Chapter 3 Unit 6
Points
From the point of view of a lender or investor, the amount loaned in a mortgage loan is the lender's capital investment, and the interest paid by the borrower is the return earned by the invested capital. It is often the case that a lender needs to earn a greater return than the interest rate alone provides. For example, a lender may require additional yield on a low-interest VA loan which has an interest rate maximum. In such a case, the lender charges up-front discount points to make up the difference between the interest rate on the loan and the required return. This effectively raises the yield of the loan to the lender.
Payment
The loan term, loan amount, and interest rate combine to determine the periodic payment amount. When these three quantities are known, it is possible to identify the periodic payment from a mortgage table or with a financial calculator. Mortgage payments are usually made on a monthly basis. On an amortizing loan, a portion of the payment goes to repay the loan balance in advance, and a portion goes to payment of interest in arrears. For example, Mary and Jerry King borrow $80,000 to finance the purchase of a home. The loan has a term of thirty years at an interest rate of 6.5% and is amortizing. The monthly payment for this loan will be $503.62. For the first payment at the end of the month, the Kings owe interest on $80,000 for the monthly period. At 6.5%, this amounts to $433.33. Since their payment is $503.62 and the interest charge is $433.33, the difference is applied to an advance payment of principal, which is $70.29. The following month, the Kings will pay interest on the new, smaller loan balance of $79,929.71 ($80,000.00 - 70.29). If a borrower pays more than the scheduled payment amount, the excess is credited to repayment of the principal, which is reduced by the amount of the excess payment. The required minimum payment amount remains constant for the life of the loan, but the loan term can be reduced by this means, thereby also reducing the total amount of interest paid over the life of the loan.
Identification of participants
The names of the mortgagor (borrower) and the mortgagee (lender) are listed on the mortgage document. Property taxes Insurance Preservation and maintenance of property Defeasance clause Acceleration clause Signatures and acknowledgement Prepayment Penalty - Lenders typically do not want loans that are bringing in high interest to be paid off early. Consequently, a lender will try to control prepayments by including a prepayment penalty clause that allows the lender to assess a penalty to the borrower for paying early (for example, if a loan is paid off in 10 years rather than the 30 years contracted for). If this clause is present, it will state the penalty for paying off the loan early. Typically, the penalty is a certain percentage of the original loan amount or a percentage of the current outstanding balance. Many newer mortgages and deeds of trust do not have this clause. This clause is not allowed on an FHA or VA loan. Due-On-Sale Clause - This is a form of acceleration clause that requires the borrower to pay off the entire mortgage debt when the property is sold. The due-on-sale clause is also known as an alienation clause, a non-assumption clause, a call clause, or a right-to-sell clause. This clause has the effect of eliminating the possibility that a new buyer can assume the existing loan unless the lender permits it. In most cases, the lender would agree to the loan assumption only after increasing the interest rate, charging the new buyer an assumption fee, requiring additional down payment money, or even requiring all three conditions. The reason is simple: the lender wishes to know who owns the property, that the purchaser is qualified, and that the property is held intact and unencumbered for the duration of the loan. This type of clause is not allowed in an FHA or VA loan. Escalation Clause: This clause is found in an adjustable rate mortgage and in some leases. In a mortgage, it allows the interest rate to adjust over the life of the loan. In a lease, it allows the lease payment to adjust over the life of the lease.
Defeasance clause
This clause states that if the borrower repays the debt when due, the words of grant are void, the mortgage is canceled, and the title is given back to the borrower. The clause provides for a satisfaction piece to be issued when the mortgage (deed of trust) has been paid in full. Examples of Satisfaction Pieces are: Satisfaction of Mortgage - A certificate issued by the mortgagee when a mortgage is paid in full. Upon payment in full of the debt secured by a mortgage, it is said that the mortgage is "satisfied." Deed of Reconveyance (deed of release) - A document used to transfer legal title from the trustee back to the borrower (trustor) after a debt secured by a deed of trust has been paid to the lender (beneficiary.) The Satisfaction Piece puts on public record that the loan was paid and that the lender no longer has a lien on the property. Recording the satisfaction piece releases the Mortgage or Deed of Trust lien. When a mortgage or deed of trust is paid off, a defeasance clause allows the lender to release the mortgage or deed of trust rights and issue a Satisfaction Piece.
Due-On-Sale Clause (alienation clause, a non-assumption clause, a call clause, or a right-to-sell clause)
This is a form of acceleration clause that requires the borrower to pay off the entire mortgage debt when the property is sold. The due-on-sale clause is also known as an alienation clause, a non-assumption clause, a call clause, or a right-to-sell clause. This clause has the effect of eliminating the possibility that a new buyer can assume the existing loan unless the lender permits it. In most cases, the lender would agree to the loan assumption only after increasing the interest rate, charging the new buyer an assumption fee, requiring additional down payment money, or even requiring all three conditions. The reason is simple: the lender wishes to know who owns the property, that the purchaser is qualified, and that the property is held intact and unencumbered for the duration of the loan. This type of clause is not allowed in an FHA or VA loan.
