In most real estate markets throughout the country, sellers are trying to cope with a slower moving market burdened with an over supply of competing homes for sale and weak buyer demand. Buyers are struggling with rising mortgage interest rates, tougher loan underwriting qualifying standards, high prices and low affordability. Real estate investors want positive monthly rental income cash flow and a hedge against a softening rental market in the future.
Solution:
A mortgage interest rate “buy-down” allows the seller to expand the pool of qualified buyers and real estate investors.
The mortgage interest rate buy-down is a seller strategy with multiple options to maintain the seller’s price position
The property is offered for sale at the full asking price with a seller credit to discount the mortgage interest rate or a discounted price without a seller credit to discount the mortgage interest rate
It’s a “win-win” for both the buyer and seller
The seller can deduct the buy down credit as a selling cost expense
The buyer receives a 1098 form from the lender and a tax deduction for the buy down credit – “points” paid for the new loan to purchase the property
Higher sales price maintains neighborhood property values
The discounted mortgage interest rate helps to ensure the buyer will qualify for the loan
The buy-down empowers the seller to compete with new home builders offering substantial buyer incentives
The lower monthly loan payment increases the potential for positive rental cash flow for real estate investors
Why Buyers and Sellers are stuck:
In a slow real estate market, sellers usually experience long protracted marketing time-lines to find a qualified buyer. An over supply of competing homes for sale leaves the seller with few options except to make consistent and substantial downward asking price adjustments until the property sells. Investors are reluctant to buy income properties with negative monthly rental cash flow. Buyers cannot qualify for financing to move up into a larger home or move to a more desirable location. Buyers relocating from a lower cost area into a higher priced market must make a major lifestyle set back to buy a smaller home in a lesser location.
The process to solve the problem:
Sellers can align themselves with a reputable lender to find the best mortgage interest rate buy down program and integrate the buy-down with their marketing and pricing strategies Buyers can obtain a loan pre-approval with a reputable lender using a mortgage interest rate buy down program to increase their purchasing power.
How does mortgage interest rate buy-down program work?
The seller uses a credit from the proceeds of the property sale to pay additional loan points on the buyer’s loan. The additional loan points will “buy-down” the mortgage interest rate. The discounted mortgage interest rate applied against the same loan amount will reduce the monthly loan payment. So, there is no “out-of-pocket” cost to the seller. The credit paid to the buyer’s lender is a paper transfer at the close of escrow. The buy-down fee is a debit from the seller’s proceeds of the property sale.
Review the Example and the type of loan used – The five-year interest-only loan.
Example:$644,000 sales price with the Buyer purchasing with 20%down:
Down payment 20% $128,800
Loan amount 80% $515,200
Rate/payment 6.375% $2,737 per month
Option I
$644,000 sales price with Seller credit of $10,000 applied to interest rate buy down:Down payment 20% $128,800
Loan amount 80% $515,200
Rate/Payment 5.5% $2,361 per month**This results in a monthly payment reduction of $376.
Option II
Reduce sales price by $10,000 to $634,000 with the Buyer purchasing with 20% down:Down payment 20% $126,800
Loan amount 80% $507,200
Rate/Payment 6.375% $2,694 per month*** Your buyer saved only $43 per month.In order to achieve the same payment of $2,361 per month by using a price reduction you would have to reduce the sales price by $88,750! (see example below)
Reduce sales price by $88,750 to $555,250:
Down payment 20% $111,050
Loan amount 80% $444,200
Rate/ Payment 6.375% $2,361 per month
While a $10,000 sales price reduction is reasonable, an $88,750 sales price reduction is not. The loan interest rate buy down credit is a win/win for the buyer and seller.
Review Option I – Compare the difference in the interest rate and monthly payment between the Example and Option 1
How much will the buyer save each month using the buy-down loan?
$376 per month…multiply this monthly savings by 60 months and the buyer saves over $22,560 in five years.If the buyer decides to pay a lower price instead of taking advantage of the buy-down interest rate loan- how much does the buyer save each month if the seller lowers the purchase price by a sum equivalent to the 3% credit, in this case, $10,000?
