Home Mortgage Strategies
Often, a savvy home buyer can save just as much by selecting the "right financing" as he or she can by negotiating the "right price" for a home.
The days of rigid underwriting standards, lengthy loan approvals and the "one-size-fits-all" 30 year fixed rate home mortgage are history. Competition in the industry has led to loan product developments in recent years that have greatly expanded the choices for home buyers. Today's home buyers can now choose loans that are custom tailored to their individual needs and finances. Lenders offer borrowers options to maximize their buying power, save cash for repairs or improvements, get a loan with little or no income verification, or even buy a home with no down payment. This article will discuss some of the new ways that buyers can take advantage of the expanding loan market to secure the best financing for their purchase and it covers the following topics.
· Purchase pre-approvals
· No-income documentation loans
· 80/10/10 combinations
· 100% loans
A purchase pre-approval is a lender's certification of you as a borrower before you've actually selected a specific property. In other words, your financial qualifications (employment, income, assets, credit history, etc.) are verified for full underwriting by the lender in advance. The lender "qualifies" you as a borrower for a maximum loan amount with a specific down payment, and interest rate.
Getting pre-approved for a loan is a necessity in today's real estate environment. Most homeowners & Realtors will not consider offers from buyers who have not been pre-approved by a lender first. While this may seem like "putting the cart before the horse" (applying for financing before you've actually bought a house), the pre-approval is a very useful tool. By going through the loan process before signing a contract of sale on a home, you can eliminate all of the obstacles to borrowing without jeopardizing an actual purchase transaction. Once your loan is approved, your real loan closing will be quick and subject only to a satisfactory appraisal and title report on the home.
To begin the pre-approval process you need to make some assumptions for your purchase price, loan amount, and loan program. Any of these assumptions can change once you've found your home, but it helps to do the following:
· Complete your application for the maximum loan amount and purchase price that you're interested in. You can always reduce these later.
· Get your loan approved at an interest rate that is higher than what you expect to take. Again, the loan program that you decide upon can differ from what you are initially approved at.
The pre-approval of your loan will ensure that your real purchase will go smoothly once you have located the perfect home.
No Income Documentation Loans
Often grouped together despite their subtle differences, "light documentation", "no-income verification" and "quick qualifier", or "QQ" loans are a solution for many buyers who have income from sources that are hard to verify. Usually these loans are used by self-employed borrowers who have difficulty verifying all of their income, or by borrowers with very complex income structures. For example, a borrower who has income primarily from rental properties and investments may be hesitant to verify all sources of income due to the volumes of paperwork this would require. With a no income documentation loan, the borrower can simply state his income on the application, and the lender will use this stated income to qualify the loan. Why do lenders do this? Because they recognize that by charging a slightly higher rate of interest they can rely on this stated income of the borrower and cover the additional risk. Lenders do in fact rely on verifying that the borrower has assets that logically match the stated income, along with excellent credit.
With a higher cash down payment, typically 25% or higher, along with good credit, these loans allow borrowers to buy into purchase prices a lender wouldn't ordinarily qualify them for. Because no-income documentation loans carry a higher interest rate, they should only be used when necessary, not simply to avoid the paperwork requirements of a full documentation loan.
Avoid Mortgage Insurance with 80/10/10 Financing
If you purchase your home with less than 20% down, chances are you will be required to obtain ''Private Mortgage Insurance''. Private mortgage insurance is a type of insurance designed to protect the lender in the event of default on a loan. This type of insurance is generally required when a borrower has less than 20% equity in a home; i.e. the loan amount divided by the property value is 80.01% or greater. As your home appreciates or your loan balance decreases (or a combination of the two), and your equity in the home exceeds 20%, you may petition the mortgage holder to drop the MI. This process may be cumbersome or difficult.
One way to avoid paying PMI is to purchase a home with a combination first and second mortgage. The first mortgage would be limited to 80% of the home's appraised value. The second mortgage, which would close in conjunction with the first, would then provide for the difference between the home's purchase price, less the 80% first mortgage, less the down payment available . In other words, if you have a 10% down payment available, your first loan would provide for the 80% mortgage with a second mortgage of 10%. This is commonly referred to as an 80-10-10 transaction.
Another way to avoid incurring PMI payments is to find a lender that offers self-insured programs. This type of loan would have a higher interest rate in place of the private mortgage insurance premium. While mortgage insurance premium payments are not tax deductible, the interest associated with a self-insured mortgage would be fully tax deductible.
The decision of whether to obtain a loan with mortgage insurance versus the above two options should take into account the combined total monthly payments of the various options, adjusted for the tax benefits of interest deductions.
100% Financing or 0% Down Loans
If you're considering purchasing a home but you can't stand the thought of cashing in your investments for the down payment, ask your lender for a quote on 100% financing. That's right, no money down! You can keep all of that down payment money working "for" you in your investments and pledge the assets as additional collateral instead. While the interest costs are higher for this type of loan, the income earned by leaving the down payment funds invested may well make this a worthwhile option.
Another cost to evaluate against the higher interest rate of this type of loan is the cost of possibly having to pay capital gains tax as a consequence of "cashing in" investments to use as a down payment.
As a rule of thumb, fully leveraging your real estate purchase would make the most sense if your investment returns were better than 3% over the prevailing 30 year fixed rate.
How Do I Choose The Best Loan Program For Me?
There are many factors to take into account when deciding how to finance the purchase of a home besides just comparing interest rates. Remember that today's mortgage market offers opportunities to the homebuyer that never existed before, so shop around and ask about loan products that might better suit your needs. Don't assume that the traditional "vanilla" loan that most lenders offer in their initial conversation with a prospective borrower is all that is available.
Your personal situation will determine the best kind of loan for you. By asking yourself a few questions, you can help narrow your search among the many options available and discover which loan suits you best.
· Do you expect your finances to changeover the next few years?
· Are you planning to live in this home for a long period of time?
· Are you comfortable with the idea of a changing mortgage payment amount?
· Do you wish to be free of mortgage debt as your children approach college age or as you prepare for retirement?
Answers to questions such as these will help you and your lender decide which loan best fits your needs.
Having a mortgage pre-approval is an absolute necessity
in today's competitive real estate market.
© Copyright 2007 Bill Boeckelman Publications