Signatures and acknowledgement
This is the part of the document where the borrowers sign, showing they accept all of the conditions of the contract. The signatures must be dated and notarized, so that the document can be accepted for recording.
Property description
This should be a proper legal description of the property. In addition to the real property, many forms include a statement that pledges the property, anything permanently attached to it and all of the mortgagor's rights in the property as collateral for the loan.
The interest rate is
a percentage applied to the principal to determine the amount of interest due. The rate may be fixed for the term of the loan, or it may be variable, according to the terms of the note.
*Novation is
a second contract to assume liability for the debt for the purchaser and relieve the liability to the seller
Because the interest rate on a mortgage loan does not reflect the full cost of the loan to the borrower
federal law requires a lender on a residential property to compute and disclose an Annual Percentage Rate (APR) that includes other finance charges in addition to the basic interest rate in the calculation.
A Subordination clause
is a clause in a Mortgage or Deed of Trust wherein a subsequent mortgage or deed of trust takes priority. Example, the first deed or mortgage holder becomes the second deed or mortgage holder in the order they were recorded in priority - the second becomes the first. This clause is further defined as a "change in priority positions between holders of liens on a Mortgage or Deed of Trust in case of foreclosure."
Judicial foreclosure
is required to foreclose a Mortgage. One must go through the courts to foreclose.
Non-Judicial foreclosure
is required to foreclose on a Deed of Trust. The lender does not have to go through the courts to foreclose; and it is therefore, a quicker process.
Subject to an existing Mortgage or Deed of Trust clause
is the clause in the deed that states the buyers are purchasing the property "subject to the existing loan," the buyers acknowledge the existing loan, and promise to pay the obligation. If the buyer does not pay, the original borrower will be held responsible. If the original borrower (grantor) does not pay, the buyer (grantee) will lose the property, and thus his or her equity, in a foreclosure sale.
A discount point is
one percent of the loan amount. Thus, one point on a $100,000 loan equals $1,000. The lender charges this as pre-paid interest at closing by funding only the face amount of the loan minus the discount points. The borrower, however, must repay the full loan amount, along with interest calculated on the full amount.
The acceleration clause
outlines what will happen if the borrower fails to pay the mortgage, maintain the property, or perform any other agreement, stipulation or condition contained in the mortgage. If a borrower defaults on the loan (does not make payments, etc.) the lender can call the entire balance due and payable immediately. Any failure on the part of the borrower can result in the lender's accelerating the mortgage and taking whatever steps are needed to recover the investment. Without this clause in the mortgage or deed of trust, the lender would not have the power or right to foreclosure without suing each month for the monthly payment.
The note is the lender
personal property and is a readily negotiable item, which means the payee may assign it to a third party. The assignee would then have the right to receive the borrower's periodic payments. The note can be sold to another financing company either on the primary or secondary market. The note can be a separate document in the financing process or included in the mortgage or deed of trust. The note makes the borrower personally liable for the loan.
The financial components of a mortgage loan include:
principal - The amount borrowed from the lender interest and interest rate - The amount paid to the lender for allowing the money to be borrowed points term payments Taxes - The amount due to the government for the privilege of private ownership of real property. Insurance - The amount paid to the insurance company in case of damage to the property. There could also be mortgage insurance due.
The Statutory Right of Redemption gives
the borrower a certain amount of time after the sale to clear the debt.
The Equitable Right of Redemption gives
the borrower the right to clear up the debt prior to the foreclosure sale.
Other items in the mortgage document or deed of trust may be repeated in the promissory note, especially:
the right to prepay the loan balance charges for late payment conditions for default notifications and cures for default other charges
The trustee, in a Deed of Trust, holds
"Naked Legal Title" (one without possessory rights), and can claim the property without going through the courts.
The value of one discount point to a lender is usually estimated to be equivalent to raising the interest rate on the loan by
1/8%. Thus, a lender has to charge eight points to raise the yield by 1%. If a lender needs to earn 7% on a loan offered at 6.5%, the number of points necessary would be figured as follows: 7.0% - 6.5% = .5% .5% x 8 (points per 1%) = 4 points On a loan of $100,000, the 4 points would cost the borrower: 100,000 x .04 = $4,000. The borrower would effectively receive from the lender $96,000, and owe principal and interest based on $100,000. For tax reasons, it is usually advisable for the borrower to receive the full loan amount from the lender and pay the points in a check which is separate from that used for other closing costs. As pre-paid interest, points paid in this way may be deductible on the borrower's income tax return for the year of the purchase. The borrower should seek the advice of a tax consultant concerning this matter.