Review Option II -The buyer saves $43 per month or $2,580 over five years.The buyer can pocket an additional $19,980 if the buyer chooses to pay the full asking price with the mortgage rate buy-down loan.
How much would the seller have to lower the asking price to achieve the same discounted monthly loan payment and the borrower financing 80% of the purchase price?
The seller would have to lower the asking price by $88,750 to achieve the same payment using an 80% loan to value ratio.(Review the “sales price reduction” example)The seller is more than likely to be unable or willing to make such a large price concession.
Why does the buyer receive a tax credit for the buy-down fees paid by the seller?
The lender is required to issue a 1098 form to the borrower for points paid on the purchase loan. The seller is not the lender’s customer. Therefore, the buyer receives a significant tax deduction of which could make the property purchase even more attractive.
How do lenders benefit from these buy-down loans?
It is easier for a buyer to qualify under a discounted loan interest rate and the bank receives upfront “pre-paid” profit from the additional points paid on the loan.
The discounted interest rate can make it easier to put a second loan behind the discounted first loan and therefore, the buyer can use a smaller down payment to purchase the property – like an 80-10-10 loan.
The discounted monthly payment can offset additional monthly association fees for buyers purchasing a condominium.
Is it possible to buy down an adjustable rate loan?
The interest rate index and margin are added together to create the “note rate”. The buy-down of the margin will lower the note rate and, therefore, the related monthly mortgage payment. The benefits of a margin buy-down in a rising interest rate environment include lower monthly payment increases. Is it possible to buy-down the interest rate in a loan refinance? The buy-down fee (points) in a refinance is built-in by obtaining a larger loan amount above the existing loan amount. You can reduce the monthly mortgage payment through a buy-down refinance loan. Buying down the interest rate on a new first loan may enable the buyer to qualify for “piggyback” second loan financing to minimize the buyer’s down payment requirement. A lower monthly loan payment on the discounted first loan leaves qualifying room for the buyer’s debt-to-income ratio for the monthly payment on a second loan. Also, a lower monthly loan payment leaves qualifying room for a buyer’s debt-to-income ratio to pay monthly condo association fees Here is a strategy to enable buyers to find sellers willing to pay the buy-down loan fees….
Team up with a Realtor to search for properties listed on the MLS for at least 30 to 45 days
Look for properties that are vacant and are still listed at the original asking price
Occupied properties are OK, too
Ask your lender to prepare a loan interest rate “buy-down” outline like the handout for this conference call
Draft a full price purchase offer with your Realtor
Ask your Realtor to contact the seller’s agent and make it a requirement that your Realtor meet with the seller and the seller’s Realtor in person or on a 3-way conference call including the seller’s agent to present your offer
Ask your lender to be on “stand-by” to answer any questions that may come up during the presentation of your offer
Friday, February 15, 2008
Discover One of the Most Powerful Tools in Real Estate Financing…
How to Avoid the Most Deadly Lending Landmines…
Here are some tips I learned from a seasoned California mortgage banker who successfully funded over 100 loans during the tough transitional 2007 real estate market. These tales from the trenches can prevent your deal from the shrapnel of a loan decline or last minute tighter “prior to document or funding” conditions:
Most conventional (up to $417k) and non-conforming (Jumbo) loans above $417k require Desktop Underwriting approval
Conventional secondary financing is very difficult to obtain. A maximum of 90% loan-to-value (LTV) ratio should be relied upon from the buyer
Jumbo interest rates are currently at least 1.375% higher than conforming loan interest rates
Secondary “seller carry-back” financing is a great sales tool strategy. In some cases 100% total loan-to-value will be allowed with the first loan at 80% LTV or less
Beware of “declining market” underwriting guidelines –
A 5% reduction on the guideline is required by most lenders, so if the buyer is applying for an 80/10/10 loan, the underwriting guideline would have to meet or exceed 85/15/5 underwriting guidelines
Be sure to work out these important details in advance during the loan “pre-approval” stage instead of in the middle of a transaction!
All of California is now considered to be in a “declining market”- check with your lender to see how your local market is rated
Credit scores of less than 620 will not pass
Appraisal reports are submitted to underwriting
Underwriting runs an Automated Value (AVM) which almost always comes in low
Desk/Field appraisal review is then ordered
Make sure the appraisal is always signed off by the underwriter within a reasonable amount of time
One more thing…don’t forget to wear your flack jacket in this ever changing lending environment.
