Common Mortgage Questions
Q: How much are closing costs?
A: Closing costs are all of the fee’s associated with obtaining a Mortgage loan (apart from tax and insurance pre-paids and reserves.) These fees typically include the following:
- Appraisal fee ($350-650) – used to value the home based on comparables and/or rents.
- Credit report fee ($20-50) – used to determine the credit score of all borrowers. A credit score is the middle of the three scores from Experian, Equifax, and Transunion.
- Loan Origination fee (.5%-2.5% of loan amount) – Used to compensate the Mortgage Loan Officer completing the loan. Note: Colorado Lenders does not typically charges this fee.
- Discount points (.25%-3% of loan amount) – used to “buy down” the interest rate.
- Processing fee ($300-600) – used to process the loan.
- Underwriting fee ($350-850) – used by the lender/investor to determine the viability of the loan.
- Tax service fee (~$100) – used to determine that taxes were paid on the property.
- Wire transfer fee ($25) – used to transfer money to the previous lean holder.
- Title insurance fee (~$350) – used to guarantee the title of the property.
- Recording fees (~$100) – used to record the mortgage documents.
- Homeowners insurance premium fee – used to pay for one year of insurance fees. (varies based on home insurance amount)
- Other fees may include: Survey fee, Transfer tax fee, Radon test fee, Inspection fee, Lead-based paint inspection fee, Pest inspection, Courier fee, Title search fee, Flood insurance premium fee, Attorney fee, Assumption fee.
Q: What is an “escrow account”?
A: An escrow account is like a mini savings account. In most cases, when you have a mortgage loan, the Taxes and and Insurance are included in the payment. That means if your total payment is $1,200/month, $120 of that payment may be for taxes and the other $80 for hazard insurance. Every month your escrow account grows until a payment is due.
When April comes around and your property taxes are due, a payment of $1,440 ($120×12) from your escrow account will be made to the County. The same will occur for hazard insurance when it is due. When the payment is made, the escrow account again starts saving money until the next payment is due.
Q: What is DTI (Debt to Income)?
A: DTI or Debt to Income is a ratio that determines how much “monthly debt” you have in relation to your “monthly income”. There are two numbers used to calculate DTI. The front-end DTI and the back-end DTI. These numbers are simple to understand but often encompass a variety of factors.
The Front-end DTI is the total property payment (Principal, Interest, Taxes, Insurance, HOA dues, etc.) divide by monthly income. For instance, if you make $2500/month and your total mortgage payment will be $850/month, you take the 850/2800 and get 30%. That is your front-end ratio.
The back-end ratio is simply the total monthly mortgage payment (PITI) + any recurring debts outstanding (car payment, student loan, etc.) divided by monthly income. So, if you make $2,500/month and your future mortgage payment is $850/month and you have a $300/month car payment and a $50/month student loan payment, you take 850+300+50 = 1200. Then divide that by 2800 = 1200/2800 = 43%. Therefore, the front end ratio is 30% and the back-end is 43%. Mortgage Professionals display this number as follows: 30/43. When calculating ratios, always round up to the next percentage point.
Q: What are discount points?
A: Discount points are used to “buy-down” the interest rate. One discount point costs 1% of the loan. If the loan amount is $200,000, a discount point will cost $2000. The amount the interest rate will lower depends on the individual lender.
For example, if a borrower has extra cash at the time it may be advantageous to buy the interest rate down by .25% or .50%. In the long run, the initial $2000 will come back to the borrower after a period of time and the remaining savings on the loan payments will be extra money.
Remember that paying a discount point WILL NOT lower your rate by 1% so ask for the exact numbers to determine if paying a discount point will be worthwhile. Your lender should be able to tell you exactly how long it will take to recover the cost of the discount point. Colorado Lenders usually recommends five years or less.
Q: What are pre-paid tax and insurance reserves?
