"I have been
advised by one friend to get my loan from a mortgage broker because
brokers shop a lot of lender for the best deals, but another friend says
it is too risky, that a lot of borrowers are overcharged by mortgage
brokers. Who's right?"
They are both right. The
trick is to take advantage of the superior service offered by mortgage
brokers in scouring the market on your behalf, while protecting yourself
against being overcharged. This column will tell you how to protect
yourself.
Mortgage
brokers are independent contractors who are free to charge whatever they
wish for their services. When a problem
arises, it is often because the borrower doesn't realize how much he is
paying the mortgage broker until they get to the closing table.
Mortgage brokers make their
money by adding a markup to the price quoted by the lender. For example,
the "wholesale" price on a particular program might be 7% and 0
points, to which the broker adds a markup of 1 point, resulting in a
"retail" price to the customer of 7% and 1 point. (1 point is an
amount equal to 1% of the loan amount). But if the broker adds a 2 point
markup, the customer would pay 7% and 2 points.
In general, mortgage brokers
set the largest markup they can get away with in each deal. An
unsophisticated customer who shows no inclination to shop the competition
will be charged more than a sophisticated customer who makes clear an
intention to shop. The largest markups are earned on unsophisticated
customers who will accept relatively high interest rates. Wholesale
lenders will usually offer brokers a side payment, called a "yield
spread premium" for high-rate loans.
There are two way to protect
yourself against being overcharged. One way is to shop multiple
sources. This is the method proposed in Protecting
Against Mortgage Broker Tricks. The
problem is that shopping is both difficult and time-consuming.
The second approach is to
hire a mortgage broker to shop for you, charging a fee specified in
advance. This obliges the mortgage broker to do what every other
tradesman does -- set the price for the service in advance. The price
should be specified in dollars rather than as a percent of the loan, since
the mortgage broker has to do as much work to deliver a small loan as a
large loan. The following will do the trick:
I [Mortgage Broker]
herewith agree that the total compensation for my services in
obtaining a mortgage for John Doe, including all amounts paid me by
Doe and by the lender who provides the loan to Doe, will be $X. If the
lender pays me more than $X for the loan, the difference will be used
to reduce Doe's other settlement costs.
What is a
reasonable charge for a mortgage broker's services? I would expect to pay
about $1,500, but I am an easy case for a broker because my credit is
perfect, I qualify easily and I know just what I want. As a
case increases in complexity and its demands on the mortgage broker's
time, you should expect to pay more. I have seen cases where a
mortgage broker worked with a customer over a number of months to raise
the customer's credit score, resulting in a significant interest rate
reduction. In a case of this sort, you should expect the fee to be
closer to $4,000 than to $1,500.
October 12, 2001
Postscript: Since writing this, the procedure described above has grown
into the Upfront Mortgage Broker
concept.
Copyright Jack Guttentag
2002
Jack Guttentag is Professor of Finance Emeritus at the Wharton School of the University of Pennsylvania. Visit the Mortgage Professor's web site for more answers to commonly asked questions.
Related Articles From Mortgage Professor's web site:
HUD's Proposals For Reform
October 19, 2002
On July 29, 2002, HUD released a set of
proposals to substantially change the ways in which home loans are originated in
the US. As usual, the proposals were open for comment, and many thousands
of them were received. Mine was among them, and is shown ...
more...
Upfront Mortgage Brokers Listed by State
IMPORTANT
NOTICE: BEFORE CONTACTING BROKERS LISTED BELOW,
READ
"HOW
TO DEAL WITH A UMB"
Upfront
MortgageBrokers as of
December 10, 2005
Arizona
Resident Brokers
Keith
Carothers, AZ Mortgage Dr.
Fee: Negotiated on a case-by-case basis
www.azmortgagedr ...
more...
Questions About Mortgage Brokers and Lenders
June 24, 2002
I get tons of mail from
borrowers who are confused about the differences between lenders and mortgagebrokers, and how these differences matter.
"What is a
mortgagebroker?"
A mortgagebroker is
a loan provider who offers the loan products of different ...
more...
Protecting Against Mortgage Broker Tricks
July 15, 2000, revised October
5, 2002
"I know you
have written about tricks that mortgagebrokers pull, but I'm sure I
don't have them all?Could you list them and explain how I can deal
...
more...