurs in 44 months (or 3 years, 8 months), or $4,000 / $91/month. This would be the minimum holding period for the borrower to recoup their investment.

Breakeven Equation: Difference in Cost / Difference in Monthly Payment = Breakeven In Months

You’ll note that this equation works even if you’re comparing total closing costs instead of just loan points. Financial advisors that I know suggest paying loan points only if the breakeven point is less than 36 months. Beyond that timeframe, there are too many uncertainties (e.g., the loan could be refinanced, property sold, etc.). Paying loan points tends to make the most sense for fixed rate loans, rather than ARM loans with limited fixed periods. If you intend to keep your loan at least until the breakeven point, consider paying loan points. However, if you expect to pay off the loan earlier, or the fixed period of the loan is relatively short (less than 5 years), paying loan points may not be feasible. Of course, there are exceptions to the rule, and it’s usually a good idea to explore options with your mortgage consultant beforehand.

Questions? To contact me, click to visit Troy Village's activerain website or email me.

What Really Bad Credit Scores Really Cost: There's a direct relationship between credit scores (or FICO's) and mortgage rates. You may be saying, "Yeah, tell me something I don't know!" But, it may surprise you just how much credit scores affect mortgage rates and fees. Credit scores have long been used to determine borrower risk. The higher the credit scores, the lower the rate and/or fees, and vice versa.

But, how much do credit scores affect mortgage rates? The average credit scores in the U.S. is 692 (as of Nov. 2009). But, what happens if your credit is better? Or worse? If you're wondering just how much your credit scores cost you when closing that mortgage loan, here's the skinny!

Conventional Guidelines:
Conventional loans are underwritten according to Fannie Mae and Freddie Mac guidelines and, depending on the county, can go up to $729,000. Conventional mortgage loans have overlays based on credit scores that reward borrowers with good credit scores and penalize lower credit scores.

Let's use an example of a borrower with a $400,000 mortgage loan for a $500,000 property (80% LTV). Based on current guidelines, here's what the additional costs are based just on credit scores:
Credit Score Additional Points Cost of Additional Points
740+ 0% $0
720-739 .25% $1,000
700-719 .75% $3,000
680-699 1.75% $7,000
660-679 2.75% $11,000
640-659 3.50% $14,000
<640 Good luck with that! An arm AND a leg?

Now, if you're sitting there with credit scores of 740+, you're in good shape. If you're at 650, figure on another $14,000 in fees! And, if you're BELOW 640, good luck! Wow, talk about risk-based pricing!

FHA Guidelines:
The good news is some of these same borrowers will qualify for FHA loans, which are less dependent on credit scores. As you'll see below, FHA fees for the same scenario ($400,000 loan and $500,000 value) are dramatically reduced!
Credit Score Additional Points Cost of Additional Points
720+ -.25% -$1,000
660-719 0% $0
640-659 .25% $1,000
<640 Lots and lots How much you got?

According to the Jan. 2010 edition of Realtor magazine (Putting a Check on Risk), in 2006 FHA loans comprised of just "2 percent of the housing market." But, today, "We're close to 40 percent." This rise is largely because of increased loan limits and low 3.5% down payment requirements! But while FHA loans are less sensitive to lower credit scores, they cannot be used in all situations.

Conclusion:
The numbers don't lie - lower credit scores have a very real cost impact! In many cases, lower credit can price a borrower out of the market or make a mortgage loan unavailable altogether. In future discussions, I'll talk about what determines credit scores and steps a borrower can take to improve (or even establish) their credit.

If you have questions or want to contact me, click here to email me or here to visit Troy Village's activerain website. Also, check here to see why rates are on the rise.

Lower Mortgage Debt Ratios for 2010, San Jose, Ca: This morning in San Jose, Ca, we had a reported magnitude 4.2 earthquake - nothing major, but a little shake and something for folks to talk about! Interesting timing since I'm writing at this moment about how the mortgage loan approval process is being shaken up again by new 2010 guidelines. If rising interest rates weren't enough this past month (see why rates are on the rise) now maximum debt ratios have been reduced as well. Effective January 1, 2010, Fannie and Freddie tightened lending guidelines, lowering the maximum allowable debt ratios (debt-to-income or DTI) to 45% for conventional conforming loans ($417,000 or less). FHA debt ratio guidelines are a little more flexible at 50%.

