Personal Financial Tip 2

New York State has the highest closing costs in the Nation. One of the main reasons for this is the New York State Mortgage Recording Tax. This is a fee paid by the borrower to the State and local government for the privilege of having a mortgage. It is always priced as a percentage of the mortgage amount but varies, depending on the county where the property is located. For example, a mortgage placed on a home in Nassau county would trigger a tax of 0.8% of the mortgage amount paid by the borrower and 0.25% paid by the lender. The exact same mortgage, placed on a property within the boundaries of New York City (the 5 boroughs) would have an addition 1.0% paid by the borrower to the city.

This is a substantial amount of money. The Mortgage Recording Tax can be reduced, or even eliminated, with the use of a Consolidation, Extension and Modification Agreement (CEMA). By changing the mechanics of the filing process from paying off an existing mortgage and placing a new mortgage on the property, to the purchase of the existing lien on the property, the Mortgage Recording Tax can be avoided.

The clearest way to understand this is through an example. Our borrower owns his own home and is refinancing his existing mortgage. The current balance is $300,000 and he wants a new mortgage of $400,000. When he closes on his new mortgage of $400,000, he could pay off the old mortgage, receive a Satisfaction of Mortgage from the lender and then file the Satisfaction (removing the old lien) and the $400,000 mortgage (recording the new lien) in the county clerk’s office. This announces to the world that the old $300,000 mortgage is no longer valid and there currently is a $400,000 mortgage on the property. He would then pay a Mortgage Recording Tax on a $400,000 mortgage.

A less expensive approach would be to use a CEMA. In this case the old mortgage isn’t satisfied, but consolidated into the new mortgage. An additional $100,000 is extended to the borrower and the terms of the old mortgage are modified to reflect the terms of the new mortgage. The recording tax is now paid on $100,000 (what’s called the "new money") not the entire $400,000 reducing the tax by 75%.

There are additional legal fees, filing fees and bank costs when doing a CEMA but it’s a simple calculation to weigh the additional costs to the savings in Mortgage Recording Tax. If the savings is large enough, then this approach is utilized. CEMA’s do take longer to close. The process involves several steps and many people. This naturally takes time. Lenders are not required to do CEMAs. Not every lender will accommodate a borrower’s request to do it. Without lender cooperation, a CEMA cannot be done.

CEMAs can also be done on purchases. In this case you are modifying the mortgage that the seller placed on the property. This will have additional fees involved; it’s more complicated and will take even more time than when a CEMA is used in a refinance, specifically because it’s more involved.

This brings us to today’s “Personal Financial Tip.” When purchasing a homen have your attorney investigate the possibility of doing a CEMA. Not only is there a possibility of saving money on the closing you may uncover something that can adversely impact your closing.

There is enough stress in purchasing a home under the best of circumstances. The last thing you need is a last minute surprise that may delay or even prevent your ability to close. In today’s housing market you can’t assume that the seller is selling his property for more that he owes on it. It is not uncommon today that when a seller, working with his attorney, finalizes the closing calculations, discovers he is short on funds. Working back from the agreed upon sales price and subtracting off the seller’s closing costs, they may be left with a balance that is less than the outstanding liens on the property. What happens now?

They may be no issue here. The seller simply comes to closing with the money necessary to cover the shortfall. Here, there is no impact to the buyer. What happens if the seller doesn’t have the money?

The seller may be planning on negotiating with one or more of the lien holders on his property. His goal will be to have them take less than what’s they’re owed, executing what’s known as a “short sale”. A lender would only consider doing this if it feels that it will recoup a larger portion of their investment through a short sale than exercising its right to foreclose. This is a time consuming negotiation. If the seller waited too long to start this process, it will delay your closing. Remember there is no financial incentive for the seller to efficiently move to a closing. He’s not leaving the closing with any money. In fact, if he is living in the property that he’s selling and not making his mortgage payments, he has every incentive to delay. He’s currently living rent free under these circumstances. Why would he be in a hurry to move out of the house and into an apartment where he is going to be paying rent?