A: These fees can be confusing. Just understand that the property owner is always going to pay the true cost of property taxes and hazard insurance plus two months of reserves. The way this is payed depends on what time of the year the property is purchased or refinanced. To begin, when a buyer obtains a hazard insurance policy (required when you have a Mortgage Loan), the buyer must pay a “Hazard insurance premium” of 12 months.
This ensures that for the entire first year, the property will be insured. During that first year, each month, a payment is collected for your Hazard insurance cost. When that first year is over, enough will be saved in the escrow account to pay for the next years payment. Property taxes do not require a “premium” payment because they are paid in arrears, meaning for example, 2010′s taxes are paid in 2011.
When you buy or refinance, the previous loan is payed off. Therefore, the balance in the escrow account for the previous loan is returned to whoever had the loan. The balance is typically sent by check about 1 month after closing. The escrow account on the new loan needs to be funded to pay for taxes and insurance in the future, so the necessary funds are either paid directly by the borrower or added to the loan amount (most common).
Q: What is Title Insurance?
A: Title insurance insures the title of a property. Most every lender requires title insurance when purchasing or refinancing a property. The policy usually lasts for the duration of a owners interest in the property. i.e. until the property is sold to another.
On rare occasions, a title is subject to specific defects such as unknown lawsuits, mistakes in the recording of the deed, unknown heirs to the property, or is subject to forgery. When a buyer purchases a title insurance policy and one of these defects is present, the title insurance company will reimburse the buyer as long as the issue is covered under the policy.
One example: A property is sold to a couple of first-time home buyers by a widow whose husband has just recently passed away. Then, after the sale, a long-departed son appears and claims that the will of the deceased husband grants him 30% of the property. In this circumstances, if the title insurance was purchased, the new home buyers would be covered and the policy would pay out the son in full, leaving no obligations to the home buyers.
Though title insurance is necessary for most all residential mortgage loans, it is always a good idea to purchase policy even if no loan is involved.
Q: What is the difference between pre-qualified and pre-approved?
A: Our opinion here at Colorado Lenders is to always get “pre-approved” before entering into a home-buying negotiation. The difference is that a “pre-qualification” simply suggests that the Mortgage Broker has asked you some preliminary questions. The pre-qualification letter that follows is not a strong as a full “pre-approval”. When a borrower is pre-approved, income documents have been verified, credit has been pulled, and the file has already been looked at by an experienced processor or underwriter. This provides many benefits.
For example, if a Seller receives two offers on a house, one for 175k with a pre-qualification letter coming from a borrower that has no more than spoken to a Mortgage broker vs. an offer for 173k from a buyer who is fully approved with down payment money verified, an experienced Real Estate Broker will most likely recommend the second offer. This is even more influential when making an offer on a bank-owned property.
The REO department of the bank will take thousands of dollars less from an offer that has been fully pre-approved over an offer that has not. They know that the time it takes to accept and offer and have it fall through is far more costly than accepting a sure thing. Keep that in mind and GET PRE-APPROVED TODAY!
Q: What are seller concessions?
A: Seller concessions occur when the seller wants to compensate the buyer for something without paying them money directly. They essentially are added to the buyers loan amount but not given to the sell from the proceeds of the sale. Here is an example: A buyer puts an offer in for 180k for a property and the seller accepts the offer. After the inspection, the buyer determines the furnace and water heater are not in acceptable condition.
Instead of changing the purchase price (180k), the seller decides to give the buyer a 2% seller concession. The result is at closing is the buyer effectively pays the same price for the house but receives the 2% ($3,600) in cash which will be used for the new furnace and water heater.
The seller effectively receives that amount ($3,600) less for the house. Seller concessions are a great way to remedy situations where the buyer wants something and the seller does not want to spend the time to make a repair. Another way to use seller concessions is to pay for the buyers closing costs. This is very common and beneficial for the buyer as it makes possible the purchasing of a home with little to no money for the closing costs. Watch this video for a visual explanation of Seller concessions: