Principles of Real Estate - Unit 7

Conventional Loans

1. A conventional loan is one that is not insured or guaranteed by a government agency.

Senior and junior mortgages

1. A property may have several loans attached to it. 2. First mortgage - the first loan taken out on the property and recorded in public records. 3. Second mortgage - the next mortgage taken and so on. 4. Senior mortgage - The first mortgage holder has priority over subsequent mortgages. 5. Junior mortgages - the rest of the mortgages. 6. Subordination agreement - The holder of the senior mortgage can voluntarily take a lower priority than a junior loan holder.

Package Loan

1. A real estate transaction may include both real and personal property. Rather than get a second loan for the personal property, a package loan secured by real estate can be used to finance both real and personal property.

Home Equity Loan

1. A second mortgage utilizing the equity in the home. 2. Can be for a fixed amount or a equity line of credit. 3. Can be used for consolidating debt. Example - A lender agrees to give a home equity loan at 3% over prime. The property is appraised at $160,000 and has a $60,000 first mortgage. $160,000 x .80 = $128,000 - $60,000 = $68,000 line of credit

Construction Loan

1. Also called Interim Financing. 2. Provides funds for building real estate projects. 3. Are short term.

Graduated Payment Mortgage

1. Also called a Flexible Payment Plan. 2. Provides for smaller payments in the early years of the loan and larger payments in the later years. 3. Was designed to help first time home buyers who income was not large enough to qualify for a larger loan, but who had good future earnings potential. 4. Because the payments aren't large enough to cover the interest expense, the loan has negative amortization.

Term Loan

1. Also called a straight loan. 2. The payments only include interest and the full amount of principal is due at the end of the loan period. 3. At the end of the loan, the borrower either sells the property or refinances the loan.

Reverse Annuity Mortgage

1. Are designed for the elderly who little or no debt on their property and wish to revert the property's equity into income. 2. Borrowers do not have to repay the loan until the sell, die or move out.

Bridge Loan

1. Are made for a short period of time to provide financing, bridging the time between two transactions. 2. Used to bridge the time period between house closings for a person that must close on the purchase of a new home before the closing of the old home.

Blanket Loan

1. Covers more than one property. 2. Contains a partial release clause that releases the lien on individual properties as the loan is paid.

Redemption

1. Equitable Redemption - is the owner's right to redeem their property before the foreclosure sale. 2. Statutory Redemption - requires the payment of the debt, interest and any associated costs.

Closing the Loan Transaction

1. Escrow accounts - most loan agreements require the borrower to make monthly payments into an escrow account for real estate taxes and property insurance premiums. Normally 1/12 of the estimated annual expenses each month. Example - real estate taxes are $2400 and insurance $600 = $3000. $3000/12 = $250. 2. Private mortgage insurance (PMI) - insures the top 20% of the loan. When the LTV drops below that, the lender can agree to end the insurance. 3. Points - Is 1% of the loan amount. A. Loan origination fee - lenders charge a variety of fees to originate a loan. Example - lender charges a one point origination fee. If the amount of the loan is $80,000, the fee is $800. 4. To increase yield - if the lender wants to raise the yield on the loan (the profit the lender will actually make), it can charge discount points. In this case the points are actually prepaid interest. Example - A lender charges a borrower an interest rate of 8%. To raise the yield to 8.5%, the lender charges 4 points. If the loan is for $100,000, the lender will charge $4000 (100,000 x .04 = $4000) at closing.

Ginnie Mae (GNMA)

1. HUD government agency 2. Buys/sells FHA, VA loans 3. Special loan assistance programs

Growing Equity Mortgage (GEM)

1. Is a loan allowing the borrower to accelerate amortization by making additional payments toward the principal. 2. This shortens the loan and reduces the amount of interest paid.

Bi-Weekly Mortgages

1. Is amortized the same way as other loans with monthly payments, but the borrower makes a payment every two weeks equal to one-half the normal monthly payment. 2. Because there are 52 weeks in a year, the borrower will make 26 bi-weekly payments. 3. Basically is an extra month payment each year.