Define a mortgage and list the two parts of a mortgage.
A mortgage is a financing instrument that creates a lien against a property. The two parts of a mortgage are the pledge or promise to pay and the collateral.
The trustee in a deed of trust holds "Naked Legal Title." What is that and what benefit does it afford the trustee?
A naked legal title is one without possessory rights. It allows the trustee to claim the property without going through the courts.
What is a rider on a mortgage?
Additional documents added to original mortgages that provide full disclosure of any special requirements, restrictions, or liabilities on or by the borrower.
Loan products and situations that might require special riders include:
Adjustable-Rate Mortgages Condominium purchases Affordable-Housing products with special requirements Tax liability for bond issue funding Rehabilitation loans Purchase of one-to-four-unit properties with rent provisions Restrictions on resale
Tax and Insurance Escrows (also may be called an Impound or Reserve Account)
As a result of a lender requiring tax and/or insurance escrows, a "Budget Mortgage or Deed of Trust" occurs. By placing money in the account, the lender is assured that the bills will be paid. The lender (mortgagee or beneficiary) also benefits from holding the money.
usury.
Charging a rate that exceeds the limit is called
What is the order of payment in a foreclosure?
Cost of the sale Special assessment taxes and ad valorem taxes The first mortgage Whatever is recorded next
There are a number of provisions that should be included in a mortgage document. Provisions were created to protect the interests of one or both parties named in a contract or legal document
Identification of participants Property description Attachment of note Property taxes Insurance Tax and Insurance Escrows (also may be called an Impound or Reserve Account) Preservation and maintenance of property Defeasance clause Acceleration clause Signatures and acknowledgement Prepayment Penalty Due-On-Sale Clause (alienation clause, a non-assumption clause, a call clause, or a right-to-sell clause) Escalation Clause Borrower's Right to Reinstate after Acceleration Hazardous Substances
A DEBENTURE
If a person only signs a note, without using property as collateral and is defined as a long-term note that is not secured by a specific property.
Borrower's Right to Reinstate after Acceleration
If the buyer is in default (has not made his payments), the buyer is entitled to the opportunity to reinstate his loan after the bank has issued notice to him of his default. Generally, five days before the sale of the property on the courthouse steps, the buyer has the opportunity to make up all past due payments, along with any penalty fees to bring the loan current. The loan will then proceed normally.
In order to protect consumers from potentially unscrupulous lenders,
In order to protect consumers from potentially unscrupulous lenders,
Judicial foreclosure
In the event of default by the purchaser, the lender has the right to bring legal action through the courts to satisfy the debt. it must be ordered by the court. Proceeds from the foreclosure sale are used to repay the remaining debt on the mortgage loan.
What is a mortgage contingency clause?
It is a clause in the property purchase agreement that makes the sale contingent on whether or not the buyers can obtain financing to complete the purchase.
Prepayment Penalty
Lenders typically do not want loans that are bringing in high interest to be paid off early. Consequently, a lender will try to control prepayments by including a prepayment penalty clause that allows the lender to assess a penalty to the borrower for paying early (for example, if a loan is paid off in 10 years rather than the 30 years contracted for). If this clause is present, it will state the penalty for paying off the loan early. Typically, the penalty is a certain percentage of the original loan amount or a percentage of the current outstanding balance. Many newer mortgages and deeds of trust do not have this clause. This clause is not allowed on an FHA or VA loan.
Attachment of note
Most mortgages do not describe in detail all the terms of the note. The mortgage document simply refers to the note, stating in some way that the borrower will pay the full sum due according to the terms of the note.
collateralized loans
Most real estate loans are The lender wants the security to know that, if the borrower does not pay the promise made in the note, they can foreclose on the property.
What are the duties of the borrower in a mortgage?
Pay the debt according to the terms of the notePay real estate taxes on the propertyMaintain adequate insuranceMaintain the property in good repairObtain lender authorization prior to making major alterations to the property
Whether it is a deed of trust or a mortgage, these financing instruments are legal contracts. As such, certain elements must be in place. Important mortgage provisions must be included. These are the duties of the borrower in a mortgage or deed of trust:
Payment of the debt in accordance with the terms of the note; Payment of all real estate taxes on the property given as security; Maintenance of adequate insurance; Maintenance of the property in good repair at all times; Lender authorization prior to making any major alterations to the property.
Briefly explain points on a mortgage loan and why they might be added.
Points are based on a percent of the loan amount and are typically added at the time of loan closing to give the lender a greater return than just the interest rate paid.
List the seven components to a mortgage loan.