In today’s challenging and uncertain lending environment, qualifying standards for home loans and refinancing are becoming increasingly more stringent. Many potential borrowers who were “pre-approved” under yesterday’s loan underwriting guidelines may discover that their loan program qualifying standards have changed or the loan program is no longer available.
Unfortunately, some unwary prospective homebuyers discover they cannot meet the revised underwriting criteria when they are in escrow waiting for the lender to fund the loan to complete their purchase transaction. The loan documents sometimes will arrive just a few days prior to the scheduled closing date with different loan terms and/or “prior-to-funding” conditions of which the borrower cannot comply.
Here are some tips to protect your transaction from the dreaded last minute failure due to unfulfilled financing to complete the purchase:
25 day maximum close of escrow deadline falls within the premium (least expensive) loan interest rate lock period and will avoid changing loan underwriting guidelines
Seller to insert a contingency clause into the purchase agreement “Buyer shall lock in loan interest rate within 24 hours of acceptance”
Buyers- demand that your Financing and Appraisal Contingencies remain in place until funding of the loan (usually the day before or day of close of escrow) to protect your good-faith earnest money deposit from forfeiture to the Seller
Sellers- instead of requiring the entire Financing Contingency removal in advance of the loan funding- insert a contingency clause that requires the Buyer to provide written evidence directly from the bank underwriter of full loan approval with all conditions met (within reason), verification of employment, down payment monies and a complete sign off of the appraisal report. The only item remaining to complete the financing are delivery of the loan documents and loan funds to the title company escrow account
For occupied properties, ALWAYS include a rent-back option in favor of the tenant or seller in the event there is a delay or worse, a cancellation of the sale due to financing problems. There is nothing worse than contacting the Seller that the deal is dead after they have moved out or all of their possessions are packed.
Many Sellers of occupied properties are buying and moving into another home and these suggested precautions can mitigate the pitfalls of these uncertain times in the lending arena.
BEWARE of using a Mortgage Broker to obtain financing. Direct lenders (banks) are closing their wholesale lending departments or eliminating the majority of Mortgage Brokers who fall outside of their performance requirements.
Additionally, Congress is likely to eliminate the Yield Spread Premiums (YSP) that Mortgage Brokers need to be competitive in loan costs to the borrower. Loan programs are being eliminated or modified on a consistent basis and many Mortgage Brokers are not in the direct line of communication when banks issue these memos to their in-house lending divisions.
Therefore, Mortgage Brokers are at a disadvantage in this tough lending environment. Don’t take unnecessary chances with your transaction. Use a direct lender such as a major bank, credit union or mortgage banker.
Sellers- if the Buyer insists on using a Mortgage Broker, insert a contingency clause into the purchase agreement “Within 3 days after acceptance, Buyer shall provide Seller a letter from a direct lender (Bank or Mortgage Banker) stating that upon review of Buyer’s written application and credit report, Buyer is pre-approved for the new loan stated and Buyer hereby agrees to accept the best available loan from either Direct Lender or Mortgage Broker at close of escrow”.
VA Loans Offer Attractive Financing Terms
The Veteran’s Administration has modernized the current VA loan programs available to qualified veteran borrowers. These loans are very competitive and can offer an affordable financing alternative to prospective home buyers and people who want to refinance their existing mortgage. Additionally, the current maximum VA loan limit is $1,000,000 which can be a great alternative to an expensive non-conforming jumbo loan (above $417,000) in high cost real estate markets like California and the San Francisco Bay Area.
Here are some of the terms and conditions for current VA loan programs:
100% loan to value (LTV) up to $417,000
Over $417,000 – down payment is 25% of the difference between $417,000 to $1,000,000
580 minimum required credit score
Veteran borrowers need a DD214 (Notice of Discharge)
Seller allowed to pay up to 4% of the purchase price toward the Buyer’s closing costs plus 1% loan origination fee
2/1 loan interest rate buy-downs available
All recommended section 1 structural pest control repairs, all recommended further inspections of inaccessible areas and all recommended section 2 repairs which may lead to infestation must be completed by the Seller
A structural pest control certification must be obtained prior to close of escrow
45 day close of escrow
Other significant benefits include loans over $417,000 will be priced at interest rates as good as conforming loan interest rates; down payment on a $1,000,000 loan will be only $145,750 or 14.57% of the purchase price; no private mortgage insurance required (PMI).