Budget Loan

1. Is an amortized loan that not only collects principal and interest every month, but also 1/12 of the estimated annual cost of the property's real estate taxes and insurance.

Equity

1. Is the difference between the value of the property and the value of loans against the property. 2. Changes in an owner's equity depends on changes in the loan amount and property value. 3. Equity = Property value - Property debt.

Judicial Foreclosure

1. Judicial foreclosure (foreclosure by sale) - the matter is brought to a courtroom in a lawsuit. A. By Judicial Sale - lender uses the acceleration clause in a mortgage and files suit of foreclosure. Proper notice is given, if the borrower does not pay the loan, the court will order the property sold. B. By Strict Foreclosure - judicial foreclosure - there is no sale of the property by the court. Instead the court issues a decree that gives the title to the lender and ends the debt. The mortgagor loses all rights and equity in the property and usually has no redemption rights.

Qualifying the Property

1. Lender will have an appraisal done to determine the property's value. 2. The lender also applies a qualifying ratio to the property. Loan-to-value ratio (LTV) is that the loan may not exceed a certain percentage of the property's market value. Example - A buyer wants to purchase a house for $160,000 and the lender agrees to make an 80% LTV loan. The appraiser verifies the property's value to be $160,000. The maximum loan amount the lender will give is $128,000 (160,000 x 20%). 3. Qualifying the title - lender performs a title search.

Qualifying the Buyer

1. Loan application - borrower provides information on employment, credit history, assets, liabilities (current loan amounts owed) and other personal information. 2. The lender orders a credit report to determine financial information. 3. PITI - Principle, Interest, Taxes and Insurance. Refers to the components of a mortgage payment. Principal is the money used to pay down the balance of the loan; interest is the charge paid to the lender for the privilege of borrowing the money; taxes refer to the property taxes paid as a homeowner; and insurance refers to both property insurance and private mortgage insurance. 4. Payment to Income Ratio (front end ratio) - determines what percentage of the borrower's income will be used to make the monthly house payment. 5. Debt to Income Ratio (back end ratio) - determines what percentage of the borrower's income is used to pay long term loans.

Secondary Mortgage Market

1. Mortgages and notes can be assigned to somebody else and the lender can sell the loan to an investor. 2. It circulates the mortgage money supply and standardizes loan requirements. 3. Fannie Mae (FNMA) is the largest participant in the secondary market, formerly known as the Federal National Mortgage Association. Provides secondary mortgages for VA, FHA and conventional loans. It purchases "pools" or "packages" of large blocks of loans from lenders and the issues mortgage backed securities to investors.

Lending Concepts

1. Mortgagor - Is the borrower or obligor, who fives the lender a pledge to pay the loan. 2. Mortgagee - Is the lender or obligee, who receives the pledge to pay the loan. 3. Hypothecation - The borrower may pledge property as collateral to secure a loan without giving up possession.

Buy Downs

1. Occurs when a party, usually someone other than the borrower, pays an interest subsidy to the lender. 2. In exchange for the upfront fee paid to the lender, the loan rate is usually reduced for the borrower for the first couple of years. Example - A developer offers buyers a buy down of 3% the first year, 2% the second year and 1% the third year.

Typical Mortgage Clauses

1. Prepayment clause - describes the borrowers rights and obligations (prepayment penalty) 2. Acceleration clause - allows the lender to demand immediate payment of the loan balance if the borrower breaks the terms of the note. 3. Defeasance clause - provides that when the loan is paid in full, the mortgage is void. 4. Alienation clause - allows the lender to make the entire loan balance due if title to the property is transferred. This is called a Due-On-Sale clause. This prevents the loan from being assumed without the lender's consent. 5. Escalator clause - allows the lender to change the interest rate under certain conditions. 6. Late payment clause - is used to assess a penalty for late loan payments.