If you're reading this thinking, "Aren't these mortgage loan approval guidelines continuously changing?" you'd be right! They are! Calculating a client's debt ratio is critical in determining "affordability" and ability to repay the loan. The general rule of thumb for debt ratios has been 45% for some time. I say "general" because it really depends on the scenario - in some cases it's been limited to 38% and others where debt ratios as high as 65% were accepted.

Figuring Actual Debt and Income Can Be Tricky

The challenge to debt ratios is figuring out which debt and income to use in the calculation. Total debt is figured by adding your monthly projected housing costs (mortgage principle and interest along with property taxes and insurance - these are collectively known as PITI) along with minimum payments due on credit cards, auto loans, student loans, etc. You'll note that NOT ALL debt counts toward your debt ratio - just what shows up on your credit report!

This debt figure is then divided by your gross monthly income, i.e., before taxes to determine your debt ratio. This can be challenging because not all income can be used. Income from sources such as: self-employment, wages, rentals, bonuses, overtime, and commissions can be used in some cases and not in others. Typically for income to be usable it must be verifiable for at least two years.

While calculating debt ratios is not rocket science, with all the changes and variables, it pays to talk to a trusted mortgage professional before getting too far into the process. By reviewing your credit and income documentation, we can determine your debt ratios and help address any credit issues prior to loan submission. As a side note, some 70% of credit reports have inaccuracies of some kind. Ah yes, credit... but another topic for another time...

To contact me, click here to visit Troy Village's activerain website or here to email me.

BACKGROUND
Mortgage Rates, What Goes Down, Must Come Up: We've all heard the adage, "What goes up must come down". But, in the current mortgage rate market, just the opposite is true - what has gone down (mortgage rates) must come back up again. That's because we're not looking at a normal market when it comes to mortgage rates. Mortgage rates have been driven to record low levels by the Fed's decision in November 2008 to buy up mortgage-backed securities (MBS's).

The Fed's idea was to drive mortgage rates to record lows by pumping what has been increased to $1.25 Trillion into MBS's to reduce foreclosures, bring new life to the real estate market and encourage current owners to refinance. In December 2008, the month following the initial Fed announcement, yields on the benchmark 10-year Treasury note went from the 3.75% level, to a bottom of 2.13% by mid-December. Mortgage rates on a 30-year mortgage that were in the low 6's at the time, dropped almost overnight into the low 5's and during parts of 2009, mortgage rates reached the mid- to high-4's.

Now, fast-forward a year to December 2009 where we've already seen mortgage rates climb this past month from the 4.50% level to over 5.00%. Click here for history on mortgage rates. We can look at all kinds of economic indicators as far as recovery but the reality is that the Fed's plan is running out of both time and money and MBS investors know it. With over 80% of that $1.25 Trillion already spent, funds earmarked for MBS's would be spent by the end of the first quarter, 2010.

Outlook
The current upward pressure on mortgage rates should not come as a surprise, but it remains to be seen just how rising mortgage rates will affect the real estate market. In large part, the Fed has been able to do what they set out to do, ie, stimulate the real estate market. In the 12 months since their decision, record low mortgage rates have resulted in a huge amount of real estate financing (both purchases and refinances). But from the onset the Fed's action was a temporary stimulus.

It would seem the Fed is now between a rock and a hard place. At least from this perspective, the Fed has used all the bullets they can use. They will have already spent $1.25 Trillion on MBS's. Overnight rates are already at record low of 0%-.25%, so they can't exactly reduce those any further. Printing and pumping more money to buy more MBS's isn't much of an alternative since it would devalue the dollar further and create inflation. So, we're left with the MBS market returning to "normal", (as if there is such a thing in this economy), which would mean higher mortgage rates, higher payments and fewer qualified buyers. All of that works to lower demand.

For folks who have been at a cross-roads, waiting for mortgage rates to drop further before refinancing, it may be now or never! It may be the last chance for many, as time appears to be running out.

Who knows, maybe the Fed will pull a rabbit out of their hat. But, as I've said, their hands are pretty much tied. Without some sort of continued stimulus, mortgage rates will return to their natural (pre-stimulus) levels.

At this juncture, expect mortgage rates to increase to 6.00% or beyond by Mid-2010 - it's all part of the new mantra, "What goes down, must come up".

To contact me, click here to visit Troy Village's activerain website or here to email me.