"Behind the scenes" look at your mortgage being processed:

Today, I wanted to give you a bit of a "behind the scenes" look at how your mortgage is processed. A lot of American consumers seem to be unaware of the amount of overhead and problems involved for lenders when trying to close a mortgage.

I do not intend for this piece to be a sob story to get you to feel sorry for me or other loan officers. However, I think if all the parties involved with a real estate transaction are made aware of how complex the process is to obtain financing, they tend to be a little less "pushy" in trying to get transactions completed in unrealistic amounts of time.

Below are the steps for completing a standard 30-year fixed-rate mortgage. These steps vary by loan program, but we will stick to the basics, for now:

1) Complete mortgage application with your loan officer
2) Your loan officer obtains automated approval for your mortgage via a computerized approval system
3) Income verification (usually, paystubs, W-2 for the last two years, and/or tax returns)
4) Asset verification (usually, bank statements for all accounts listed on the application, and statements for all retirement or stock accounts listed on the application)
5) Employment verification (your employer is either faxed a form they must complete to verify your employment and income at your current job, or they are contacted by telephone and asked to verbally verify your employment)
6) Appraisal (to verify the property is worth as much as you have agreed to pay)
7) Title examination for the property (basically, an examination of public records to verify that all taxes and loans against the property are paid satisfactory)

Only seven steps. Sounds easy, right? Think again. The potential for problems when completing these steps is fairly extensive. I will elaborate on those in my next article. Without going in to too much detail here, it is safe to say that good credit scores, good income, and lots of money in savings do not guarantee that your transaction will be "easy" to complete...

Properly Shopping for a Mortgage

I have composed articles about this in the past, but the more I am in the mortgage industry, the more I see people making crucial mistakes when they shop for a mortgage. With that in mind, I decided to just make a simple list of what you shoud and should not do when finding a lender to finance your home purchase or refinance:

What you should do:

1) Shop with at least four different mortgage companies or local banks in a time frame of two days

2) Do a full application with every one of these lenders, and let them pull your credit and give you an interest rate quote based on the information you have provided in your application. Tell them to print you a good-faith estimate.

3) Take each good faith estimate you have to each different loan officer and let them analyze it to see if you are being ripped off, charged junk fees, or otherwise misled.

4) As soon as you've got a lender you like and a sales contract (if you're purchasing) or property address (for a refinance), lock the loan with the lender you like.

What you should not do:

1) You should not ask your Real Estate agent about a good mortgage lender and then simply plan on doing your loan with that person. How do you know your agent and that person have not been friends for 20 years? While your agent might think the lender is a nice person, that in no way guarantees you're getting a reasonable deal on your mortgage.

2) You should not show your Realtor a good-faith estimate because you think they can tell you whether or not you're being ripped off. Unless they happen to have been working in mortgages within the last two weeks of you applying for your loan, and unless they happen to know your complete financial situation, anything they tell you is nothing more than a poorly-informed guess.

3) You should not go talk to one loan officer, decide you like them, and plan on having them complete your loan.

4) You should not spend more than 3 days trying to negotiate terms of your mortgage among various lenders. Even spending more than 24 hours can result in a daily interest rate increase that costs you money right out of your pocket.


I've dealt with a lot of people lately who seem like they want to get 4 or 5 banks competing for their business and then spend the next two weeks trying to nickle-and-dime fees or interest rates. In the meantime, the federal reserve raises key rates .25%, and the time they were wasting trying to get $50 pulled off of closing costs has now cost them thousands of dollars in increased interest rates.

Find 4 mortgage lenders, get applications filled out with all of them in the span of 2 days, and by the end of the second day, lock your rate with the lender that gives you the best offer. If, for any reason, they tell you that they need to wait to do that (and you have a purchase contract or property address in hand), go to the next-best offer and lock with them (there is never a reason you can't lock your rate, provided you have given a full application and have a purchase contract or property address).