Providers of Mortgage Money

1. Primary sources of funds - loans are made directly by the lender. 2. Secondary market - loans in the primary market are bought and sold to investors.

Fannie Mae (FNMA)

1. Privately owned 2. Buy/sell conventional, FHA, VA loans 3. Largest loan purchaser

Freddie Mac (FHLMC)

1. Privately owned 2. Deals primarily with conventional loans 3. Works with thrifts

Mortgager's Duties

1. Promise to pay 2. Real estate taxes 3. Insurance 4. Good repair - keep property in good condition 5. Removal - promises not to remove or demolish any buildings because of loss of value

Loan instruments

1. Promissory note - Is a contract between the borrower and lender. It is a personal obligation of the borrower. 2. Mortgage - Is a contract between the mortgagor and the mortgagee, providing security of the debt by creating a lien on the property. 3. Deed of Trust - Involves 3 parties. The purpose is the same as a mortgage, to secure a loan. A. Trustor - the borrower B. Trustee - 3rd party (bank or title company) C. Beneficiary - the lender 4. When a loan is made, the borrower conveys title to the trustee (bank or title co) for the lenders benefit. The title remains in trust until the loan is paid. The trustee is given naked or bare title rather than actual title meaning that the trustee does not have the rights of ownership. The lender usually holds the deed of trust for safekeeping. 5. Ending a deed of trust - when the loan is repaid, the trustee issues a release deed or reconveyance deed.

VA Loans

1. Qualifications - only a veteran or the non remarried spouse of a veteran who died from a service related disability or in the line of duty. 2. Eligibility - borrower must meet minimum service times, which vary depending on calendar dates of service. 3. Lending source - loans are made by a VA approved lender. 4. Eligible property - for purchase or construction of 1-4 unit residences. Buyers must occupy the property. 5. Discount points - can be charged by the lender and paid by either the seller or buyer. 6. Loan limits - there is no limit on the amount of the loan, but limits the VA will guarantee. 7. Loan guarantee - are based on the size of the loan. 8. Amount of down payment - lenders determine the maximum loan amount the will make with no money down, but it is usually set at 4 times the veteran's loan guarantee. 9. Entitlement - the veteran must apply for a certificate of eligibility, which includes the maximum loan amount the VA will guarantee. It is set by the VA based on income and VA eligibility limits. 10. Reusing the entitlements - to obtain a full new guarantee of entitlement, the veteran must pay off the previous loan or obtain a release of liability and substitution of eligibility by a veteran purchaser. 11. Appraisal - by a VA appraiser 12. VA funding fee - a funding fee is paid by the borrower in cash at closing or is included in the loan amount. Disabled veterans are not required to pay a funding fee. 13. Loan origination fee - may not exceed 1% of the loan 14. Prepayment penalty - none is allowed 15. Assumption - there is no due-on-sale clause. All VA loans are assumable, even to non-veterans. 16. Interest rate - the loan rate is not set by the VA. It is allowed to fluctuate with the market.

Fair Credit Reporting Act of 1977

1. Regulates the action of credit bureaus and the use of consumer credit information. 2. Access to lender's files - if consumers are denied credit, lenders must make information in customer's credit files available to them. 3. Correcting credit files - If files have errors, consumers have the right to have them corrected. 4. Credit information suppliers - if denied a loan by a creditor, the consumer must be given the name and address of the credit bureau that supplied the information. 5. Credit bureau information - if requested by the consumer, the credit bureau must supply the consumer with information included in the credit file. 6. Restricting access to credit files - access to information in the credit files is limited to inquiries 1) for credit, insurance and employment 2) by court order 3) with the consumers permission.

Amortized Loan

1. Requires periodic payment of interest and principle. 2. With each payment, the loan balance decreases so that more of the payment is applied to principal and less to the interest. 3. Fully amortized loan - the payments are sufficient in size and number so that the loan balance is reduced to zero with the last payment. 4. Negative amortization - occurs when the payments are not large enough to cover the interest expense. A balloon payment is required at the end of the loan term. 5. 15 Year Loan - is a fully amortized loan with a 15 yr term. Saves the borrower significant amount of interest with only a moderate increase in the monthly payment.