FHA Loan Programs Offer Great Financing in a Tight Credit Market…
The current credit crunch in the financial and real estate markets have significantly eliminated a vast pool of borrowers with a desire to purchase or refinance a home. This especially rings true in high cost markets like California and the San Francisco Bay Area.
FHA loan programs offer great terms compared to conventional loan programs affected by challenging qualifying standards that require a large down payment. Congress and the federal government are on the verge of raising conforming loan limits for Fannie Mae and Freddie Mac mortgages in high cost areas.
Those in the know believe it’s a matter of when not if the conforming loan limit will be raised and when this happens, the FHA loan limit will be increase to match the higher conforming loan limit. Therefore, the revised FHA loan limit could be increased from $362,750 to $625,000 or higher.
The following are some of the attractive features of the FHA loan programs for owner-occupied properties:
Down payment is 2.85% of the purchase price
Down payment assistance / “Nehamiah” programs available *
No credit score required- good credit for the previous 12 months is OK
100% gift for down payment is allowed
Seller can credit the buyer up to 6% of the purchase price for Buyer’s non-recurring and recurring closing costs
2/1 interest rate buy-down and straight 30 year interest rate buy-downs are available
Pest control recommended repairs- all section 1 items, all section 2 items (that could lead to further damage) and all recommended further inspections of inaccessible areas must be completed with a pest control certification at close of escrow
Allow 45 days to close escrow
Collection accounts on credit report do not automatically have to be paid in full
Bankruptcies OK if older than 2 years (in some cases, older than 1 year is allowed!)
Non-occupant co-borrowers are OK (blended debt-to-income ratios allowed)
Back-end qualifying ratios from 41% up to 50% in some cases
1 to 4 residential units OK – 2 to 4 units have higher loan limits
Condominiums do not require private mortgage insurance (PMI)
Single family dwelling (SFD) and planned unit developments (PUD’s) require PMI at .5% of the purchase price (conforming loans require PMI at 1%)
Unapproved condominium complexes require “spot” approval
Not previously approved and then removed from approval list
No pending litigation against the condo homeowner’s association
No more than 10% of the units delinquent on HOA dues
51% owner occupancy ratio required
Up to 10 units maximum in complex under spot approval (some exceptions may apply)
* The Nehamiah down payment assistance program is a non-profit organization. The seller makes a charitable donation to Nehamiah then Nehamiah forwards the Buyer’s down payment to the escrow account. Please note that some title companies may not facilitate this program and you should confirm prior to opening and escrow account.
Fed proposes new restrictions on subprime, alt-A loans
Sen. Dodd says legislation still needed to rein in abusive practices
The Federal Reserve proposes imposing some restrictions that currently apply only to very costly loans — including a ban on most prepayment penalties — to subprime and some Alt-A loans.
The product of a series of hearings, the proposed changes in how the Fed implements the Truth In Lending Act, or TILA, are intended to protect consumers from unfair or deceptive home mortgage lending and advertising practices. While the proposed regulations drew a mixed reaction from lenders, Connecticut Democrat Sen. Chris Dodd issued a statement slamming them as “deeply disappointing,” and “a clear signal that legislation is necessary to help protect homeowners from abusive and predatory lending practices.”
The proposed amendments to Regulation Z, which spells out the Fed’s implementation of TILA, would require lenders making “higher-priced” mortgage loans to:
Verify a borrower’s ability to repay a loan with an adjustable-rate mortgage after a payment reset, including property taxes, homeowners insurance and other expenses.
Document income and assets, using a borrower’s Internal Revenue Service Form W-2, tax returns, payroll receipts, financial institution records, or other third-party documents that provide reasonably reliable evidence of the consumer’s income and assets.
Establish escrow accounts for taxes and insurance, which borrowers could opt out of after one year.
The new regulations would also ban prepayment penalties on higher-priced loans unless the consumer’s debt-to-income ratio does not exceed 50 percent of verified monthly gross income, and the source of the prepayment funds is not a refinancing by the same lender or its affiliate. Only higher-priced mortgage loans on a primary residence — including home-purchase loans, refinancings and home-equity loans — would be subject to those provisions in the new regulations. Mortgages on vacation properties, open-end home-equity plans, reverse mortgages, or construction-only loans would be exempt, and loans to investors are, for the most part, not covered by TILA.
Higher-priced loans would be defined as first-lien mortgages with an annual percentage rate (APR) of 3 percent or more above the yield on comparable Treasury notes, or 5 percent for second mortgages.
In addition to extending some provisions of the Home Ownership and Equity Protection Act (HOEPA) to subprime loans, the proposed regulations would also create some additional new requirements for all loans, including:
Written agreements between borrowers and mortgage brokers collecting yield spread premiums, before the consumer applies for the loan or pays any fees.
Prohibitions on coercing appraisers to inflate property valuations.
New requirements for loan servicers, including crediting consumers’ loan payments to the date of receipt and providing a schedule of fees to consumers upon request.
Dodd criticized the proposed language requiring lenders to evaluate a borrower’s ability to repay a loan difficult to enforce, because regulators would have to show a “pattern and practice” of violations. The Connecticut lawmaker called the language a “significant step backwards” from existing guidance on the topic from regulators. He said allowing borrowers to opt out of escrow accounts after one year could provide unscrupulous lenders a “tool to ‘flip’ borrowers into another, wealth-stripping refinance.”
While the proposed measures don’t go as far as some consumer groups and lawmakers had wanted, they represent a significant departure for the Fed, which has come under fire from critics who say it has failed to use its authority under the Truth in Lending Act to prohibit abusive lending practices during the boom.
Lenders have argued against stricter regulations, saying market forces have put an end to many of the most egregious practices and that new restrictions could worsen the credit crunch.
“There is much to commend and much to worry about in the proposed rules,” the American Bankers Association said in a statement on the proposed Regulation Z changes. While the ABA welcomed “uniform, national standards” that will apply to all lenders and target abuses by unregulated or lightly regulated nonbank lenders, the group warned that “replacing important lending flexibility with rigid formulas might also limit lending to some creditworthy borrowers.”
Some consumer groups wanted the Fed to simply lower the thresholds that trigger existing HOEPA requirements. Both first-lien loans with an annual percentage rate (APR) more than 8 percent above the rate on Treasury securities of comparable maturity and second-lien loans with APRs more than 10 percent higher are covered by HOEPA. Among the most feared provisions of HOEPA are the rights it gives borrowers to sue lenders who violate its requirements, allowing them to recover statutory and actual damages, court costs and attorneys’ fees. Borrowers also have up to three years to cancel a loan that is subject to HOEPA if they can show the requirements weren’t followed.
A bill introduced Dec. 12 by Sen. Dodd, The Homeownership Preservation and Protection Act, would lower HOEPA thresholds to a range of 6 to 10 percent for first mortgages, and 8 to 12 percent for seconds. Loans in which total points and fees exceed 5 percent would also trigger HOEPA requirements under Dodd’s bill. Opponents have warned that lowering HOEPA thresholds to cover subprime loans could discourage investors from buying mortgage-backed securities on Wall Street, further reducing the flow of investment capital into mortgage lending and increasing the cost of borrowing for home buyers.
“Any federal law that begins with amendments to existing HOEPA likely will be freighted with HOEPA’s effects,” industry lawyer and lobbyist Donald Lampe told members of the House Financial Services Committee in May. “Hardly anyone รข€¦ in the secondary market funds or purchases HOEPA loans.”
Instead of lowering the threshold for triggering HOEPA requirements, the Fed proposes to create a new class of higher-priced loans that would be subject to new regulations. Lenders who followed the rule that they verify and document a borrower’s ability to repay a loan would be granted “safe harbor” from lawsuits if they had a reasonable basis to believe that borrower would be able to make loan payments for at least seven years. The proposed definition of a higher-priced loan — 3 percent above comparable Treasury notes for first mortgages, or 5 percent for seconds — is already used to collect data under the Home Mortgage Disclosure Act.