Rough times ahead for people who bought houses at inflated prices:

This is a bit of an elaboration on the consequences that some individuals in certain sections of the nation are about to experience as the result of fraudulent loan activity and property values that are overly inflated:

Stated income mortgage fraud.

You can bank on the prediction that stated income loan programs will be the subject of massive federal investigations in the coming months and years. In a stated income loan program, the loan officer takes the loan application, and puts the income the client says he makes on the application. The bank does not verify that income. Instead, the bank simply approves the loan based on the word of the loan officer and loan applicant.

How does it get abused?

When a borrower can't afford to buy the house because their debt ratios are too high, an unscrupulous loan officer says, "well, gee, Mr. and Mrs. Borrower, if I put you in this stated program, we can say that you make any income that we want!" At that point, the loan officer puts in some arbitrary number that is supposed to be the amount of money the borrower makes every year. Instead, it's the amount of money that the application needs to show to make the debt ratio fall into the range that makes the loan approvable.

The worst part is, a BUNCH of lenders have this program and it allows you to borrow 100% of the purchase money for the home. So now, the borrower is not making a down payment, has no equity in the home, and they have been convinced by the loan officer to sign a fraudulent loan application so that their debt ratios will make the loan "work". Incredibly, loan officers will openly admit that they practice this in expensive markets on the east and west coast.

Apparently, they do not realize that a mortgage loan application is an official Federal document, and lying on it makes you subject to jail time, huge fines, and other penalties. Additionally, unscrupulous loan officers have made statements similar to this: "Hey, I didn't realize they were lying, it's not my fault!" Give me a break. Just who do you think the Federal Government is going to pursue in these fraud cases? The little borrower who claims "I was just doing what the 'professional' said I could" or the loan officer that pleads ignorance about the borrower's financial situation. The entire situation can be compared to negligence suits where an individual's irresponsible actions (in this case, the loan officer either "coaching" the borrower on what income needed to be shown on the loan application or otherwise not properly investigating a borrower's income) results in harm to others. That individual pays fines, goes to jail, or is otherwise punished. If loan officers think they are going to be immune to this, they are kidding themselves.

Here are the original purposes behind the stated income loan program:

If you are dealing with a borrower that has maybe been working a side-job for the last couple of years doing lawn care, and they get paid entirely in cash, but never document that income, this was supposedly a way to use that income to qualify the loan. Of course, it begs the question: "Why wasn't this person reporting this income on their taxes?" Additionally, if you had a borrower that was working on a job where most of the income came from tips, such as a hair-stylist or restaurant worker, this was supposed to be a way for them to document their cash income from tips. Yet again, the question arises: "Why aren't they reporting it on their taxes?”

If you are a borrower who is self-employed and has very strong credit, trying to document their income from the business they own can be difficult. If they claim large amounts of deductions on their taxes, a traditional loan must be qualified on the income AFTER deductions. The stated program was intended to allow you to use the income level BEFORE the deductions.

If you are a borrower that has income coming in from all over the place, and very strong credit history, you can simply elect to do a loan that has reduced income documentation to save you the time of verifying 5-10 different sources of income.

The purpose of stated loan programs was never to artificially inflate a borrower's income, but that is what is happening. On one popular internet discussion forum for loan officers, the discussion at that site on this issue is mind-boggling. There are loan officers on there who outright admit that they use stated income programs to exaggerate income, because they claim that without them, they could never approve anyone for a loan in expensive areas. That raises more questions.

Do these loan officers understand that the FBI regularly reads that site, and that just because an agent isn't knocking on their door with a search warrant today hardly means that they are immune to prosecution in the future. A lot of mortgage fraud cases take a long time to investigate. At this site: www.mortgagefraudblog.com you can read about some of the cases of fraud that have been uncovered in recent years. They are very complex, but are also easy to uncover. It is stunning that individuals actually believed they could get away with some of this stuff.

I wonder if the loan officers understand that part of the reason that housing prices exploded to ridiculous levels in the last few years is because of the ease of obtaining credit to purchase homes. When credit is easier to obtain, more people can qualify for the purchase. When there is more demand, prices are higher.