By having your attorney investigate the feasibility of doing a CEMA on the purchase, you not only have a potential saving in closing costs but also find out much sooner if there should be any concern about a short sale.

Without a time constraint to be concerned with, you have more options available to choose from and have less stress in your life. This will lead to better decisions.

Personal Financial Tip 1

If you are one of the thousands of people that have a Home Equity Line of Credit (HELOC) on your home you need to be aware of what your lender is doing. In the documents that were signed when you placed the HELOC on your home, there is a clause that allows the lender to freeze the line in the event they feel that properties in your neighborhood have declined.

During the housing bubble lenders were aggressively promoting HELOCs to consumers, encouraging people to have one in place just in case of an emergency or to be prepared for an upcoming expense. Many of these lines were written at a very high loan to value, meaning that most of the equity in the home is used leaving little or no room for a decline in property values.

Lenders now are routinely examining their portfolios of HELOCs comparing the appraisal value that was used at the time of closing with current market values. If the current make value has decreased and there is insufficient equity in the property today the line will be frozen.

Due to the high default rate today on HELOCs lenders are also reacting harshly to any late payments by a consumer. If you make a payment after the grace period and incur a late charge there is a very high probability that your line will be frozen immediately.

I have also heard of instances where a lender has actually called the line. Meaning that the entire outstanding balance needs to be paid back immediately. This situation is not common and would require something more than a late payment to trigger this response, but the fact is, it can happen.

You can prevent your HELOC from being called by living up to the responsibilities you agreed to at closing. In general, that would be making timely payments, keeping the proper insurance on the property and if the line is on your current residence, don’t move out and rent the property. If you are living up to your responsibilities, the lender does not have the right to call the line.

Freezing the line is another story. Declining market values are out of your control and determining market value is open to wide interpretations. If you think you are going to need to draw off your existing credit line in the near future or feel that having this safety net is more important now more than ever there is something you need to do.

You need to take a draw off your HELOC, that is, increase the outstanding balance on the line immediately. How much of a draw you take will be determined by weighing the size of the cash reserve you want to the carry cost of paying the monthly interest expense you will be incurring. Fortunately most HELOCs are adjustable rate loans that are controlled by the Prime Rate. The poor shape of the economy responsible for this problem is also lowering the Prime Rate. This means the interest charges will be moderate.

This action of drawing down the HELOC is similar to taking out insurance. We pay for insurance, to cover ourselves financially in the event of a problem and hope to never use it. Here we’re paying interest on funds we don’t need just to have the money available in the event we need it, again hoping we never do.

Remember once your HELOC is frozen, it’s not likely that you will be able to arrange for financing though an alternate source at a later date. The same economic conditions that lead the bank to freeze the line will discourage another lender from advancing funds. We are also dealing with the most conservative lending environment that we’ve ever seen. This will contribute to the problem.

My advice is to play it safe. Draw the most you can off your HELOC. When the economy strengthens again and confidence in the financial markets improve, you can always return the money and stop the interest charges.

Predatory Lending 101… Consumer Choice

Kurt Davis wrote this article for the Virginia Law Weekly. It is an excellent article that sums up the foundation of the credit problems we face in America today, pointing out the inadequacies of what’s being done in addressing the issues. It’s something we all need to think about.

One of the best definitions I have come across lately relating to predatory lending has been: “Predatory lending is defined as intentionally placing consumers in loan products with significantly worse terms and/or higher costs than loans offered to similarly qualified consumers in the region for the primary purpose of enriching the originator and with little or no regard for the costs to the consumer.” In the discussion around subprime mortgages, however, the phrase has been used loosely without regard for the entire situation. Predatory lending is always a possibility in financial markets, specifically where there is a large pool of low-income borrowers.

The crumbling of the subprime mortgage market and the subsequent slowing of the American economy has led to a natural knee-jerk reaction from politicians in Washington. Subsequently, Congress has sought to push through stronger regulations which protect current and potential homeowners from falling prey to high-cost loans that lead to foreclosures and bankruptcy, among other problems.