Primary Sources of Loans

1. Savings bank - also called thrifts and saving associations. 2. Commercial banks 3. Credit Unions - are cooperative organizations that maintain savings account for the members. They provide some financing for residential and nonresidential loans. 4. Life Insurance companies - invest in loans to large scale commercial and industrial properties. FHA and VA loans purchased in the secondary market. 5. Mortgage Banking companies - originate loans with either their own funds or money borrowed from other institutions. They package the loans and sell them to investors. 6. Mortgage brokers - do not make loans, rather acts as intermediaries between borrowers and lenders. 7. Pension funds - invest in real estate loans primarily through mortgage bankers and brokers. 8. Real Estate Investment Trusts (REITs) - owned by investors that make loans to large commercial real estate projects. 9. Individuals - Sellers of houses sometimes provide loans to buyers. Other individuals or groups of investors lend money for real estate. 10. Government programs - State and local governments have enacted various programs to provide home financing, often at preferred interest rates. Mortgage bond financing , municipalities raise funds by selling tax exempt bonds and use the money to provide low rate mortgages.

Assumptions

1. Subject to mortgage - A buyer purchases property subject to an existing loan, the buyer acknowledges the existence of the debt, but takes no personal liability for the loan. 2. Assumption of mortgage - A buyer purchases a property and assumes the loan and becomes liable for the debt. If the buyer defaults on the loan, the lender will look to the buyer first, but the seller is still on the original note, so the lender could go after the seller as well.

Adjustable Rate Mortgage

1. The interest rate changes at fixed intervals based on pre-selected economic index. The initial rate is normally lower than that of a fixed rate loan. 2. Index - interest rate changes are tied to an index. 3. Margin - the margin is a rate added to the index rate and does not change over the life of the loan. Represents the lender's operating costs and profit. 4. Adjustment Interval - how often the rate can change. A common adjustment period is 1 year. 5. Rate Caps - caps placed on rate changes. Three common types are 1) increase at each rate change 2) increase in any year 3) total increase over the life of the loan 6. Payment Caps - limits the amount the monthly payments can increase in 1 year. If rates rise sharply, but payments do not because of the cap, unpaid interest can be added to the loan balance called negative amortization. 7. Teaser Rates - ARMS may be offered with very low rates, but is usually only for 1 year, with sharp annual rate jumps starting the second year. 8. Convertible Feature - allows the borrower to convert to a fixed rate loan during specified periods in the life of the loan.

The Truth-In-Lending Act

1. To force lenders to inform borrowers of the true cost of obtaining a loan. A. Finance charge B. Annual percentage rate C. Amount financed D. Total payments 2. Law applies to a business or person that regularly extends credit. More than 5 real estate loans or 25 consumer loans in a calendar year. 3. Applies to real estate loans secured by the borrower's residence, non real estate consumer loans up to $25,000 and new loans, refinancing or consolidation loans. 4. Required Disclosures A. Finance charges - the total finance charges (the total dollar amount the loan will cost over its entire life) and the interest rate before loan is completed. B. Interest charges, discount points or buy down fees, loan finder fees, servicing and required life insurance. C. Not included are title and legal fees. 5. Annual Percentage Rate (APR) - includes the interest rate and other loan costs and represents the true yearly cost of credit. 6. Disclosure Timing - must be made in writing and given to the borrower at the time of the loan application or within 3 business days. 7. Right of Rescission - "cooling off" period in which the borrower has the right to rescind the loan contract up to midnight of the 3rd business day following the signing of the loan documents. Applies to most consumer loans , but not to loans to purchase or construct a home. 8. Restrictions on Credit Advertising - does not require creditors to advertise credit terms, but if they decide to disclose some credit terms, called trigger terms, they must include additional disclosures. A. Trigger terms include amount of down payment, # of payments, amount of any payment, period of payments and the amount of any finance charges. 9. Violations of Law - result in civil penalties and fines paid to the borrower including twice the amount of the finance charge up to $1000, attorney fees and current costs.