Potential long-term implications of fraud:

Part of the reason for the rapidly appreciating property values we have seen in the last few years have been historically low interest rates and loan programs that make it possible for people to purchase homes that they have no business purchasing, when taking their income into account.

What do you all think is going to happen when easily defrauded loan programs start to disappear and interest rates continue to rise?

First, houses are going to be a tough sell, because they are going to be unaffordable until prices adjust in a downward direction to a level that makes it realistic to buy them. Loan programs that allow easy approval of loans for people that otherwise should not be able to afford a house are about to disappear.

Second, when the values shift downward, you are going to have these “home owners” who were put into incredibly bad loan programs, didn't make a down payment, and can't afford their house payment. When they try to sell the depreciating property, they aren't even going to be able to pay off their mortgage in its entirety. If they don't pay it off, then the next buyer can't finance the purchase.

As a final slap in the face, people that are in terrible loan programs such as an adjustable-rate mortgage in which they lack equity to refinance will be faced with increasing payments that they cannot afford. Since they can't sell the house to get out from under the mortgage that they can’t pay, they will just foreclose. That translates into a massive loss for the banks, which means further evaporation of bad mortgage programs and tightening of requirements on existing programs (if we're lucky).

In a strange sense of irony, all of the foreclosures will actually result in housing that may once again be affordable. It's an interesting cycle.

Closing Costs: Why do they exist and what should I be paying?

No matter where you get your mortgage, you will have closing costs associated with your loan. There are a few rare exceptions to this, but generally speaking, you are going to be charged some fees to have your loan completed.

How much you have to pay varies. It depends on the amount of money you are borrowing, your interest rate, the loan program you are obtaining, the specific bank that is servicing your loan, the price of the property appraisal, and the price of your home owner's insurance.

Today, I will show you an example of the closing costs that would be associated with doing a standard loan for $150,000 at an interest rate of 6.5% fixed for 30-years. I will do my best to explain everything in detail and indicate which fees a mortgage company does or does not control. For first-time borrowers, a lot of this information may be hard to comprehend, so do not hesitate to ask your loan officer for details on this information:

Processing fee: $250

When you do a loan with my company, I have a loan processor that is responsible for making sure all of the paperwork is in order for your loan. They have to order the property appraisal, order the title examination for the property, request a copy of your home 0wner's insurance plan from your insurance agent, etc. This stuff all has to then be submitted to the bank that will be loaning you your money. As I have to pay this processor hourly, I charge $250 to cover that expense.

Credit Report: $11 (controlled by bank and lender)

When I take your loan application, I then request a copy of your credit report from the credit reporting agencies. I am charged $11 for this. Please keep in mind that any time you apply for a mortgage loan, a credit report must be pulled. However, reputable mortgage companies do not bill you for this unless you close the loan with them. If a company is trying to charge you an up-front fee just to apply for the loan, go somewhere else.

Underwriting Fee: $550 (not controlled by mortgage company, local bank may have control)

When your loan is submitted to the lender, they have an individual who is responsible for providing the final approval for your loan. That individual is known as an “underwriter”. These people work in high-stress situations and are generally paid pretty well. The lender charges you this fee to help cover the expense of paying the underwriter. Some lenders will refer to this as an "administration fee". It should be noted that some lenders do not charge an underwriting fee for certain loan programs. Wells Fargo is one example. If you do an FHA purchase loan with them, there is no underwriting fee associated with the loan (which translates into savings for you on your loan). However, lenders like this are the nice exception and not the norm, so in most cases, you can expect to have an underwriting fee on the loan.

Appraisal Fee: $200 - $400 (not controlled by mortgage company or bank, varies by appraiser)

When you purchase your home, the property must be appraised to verify that it is worth at least as much as the amount of money you are borrowing. Generally, an appraiser charges from $200 - $400 for this service. Most of the time, your lender will ask you to pay for this out of pocket ahead of time. Alternatively, you can give the lender a check for the appraisal fee that they will hold until your loan closes. If you close, they tear up the check and roll the fee in with your closing costs at closing. If you back out, they cash the check to cover the expense of the appraisal that was ordered, but not used.