We must ask ourselves, however, what are the costs of these new regulations? Forgotten are the benefits that have fallen to millions of American homeowners who would not be homeowners in the absence of the subprime mortgage market. The United States saw unparalleled growth in home ownership in the midst of this market boom, particularly among low-income and minority borrowers. Regulating the riskiness of banks is not always the answer, as it was a risk for banks to even try providing loans for risky borrowers. Though clearly these banks were attempting to maximize profits, their risk benefited Americans who would be outside the housing market in any other situation. If any regulation is to come to this market, it should be done with both a sensibility for the benefits of the market and also a recognition of the choices Americans are making in their borrowing and saving practices.

The latter of those sensibilities has almost been forgotten. Democrats and Republicans have pushed through an economic stimulus plan that focuses on getting money to Americans so they can spend even more. The incessant consumer spending is part of the reason we are in the current situation. According to the Treasury Department, the personal savings rate of Americans is in negative territory and has been for a good while. The average household owes somewhere between 15 and 20 percent more than what it makes in a year.

The availability of credit, in all its well-deserved glory, has lead to a lack of prudent decision making on the American consumer’s behalf. The obvious example of this is when Americans are buying homes that cost four or five times their yearly income. Such a ratio only leads to constant insecurity concerning payments on the home and other bills.

Other examples include the high credit card debt of many Americans. The ease with which Americans can get credit leads to the spending of the future dollar. In other words, Americans spend money they don’t have in expectation of it coming in the future—payday loans are a prime example. The refinancing of mortgage loans to cover the costs of numerous other expenses was, somewhat predictably, driven by the continued increase in the value of the home each year. The boom in the market clearly invigorated consumers with a recklessness for taking risk on what they could afford at the moment, and in the future.

The insecurity of the American economy accentuates the problems that can arise with this universal credit. First, the American economy, for all its strengths, is too dependent on consumer spending. No one considers saving. Many Americans expect Social Security to bail them out when retirement comes, forgetting that the debt is not accounted for in those payments. Second, the world economy is too dependent on American consumerism. The minute Americans slow their spending, the world economy feels the repercussion through slower returns on resources, slower returns on treasury debt, inflation, and so on. Accordingly, a minor shock (or major one in the current situation) is an immediate hit in the pocket of most Americans and can send many plummeting towards bankruptcy, or just short of it.

In other words, the pre-existing debt only becomes larger. Yet, in the wake of these problems, Congress is asking Americans to spend more through the upcoming tax rebate. This is exactly the opposite of what they should be doing. It would be better for Americans to use the rebate to pay down their debt or just save the money. Instead, Americans are fundamentally being asked to go against their best interest for the sake of the larger American group or economy.

One possible regulation could be to limit the amount a person can borrow. Do this in concurrence with better financial education for American consumers and Congress could substantially reduce the problems associated with the current economy. Nevertheless, the former should not be introduced in Congress. While bad times may increase urgency and force quick reaction, paternalism should not be the medicinal remedy for any situation. In its best-case scenario, it would stop some Americans from unwittingly entering into situations that will hurt them in the end. At the same time, it will severely limit those Americans who wittingly play the American market to their advantage through smart investments. The small business owner who took a reasonable risk on a new business, with a loan against his house, would almost be eliminated from the business world.

Lastly, it should not be encouraged that Americans just save money and pay off all their debt. Again, debt is a great instrument through which many Americans can create better financial prospects and even create wealth. The American economy would fail with extremely high savings and no debt. It should come as no surprise that many other countries have been trying to push their citizens to spend more to strengthen the financial outlook of their economies. Without spending and some debt, investments and returns as we know them would not exist. That would be a huge loss for Americans. With all that said, many American consumers, who complain about being left of the previous good times in the market, could easily better their positions with a little less debt and a little more savings, and see the American economy prosper with them as a part of it.

Choosing the Right Mortgage Broker

Start with asking friends, business associates or family. See if they have recently dealt with a broker. A satisfied customer is always the best place to start. Be leery in taking the recommendation of your Real Estate Broker. Unless you’ve specifically engaged his services as a buyer’s broker, he is working for the seller. The Mortgage Broker that he recommends may be more interested in getting the deal closed than in supplying you with the best advice.

Another avenue to use is Trade Association web sites. Visit the UpFront Mortgage Brokers Association and see if there is a broker listed for your State. Members here pride themselves on offering the highest level of professionalism to their clients. Another source is the National Association of Mortgage Brokers or the New York Association of Mortgage Brokers. Here you will find brokers that are dedicated enough to their profession to invest their time and money for the common good of the industry.

Finally, the Better Business Bureau should be visited. Here you can quickly check if the broker you are considering hiring is willing to hold himself accountable to an independent consumer oriented organization.

Your first contact with the broker is the most important one. Whether it’s by phone or a face-to-face meeting, it’s here where you decide if you want to conduct business with this individual. You may be talking with the most competent individual in the field but if there are frictions between your individual personalities, you need to move on. A clear communication flow between the two of you is of utmost importance.

During this meeting you want to see how the broker handles himself. Is he giving this conversation his undivided attention? There are times when you’re talking to someone on the phone and you know that person is multi-tasking. Your business should be important enough to the broker that he’s not trying to do two things at once.

How quickly does he answer a question? In order to properly answer a question, a professional will need certain details. So before answering questions, the broker will need to get a detailed picture of what’s going on. I often need to remind clients that they’ve lived their lives and take many things for granted. I need to get as familiar with their finances as they are, in a 10-minute conversation. It’s a simple reminder that I’m not being nosey, I just need certain details in order to do my job properly.

This first conversation will take time. So if you’re in a hurry don’t start the conversation. Do it at a time when you can commit your undivided attention to the meeting. You are as guilty as the broker if you’re multi-tasking during the conversation. Why should he invest his time with you if you’re not paying attention?

Do you feel rushed into doing an application? Is the broker concentrating on your concerns and helping you get your thoughts organized or is he focusing in on getting an application signed? He needs to be willing to invest his time in answering your questions in order to earn the right to conduct business with you.

How detailed are the answers? In answering a question he should be providing enough of an explanation so that you are able to understand the reasoning behind the answer. This is an educational experience for you. Simple yes or no answers just don’t cut it.

Is he talking in “industry speak”? Any professional needs to be conscious of this. We deal with other people in our industry all day long. Every industry has its own language. It’s extremely easy for anyone to allow industry specific terminology to slip into a conversation with someone outside his or her profession. There are individuals who use “industry speak” as a form of intimidation. Essentially, by speaking in a foreign language, they are trying to make you feel stupid. This is uncalled for and not the sign of a true professional. There is no reason to continue working with this individual.

Is he clearly explaining his fee to you? There should be no reason why you don’t know exactly how the broker is being compensated and what the total amount of that compensation is, before utilizing his services. If you’re not sure, ask. If you’re still not sure, go elsewhere.

How accessible is he? Does he return phone calls promptly? Does he respond to your e-mails within the same day? Does he have responsive support staff to assist you? There will be several times that you are in contact with the broker before you actually do an application. As you navigate through these discussions, you deserve a level of responsiveness. If you don’t feel you’re getting the attention you deserve, consider moving on.

The mortgage broker profession is a service business. You are the client. Without you, the broker has no reason to be in business. The professional mortgage broker’s goal is to arrange for the best financing to fit your needs and to do it at a competitive price. Notice, I didn’t say best price. No one in this business can promise the best price. There are too many variables and the cost of mortgage money changes throughout the day. A broker promising the best price is a signal to find another broker.

Making promises that can’t be met is not being professional.

Go it Alone or Hire a Professional

The Internet is the most empowering tool we have ever had in history. Knowledge is power and the Internet is the ultimate source of knowledge. Within a few minutes, a person can find updated information on just about any topic. With this vast amount of information available at your fingertips why would anyone need to hire a professional?

