Editor’s Note: The Edge is serializing an as yet unpublished book by Great Barrington attorney David M. Lazan. Here is the fourth of eight installments: Financing Real Estate. Previous installments were Introduction and Chapter One: Real Estate Agents and Lawyers; The Purchase and Sales Agreement and Title,Title Insurance, Plot Plans and Surveys. Future installments will cover The Closing; Condominiums; Buying Land and Building a Home; The Massachusetts Homestead Act; Nominee Trusts; and Short Sales.
Chapter Four: Financing Real Estate
If you contemplate purchasing property and require financing, it is a good idea to determine, before entering a purchase and sale agreement, whether you will be able to borrow the amount of money you will need. By meeting with a lender before looking at any property, you can get a pretty good idea of how much money you will be able to borrow, the costs involved in getting a loan, the monthly payments you will be required to make and an approximate interest rate.
If at all possible, we suggest using local lenders. Many of our out-of-state buyers are quite surprised at how easy it is to work with local banks after dealing with national lenders. Local lenders know our market, our customs and our procedures. We have found their rates and fees are often equal to or less than those of national and out-of-state lenders. Their document requirements are almost always simpler than those of national lenders. Most local lenders are flexible and accommodating as to scheduling, which can be valuable. I particularly like the fact that I can call someone whom I know at a local lender and get quick answers to any question my client or I may have. Additionally, local lenders are, to the extent permitted by law, quite accommodating when it comes to scheduling or extending a mortgage commitment.
A. Loan Applications
As I stated earlier, most of the real estate contracts in Berkshire County provide a 5- to 7-day period within which the Buyer must submit a loan application to a lender. It is a good idea for a Buyer to obtain a letter from a lender acknowledging that a mortgage application has been submitted, in order to show compliance with this provision in the event the application is rejected and the Buyer must request the return of the deposit.
B. Loan Commitments and Closing Disclosures
As I am sure you would assume, real estate mortgages are complicated and difficult to fully understand. This is due, in part, to the years of litigation between borrowers and lenders fighting over a mortgages enforceability, which resulted in more and more clauses being added protecting the lender.
When obtaining a mortgage, your lender and lawyer will talk of having to comply with TRID requirements. These are a very complicated set of regulations enacted by the Consumer Financial Protection Bureau on October 3, 2015. TRID refers to the TILA/RESPA Integrated Disclosure rules. TRID requires lenders to provide an estimate of all closing fees, including pre-paid and escrow items along with lender charges, within three days after submission of a loan application. TRID also requires a lender, within very exact time periods, to provide you with the loan terms, your projected monthly payments, how much you will pay in fees, estimated costs for real estate property tax and homeowner’s insurance and any other costs to obtain your mortgage.
Persons who do not make at least 5 loans per year are not considered “creditors” and therefore the TRID rule does not apply. Also, TRID rules do not apply to HELOC (home equity lines of credit), reverse mortgages, land loans or mortgages secured by a dwelling not attached to property.
After reviewing a prospective borrower’s financial ability, credit history and the contemplated purchase, a lender that agrees to provide a mortgage will issue a document called a “loan commitment.” The fact that a loan commitment has been issued does not, in and of itself, mean that the lender will be making a loan. More often than not, a loan commitment contains conditions. Those conditions may be subjective, such as requiring a “satisfactory” appraisal of the property, submission of proof satisfactory to the lender of the borrower’s source of funds for the purchases, and similar requirements. At the same time, some On conditions may be objective, requiring copies of bank statements or pay stubs, which are often easily obtained.
In cases when we represent out-of-state Buyers who have a relationship with a national or out-of-state lender, or when we represent a local Buyer who has been dealing with a local bank for many years, these Buyers tend to apply directly to their lenders without our counsel. However, we always suggest that a Buyer or borrower have us review any loan commitment prior to the expiration of the mortgage contingency, to ensure that they will have the money to close their contemplated transaction and that their deposit will not be in jeopardy.
One last caveat as far as mortgage lenders are concerned. Lenders typically provide loan documents (the ton of papers you are required to sign at closing) to our office the day of closing or, if we are fortunate, the day before closing. That leaves very little time for us to review them and to explain their consequences. If you don’t want to sign a document supplied by a lender or if you object to a provision, it is my experience that the lender may not be willing for us to make any changes without the approval of their legal counsel. Knowing that the sellers will be arriving shortly to complete the closing of the sale and recognizing that you have a large deposit on the home you want to buy, which you may forfeit if you fail to close, often makes a refusal to sign loan papers an unavailable option. I have pleaded with our United States Senator to correct this situation, unfortunately without any luck. Frankly, most clients fail to fully understand the TRID rules, and these rules, in my opinion, have not been of great benefit.
In the case of our local lenders, most local lawyers do enough business with them to know their documentation inside and out, and can tell you any pitfalls before you apply for a loan. If changes will be necessary, your lawyer can quickly determine whether they can be made before you even apply for the loan. Additionally, documentation for local loans is far less burdensome and time-consuming to execute than what might be required by an out-of-state lender furnishing a loan package designed to meet the requirements of every state rather than Berkshire County, Massachusetts.
C. Prepayment Penalties
Although it is not usual, some mortgage commitments provide for a prepayment penalty. This is money you must pay to your lender if you pay off your mortgage before a certain date. The penalty is typically computed as a percentage of the outstanding balance of your loan. Whether or not a prepayment penalty is acceptable to a Buyer is a question that should be discussed with their lawyer.
If you are a Seller and unsure about the terms of your existing financing, it is important that your lawyer examine your mortgage to make sure there is no prepayment penalty or other monies due your lender, other than the outstanding balance of your loan and accrued interest, at the time you pay off your mortgage.
D. Loan Closings
In Berkshire County, the Buyer’s lawyer almost always represents both the Buyer and mortgage lender. This potential conflict of interest is permitted so long as both parties give informed consent and there are no apparent disagreements or conflicts between them. Obviously, not having to pay for the lender’s lawyer (usually the case), as well as a lawyer to represent you, can be a big savings.
In most cases, mortgage loan documents are signed at the Buyer’s lawyer’s office prior to closing the purchase of the property. It is for this reason: a Buyer will be asked to arrive at their lawyer’s office anywhere from a half-hour to an hour before the closing to execute mortgage documents.
It is unusual for a bank representative to be present at the closing, although they occasionally do attend, hopefully bearing gifts for their new customer. It is the Buyer’s lawyer who will handle the execution and recording of all of the loan documents and answer any questions the Buyer may have about them.
E. Home Equity Lines of Credit (HELOCs)
In essence, a home equity line of credit (HELOC) is a loan secured by a mortgage on a home. In most cases, HELOCs allow a borrower to borrow up to a certain fixed amount during what is called the “borrowing period.” During the borrowing period, the borrower is required to pay interest on the outstanding principal balance but does not have to repay principal. Once the borrowing period is over (usually 10 years), the borrower must make equal monthly payments sufficient to amortize the outstanding principal balance of the loan plus interest over a predetermined period.
Typically, the interest rate on a HELOC is adjustable, and that rate has recently been very low. Because lenders frequently pay for the costs of recording a HELOC and, often, the borrower’s attorney fees and document preparation charges, most HELOCs require a penalty to be paid if repaid within a certain time period.
On occasion, Buyers execute HELOCs at the same time they execute a loan to purchase property. This allows them the ability to borrow additional monies from time to time as the need arises, using equity in their home as collateral.
With interest rates presently lower than they have been in a generation, property owners should calculate the potential benefit of refinancing. The big question one should answer when considering refinancing is: How long will it take for the new monthly payment to yield enough savings to make up for the closing costs of a new loan? When making this calculation, keep in mind that the result you come up with is only as good as the numbers you plug in. For this reason, it is essential that you attempt to pin down all closing costs before getting involved in the refinancing process.
G. Fixed or Adjustable Rate Mortgages
Another question that you must answer when considering financing or re-financing is whether to apply for an adjustable-rate mortgage (ARM) or a fixed-rate mortgage. Fixed-rate loans are perfect for borrowers who want predictability of payment amounts, as their interest will never adjust upward or downward during the life of the loan. An ARM is for the borrower who takes a shorter view and is willing to risk a higher rate in the future in exchange for a lower rate in the present. The adjustable-rate mortgage is for those who do not anticipate keeping their home for an extended period of time, or who anticipate paying off their mortgage in the near future. There are other types of mortgages, of course, but the two types I have described are the most typical.
H. Reverse Mortgages
There are many myths and misconceptions surrounding reverse mortgages, which have resulted in their limited popularity. In the future, however, as the public becomes familiar with these financial vehicles, I believe reverse mortgages will become a necessary and important source of income to retirees. Since 2011, the population aged 65 and older has grown faster than the total population in every single state.
The disadvantages of a reverse mortgage are that the up-front costs can be significantly higher than a traditional mortgage program or home equity line of credit. Typically, they range from $12,000 to $17,000. They are paid when the loan is repaid, but interest does accrue on them. At the time a reverse mortgage is made, an existing financing must be paid off. Additionally, the potential legacy to one’s heirs is reduced or possibly eliminated.
In order to qualify for a reverse mortgage, each titleholder must be at least 62 years old and the property that is being borrowed on must be the borrower’s primary residence. There are no minimum income, asset, net worth or credit qualifications. The property can be a single-family residence, a 1- to 4-family residence, a condominium or a manufactured home.
The amount available to a reverse mortgage borrower is the product of a complex calculation depending on the maximum allowed for a federally insured mortgage in the relevant market, the federal T-bill rate, how the borrower is taking the proceeds (up front, monthly, etc.) and the life expectancy of the borrower. To encourage the use of reverse mortgages, the Federal Government will guarantee re-payment of the loan and, therefore, the payoff will not exceed the value of the home. A borrower has the choice of getting one lump payment, a line of credit, payments for life or a combination. To obtain a reverse mortgage, an application must be made with a prospective lender. The application process typically takes approximately 4 to 6 weeks. During this time, the borrower must obtain counseling (free of charge) about the advantages and disadvantages of a reverse mortgage. All reverse mortgages are variable rate.
The fact that one has obtained a reverse mortgage does not affect Social Security or Medicare benefits. However, it is unlikely that a borrower can place a HELOC on a property after obtaining a reverse mortgage