Laws Affecting Lending

1. Usury Laws - limits the interest rate lenders that can charge borrowers. Usually do not apply to most mortgage loan situations. 2. The Truth in Lending Act - to force lenders to inform borrowers of the true cost of obtaining a loan. A. Finance charge B. Annual percentage rate C. Amount financed D. Total payments

Federal Equal Credit Opportunity Act

1. Was passed to protect borrowers from discrimination against credit applications based on race, color, sex, marital status, age, religion, national origin, income from public assistance, child support or applicant's right under the consumer credit protection act.

Payment to Income Ratio

A loan applicant has gross monthly income of $2,000 and the PITI is $700. ($700/2,000 = 35%) Applicant wouldn't qualify because the PITI exceeds 30% of monthly income. In this situation, the loan applicant would qualify for a PITI up to $600 ($2000 x .33 - $200 = $600)

Non-Judicial Foreclosure

A. Power of Sale Clause - is included in the mortgage, giving the lender the right to sell the property if the mortgagor defaults without going through a foreclosure suit. If there is a trust deed, the trustee is usually given the power of sale. B. Notice of Default - is sent to the borrower and filed with the county recorder. Notice of the public sale is given I the newspaper. Will be sold to the highest bidder at public auction. C. Deed in Lieu of Foreclosure - may be used rather than going through the process of foreclosure. Sometimes called "friendly foreclosure", the mortgagee accepts the deed in satisfaction of the debt.

Non-Conventional Loans

FHA Loans - 1. Loan insurance 2. Lending source - are made by a FHA approved lender 3. Discount points - can be charged by the lender and paid by either the seller or the buyer 4. Amount of down payment - low down payment, generally 3-5 percent down 5. Insurance premiums - A one time mortgage insurance fee to cover the FHA insurance is paid at closing. A. Also called Upfront Mortgage Insurance Premium and can be financed with the loan amount. B. In addition, mortgage insurance premium is paid on the outstanding loan balance as part of the borrower's monthly payment. 6. Loan limit - the maximum loan amounts insured by the FHA vary by the area of the country. 7. Interest rate - not set by FHA or HUD and is allowed to fluctuate with the market. 8. Appraisal - must be appraised by a FHA approved appraiser 9. Closing cost - borrowers can finance 100% of the closing costs. 10. Assumption - All FHA loans are assumable 11. Prepayment penalty - no prepayment penalty for loans made before December 1986. Proper notice (30 days) before the prepayment must be given to lender.

Deficiency Judgements

If the net sale proceeds (the selling amount less costs of the sale) are insufficient to pay the debts, the note holder may seek a deficiency judgement which is personal judgement against the debtor. This means the lender may be able to attach the borrower's personal assets.

Pre-qualifying

Less formal process in which the buyer provides the lender with financial information, but no credit check.

Debt to Income Ratio

Loan applicant has a gross monthly income of $2,000 and the PITI is $700. The applicant has a car loan with $200/mo payment. ($700 + $200/$2,000 = 45%). In this situation, the loan applicant would qualify for a PITI up to $460 ($2,000 x .33 - $200 = $460)

Government National Mortgage Association (GNMA)

Provides secondary market for FHA and VA loans

Farmer Mac

Secondary market for first mortgage agriculture real estate loans.

Preapproval

The lender collects the buyer's financial information, performs a credit check and determines the maximum loan amount for the which the lender approves the buyer.

Foreclosure and Redemption

The liquidation of the asset to satisfy the debt.

Lis Pendens

When a foreclosure lawsuit is filed in court, a lis pendens notice is also filed with the county recorder's office where the property is located. It gives public notice that a legal action is pending against the property.

Federal Home Loan Mortgage Corporation (FHMLC)

Works with savings banks to provide a secondary market for their loans.