Flood Certification Fee: $9 (not controlled by mortgage company, may be controlled by local bank)

When you select a property for purchase, the lender has to hire a company to verify that your future home is or is not in a flood-prone area. If it is, they require you to purchase flood insurance. The Flood Certification Fee is to cover the expense that the lender must pay the company to verify this information about the property. Please note that not all lenders charge this fee. In fact, most do not, but if you have one show up on your Good Faith Estimate, this is the explanation for why it is there.

Title Work: $550. Varies Widely By Title Company (not controlled by mortgage company or bank)

Essentially, when you begin a purchase or refinance transaction on a house, all lenders require that the title history of the home be searched. This is meant to protect the lender and the buyer. The title company is tasked with verifying that no tax liens have been instituted against the property by the federal or state government.

Why is this necessary?

If the federal, state, or county government imposes a tax lien against a property (as a result of the current owner not staying current on their income or property taxes), then they have first rights to any proceeds from the sale of that property. So if you have a property that has a tax lien against it, the bank does not wish to loan money against that property because if you default on the loan, the bank will not have first rights to the funds from the proceeds of selling that home. Instead, the tax lien would have to be paid first, and the bank gets whatever is left over, which puts them at risk of losing more money on a defaulted loan.

Generally, title companies have a few different fees they charge. These fees vary widely from company to company, but all are required to be summarized on your good faith estimate. Title companies must keep insurance similar to malpractice insurance that a doctor would carry. This protects them in the event of a mistake where they would incorrectly report that no tax liens exist against the property. If a loan defaults, and it comes to light that there are tax liens, even though the title company did not report those liens, the title company is held responsible for the loss to the lender. This insurance would pay for that loss.

For the purposes of this post, we will say that your title company charges will amount to $550.

Interest for 'x' number of days: $406.02. Varies by Closing Date, Loan Amount, and Interest Rate (not controlled by mortgage company or bank)

When you close on a loan, the lender always charges you for the interest that will be accrued between the day of the month that you close your loan and the last day of the month. This money is charged up front in the closing costs of your loan. For example, with the loan we are using in this example, interest accrues at the rate of $27.08 per day. If you close in the month of April, on the 15th day, that means there are 15 days remaining in the month. 15 x $27.08 = $406.02. You will be charged $406.02 for this at close.

Tax and Insurance Prepays: $425.00. Varies by Insurance premium, property tax rates, and, (with refinance transactions), the time of year loan is closed and the month that your insurance premium is normally due. (these fees are not controlled by the mortgage company or bank)

Assuming you are going to escrow your taxes and insurance (meaning that you pay them in in monthly installments, rather than a lump-sum annually or semi-annually), you will have to pre-pay a few months in advance for both taxes and insurance. On a purchase loan, the standard is 3 months. So if your monthly insurance premium is $70, you will be charge $210 at close in insurance pre-pays.. If your property taxes are $85 per month, you will be paying $215 at close (assuming you are also escrowing your property taxes).

Not all lenders require you to escrow, and I will discuss the benefits and disadvantages of escrowing in a future post. Additionally, the method for calculating your prepays is different for refinance transactions. I will discuss the difference in a future post.



So how much are closing costs on this loan?

Processing fee: $250.00
Credit Report: $ 11.00
Underwriting Fee: $550.00
Appraisal Fee $350.00 (approximately)
Flood Certification: $ 9.00 (in some cases)
Title Work: $550.00 (varies by title company)
Interest to month's end: $406.02 (varies by day of the month loan closes)
Tax and Insurance Pre-pays: $425.00 (varies by premium and tax rate)

Total: $2901.02

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Obviously, this is a lot of information to digest. If you are considering purchasing a home, I would advise that you print this off and look it over.

In my next post, I will address courses of action for situations where you are being charged fees other than what have been summarized on this post.