The definition is intended to “capture the subprime market, but generally exclude the prime market,” staff members of the Fed’s Division of Consumer and Community Affairs said in a Dec. 12 memo summarizing the proposed changes. There is no uniform definition of prime and subprime markets, however, the memo noted, and the proposed thresholds “would capture at least the higher-priced portion of the alt-A market.” The Fed is requesting comment on whether different thresholds, such as 4 percent for first-lien loans, “would better meet the objective of covering the subprime market and excluding the prime market,” and on ways to “limit creditor circumvention” of the thresholds.
The lending industry has argued that prepayment penalties can benefit borrowers by allowing lenders to charge lower interest rates.
But critics say many consumers aren’t very good at factoring in their potential cost into the price of a loan, which is not included in the annual percentage rate. Studies have shown most borrowers with adjustable-rate mortgage (ARM) loans seek to refinance before their interest rates reset, and prepayment penalties can decrease a borrower’s home equity and increase their loan balance when financed into a new loan. The new tougher restrictions on prepayment penalties “should allow the vast majority of subprime borrowers to refinance their mortgages without paying a prepayment penalty before the first payment increase takes effect,” Fed staff members said in a memo to the Board of Governors.
Dodd questioned the adequacy of provisions intended to limit the use of prepayment penalties and yield-spread premiums, which he said are used to put borrowers in more expensive loans than they qualify for. All in all, the proposal “raises serious questions as to whether the Federal Reserve is the appropriate institution to house consumer protection functions,” Dodd said in a statement. “This is a clear signal that legislation is necessary to help protect homeowners from abusive and predatory lending practices.”
The House of Representatives on Nov. 15 approved a bill, HR 3915, the Mortgage Reform and Anti-Predatory Lending Act of 2007, which would limit prepayment penalties, set minimum standards for all mortgages that lenders assess a borrower’s ability to repay, and expand HOEPA restrictions.
Copyright 2007 Inman News
Congress Reaches Agreement on Mortgage Relief Bill
Here is another facet of the financial “crisis” we face – whether or not you own real estate, this will be paid for by your taxes (and mine).
The House of Representatives will approve the Senate-passed version of H.R. 3648, the “Mortgage Forgiveness Debt Relief Act of 2007.” Thus, once the House passes this bill it will be cleared for the President’s signature.
Under the Mortgage Relief Act, effective for indebtedness discharged on or after Jan. 1, 2007 and before Jan. 1, 2010, taxpayers generally may exclude from income up to $2 million of mortgage debt forgiveness on their principal residence. However, the Mortgage Relief Act also includes the following important tax changes having nothing to do with mortgage debt tax relief:
· A three year extension of the rule treating qualifying mortgage insurance premiums as deductible qualified residence interest.
· An exclusion for qualified state or local tax benefits (e.g., reduction or rebate of state or local income or property tax) and reimbursement-type payments (up to $360 a year) granted to members of a qualified volunteer emergency response organization. The new exclusion will apply for tax years beginning after 2007 and before 2011.
· Effective for sales and exchanges after Dec. 31, 2007, surviving single spouses will qualify for the $500,000 home-sale exclusion if the sale occurs not later than 2 years after their spouse’s death and the requirements for the $500,000 exclusion were met immediately before the spouse’s death. Currently, the up-to-$500,000 exclusion is available only if spouses file a joint return for the year of sale.
· Effective on the enactment date, two alternative methods are provided for meeting the 80% rule for qualifying as a cooperative housing corporation.
· Certain full-time students who are single parents and their children may live in housing units eligible for the low-income housing tax credit if their children are not dependents of another individual (other than a parent of such children). In general, this change applies to housing credit amounts allocated before, on or after the enactment date, and to buildings placed in service before, on or after the enactment date.
· Effective for returns filed after the enactment date, the per-partner penalty for failure to file partnership returns is $85 per month, and the period for calculating the failure to file penalty is 12 months. Additionally, a like per-shareholder penalty is imposed on failure to file an S corporation return.
· The required installment amount for estimated tax payments by corporations with assets of $1 billion or more that is otherwise due in July, Aug., or Sept. of 2012 increases from 115.75% to 117.25%.