It’s natural to conclude that with the help of the Internet, a person can arrange for mortgage financing without the cost of utilizing a mortgage broker. It must be cheaper to do something yourself that to hire someone to do it for you. What can an expert do for me that I can’t do myself with the power of the Internet at my disposal?

All the advertisements and promotions that we are exposed to all day long, encourage this way of thinking. Buy your car insurance on line it’s cheaper; It’s tax time, go on line and do it yourself, are but two examples. There is an endless list of services that have an on-line alternative to dealing with a professional. In many instances there is a cost saving, other times there’s not. When conducting business this way, you run the risk of not buying the right product or service. This is where the professional comes in; an individual who can help you interpret and understand the wealth of information you have assembled and offer advice to assist in the process.

Before the crisis in the mortgage market, the public was overwhelmed with the various mortgage products. The assortment ranged from the simplest, the fully amortized fixed rate mortgage, to the most complicated, the payment option ARM. Adding to the confusion, you then had various pricing structures that were dependant on the credit grade of the applicant and balancing the short term expense of points with the long term impact of interest rate. It was an unrealistic expectation for an applicant to become an expert using research alone.

In the current lending environment, things have gotten more complex. Lenders are taking losses on mortgage they wrote during the housing boom and new applicants are paying the price in two ways. Underwriting standards have gotten much more stringent and there is a desire to increase profits on every new mortgage closed. Adding to this complexity we are also dealing with a non-stop flow of revisions to underwriting standards.

Previously, when lending standards were liberal, or in some cases non-existent, getting approved for a mortgage was easy. It was only a question of deciding on the right product and for the best price. Today just getting approved is a challenge. Confirming that the pricing on the mortgage is proper for the credit profile that’s been presented is almost impossible for someone outside the business to do.

A person that decides to arrange for financing without involving a competent professional will first need to invest enough hours to become familiar with the current lending environment. He will need to become educated enough to separate fact from fiction. The Internet contains a tremendous amount of information to draw from, but there are no flags, rating the accuracy of what’s found. Only after the facts are identified and all aspects fully understood, can the application be submitted. He will then need to be able to address all concerns that the underwriter has, before a commitment is issued. He will be depending on his research to decide on the best mortgage product, the time to lock in a rate and the number of days the rate should be locked in for.

How many hours will all this take? What is the real cost of hiring a professional? Investing a few minutes doing this cost analysis will prove that hiring a professional is cheaper than investing the time to do it yourself. This isn’t even considering the experience and inside industry contacts the professional brings to the transaction.

In addressing your mortgage financing needs the best way to invest your time is in seeking out an experienced and ethical mortgage broker to work with. You will find that there is little or no additional cost in taking this route. The process will be smoother, less stressful and you will end up with financing that best fits your needs.

In the current lending environment it is the only way to be assured financing is available.

Sensible Consumer Protections

The abuses in the Sub-prime market fall into two categories. The first category is the situation when borrowers are paying too much for their financing needs because they were placed in a mortgage that was over-priced, yielding higher profits to the broker and/or lender. This is called “Upselling”, the practice of increasing the interest rate charged on the mortgage that entitles the originating entity a fee that is reflective of the higher interest rate. This additional fee is paid as part of the Yield Spread Premium (YSP).

The solution to this would be to require the broker to identify his total compensation, from all sources, at first contact with the applicant through the Fee Agreement. This way the applicant knows exactly what the broker is earning. If the YSP turns out to be greater than the agreed upon fee, then the broker would be required to credit that excess to the borrower’s remaining closing costs. If the YSP is less than the agreed upon fee, then the borrower would have to pay the shortfall as part of his direct out-of-pocket closing costs.

There would be no economic incentive for a broker to increase the interest rate on a mortgage in order to increase his profit on that mortgage. The broker would still be able to offer the applicant a 0 point mortgage as well as giving the applicant the option to reduce his out-of-pocket closing costs by accepting a higher interest rate on the mortgage. New York State has the highest closing costs in the country. The biggest hurdle for the first time homebuyer today is saving enough cash to purchase a home. The proper use of YSP can help out this buyer.

This revision would eliminate all incentives to a mortgage broker to Upsell his applicants. Lenders taking applications directly from the public have much to lose if they continue to permit their staff the freedom to Upsell. Routine audits will expose different pricing to different applicants with the same credit profiles. It wasn’t that long ago when Ameriquest paid dearly for allowing their originators the freedom to price mortgages (and their commissions) on a case-by-case basis. With lenders being held accountable and mortgage brokers being required to commit to a fee structure at application, we not only protect consumers in the Sub-prime market but all applicants.

Before we can address the second category of abuse we need to identify the basic characteristics of the typical Sub-prime borrower. An applicant that needs to use a Sub-prime mortgage to fulfill his borrowing needs will be dealing with one or more of the following issues:

1. A high loan-to-value (LTV) or a high combined-loan-to-value. Whether it’s a first mortgage, second mortgage or a combination of both (a piggyback) the vast majority of the equity of the subject property is taken out in a mortgage or mortgages.
2. Temporary financial setback. A loss of job, a divorce, medical problems or any other unexpected financial setback can temporally cause delays in bill payments, adversely affecting the credit profile.
3. Applicant is living “paycheck to paycheck” and is forced to accumulate additional debt. They then look to their home to restructure their debt, lowering their monthly payments with the goal of getting their monthly expenses in line with their monthly income.
4. Bad payment habits. A total disregard to paying bills on time, resulting in a poor credit profile yet the applicant still needs mortgage financing.

The applicants we are looking to protect are the same people that are placed into a Sub-prime mortgage, not by their choice or financial circumstance, but with the banker/broker’s encouragement. We don’t want to prevent people from making their own decision, even if we disagree with that decision. We are all given the right to make our own choices. Given 10 minutes, any one of us can put together a list of examples illustrating properly thought out decisions that didn’t work out as planned as well as a list of poor decisions that turned out just fine. Our intention is to create a system whereby we can protect applicants from being taken advantage of, yet maintain each person’s right to choose.

First time homebuyers with limited cash assets or homeowners looking to take most of the equity out of their home, are the most susceptible to abuse. Their financial position puts them in what is considered the middle class. I propose the following criteria as trigger points:

A first time homebuyer that is financing greater than 80% of the purchase price, or appraised value, whichever is lower, through any combinations of liens on the subject property, and
The property is being used (if it is a refinance) or will be used (if it is a purchase) as a primary residence, and
A homeowner who is looking to take cash out of the current appraised value of their residence leaving a total value of liens on the residence greater than 80%, and
Any one borrower whose income is equal to or less than the “HUD area median income” for the area where the subject property is located. The median annual income for downstate New York is currently $71,300.

If an application package meets these combined conditions, then the following requirements will need to be met:

1. Once the loan is underwritten, a preliminary commitment is issued, subject to credit counseling. The counselor needs to receive the commitment as well the completed application that was used to underwrite.
2. The counseling is to give the borrower(s) a full understanding as to what to expect after closing.

This empowers the borrower, who may not have access to professional financial opinions, givng him the knowledge to make an informed decision going forward with closing.

Higher-income individuals looking to go high leverage will more likely do it by choice rather than by need. They are deciding to use the money to invest elsewhere. They are also more likely to do their own research or ask the advice of co-workers and family to supplement the information received from the industry. A repeat buyer has first hand experience at being a homeowner, so is well aware of what being a homeowner entails.

We should be looking to empower the applicant with the tools necessary to make an informed decision regarding his personal financing needs. If we try to protect the applicant from himself, playing the role of big brother or mother, we are actually doing the applicant a disservice. It is impossible to write rules that can address all the various situations that an applicant can be faced with. Inexperienced applicants deserve the power that knowledge affords them. It’s the best long-term solution in preventing a recurrence of this mortgage crisis.