Principal Interest and interest rate Points Term Payments Taxes Insurance
An assumption can be accomplished in one of two ways
Subject to an existing Mortgage or Deed of Trust clause Assumption clause
What does the acceleration clause outline?
The acceleration clause outlines what will happen if the borrower fails to pay the mortgage, maintain the property, or perform any other agreement, stipulation, or condition contained in the mortgage.
Principal
The capital amount borrowed, on which interest payments are calculated, is the original loan principal. In an amortizing loan, part of the principal is repaid periodically along with interest, so that the principal balance decreases over the life of the loan. At any point during the life of a mortgage loan, the remaining unpaid principal is called the loan balance, or remaining balance.
Insurance
The lender will require the mortgagor to provide hazard insurance in an amount that will adequately protect the lender's interest in the property. In addition to adequate coverage, the lender must be named as a coinsured party. As with the property taxes, a percentage of the annual insurance premium will be paid with the monthly mortgage payment and be put into the escrow account for payment when due. Note: The lender has the right to approve the insurance company the borrower chooses.
What does a promissory note set forth?
The loan amount, term, method and timing of repayment, interest rate, and promise to pay
Term
The loan term is the period of time over which the loan must be repaid. A "30-year loan" is a loan whose balance must be fully paid off at the end of thirty years. A "five-year balloon loan" is a loan whose balance must be paid off at the end of five years, although its payments may be calculated on a term of another length, such as fifteen or thirty years. Such a loan is also sometimes described as a 30-year loan with a five-year "call."
What is a promissory note and what is it called if there is no collateral?
The note is the promise to pay or the IOU; it is the evidence that there is a loan between the lender and the borrower. Without collateral, it is called a debenture.
MORTGAGE or a DEED OF TRUST
There are two types of security instruments These instruments are both used for the same purpose; they create the collateral for a loan by promising the property in case of default by the borrower. The major differences in the two instruments are the number of parties involved, and the method of foreclosure on default. The buyer of the property retains the right to use the property exclusively while it is subject to either a Mortgage or a Deed of Trust.
Briefly explain a subordination clause.
This clause determines which mortgage takes priority.
Hazardous Substances
This clause forbids the presence, use, disposal, storage and release of any hazardous substances that is a violation of environmental law, or creates an environmental condition which would adversely affect the value of the property. Hazardous substances are defined as toxic or hazardous to humans, such as gasoline, kerosene, other flammable or toxic petroleum products, toxic pesticides and herbicides, volatile solvents, materials containing asbestos or formaldehyde and radioactive materials.
Escalation Clause:
This clause is found in an adjustable rate mortgage and in some leases. In a mortgage, it allows the interest rate to adjust over the life of the loan. In a lease, it allows the lease payment to adjust over the life of the lease.
Property taxes
This states that the mortgagor must pay all property taxes, assessments, claims, charges and liens on the property and that any failure to do so could put the mortgage into default. Some mortgagees require the borrower to pay a certain percentage of the annual taxes with the monthly mortgage payment. The tax money accumulates in an escrow account and is paid out when due.
Promissory Note
To be properly executed, all parties who have an interest in the property should sign the note. The note sets forth: the loan amount the term of the loan the method and timing of repayment the interest rate to be paid the borrower's promise to pay
What is the purpose of provisions in a mortgage contract?
To protect the interests of one or both parties in a contract.
promissory note (usually referred to as a "note" or a "bond")
Whenever a potential homebuyer borrows money for the purpose of buying a home, he or she will be required to sign a document that describes the amount of money borrowed, the terms under which it will be repaid, and any conditions that relate to either the borrowing of the money or the consequences in event And establishes legal evidence of the debt incurred.
Interest is
a charge for the use of the lender's money. Interest may be paid in advance at the beginning of the payment period, or in arrears at the end of the payment period, according to the terms of the note. Mortgage interest is most commonly paid in arrears.
A mortgage is
a financing instrument that creates a lien against a property. A mortgage pledges the real property described in the mortgage document as collateral for the debt described in the note. The lender who gives the money is the mortgagee, and the borrower who gives the mortgage is the mortgagor. The borrower retains the rights of ownership (title) to the property while the property becomes encumbered by the lien.
A mortgage loan consist of two parts:
a pledge (or promise to pay) and the collateral.
riders
provide full disclosure of any special requirements from, restrictions on, or liabilities incurred by the borrower. Unconventional financing arrangements often require additional documents to be added to the original financing instruments.
Preservation and maintenance of property
This clause requires the borrower to maintain the physical condition of the property and to not allow any abuse or destructive use that would reduce the value of the property.
A loan with a fixed interest rate is called a
fixed-rate loan
Assumption clause
is when the purchaser is accepting the debt and is, therefore, personally liable for the entire debt. The bank could require the original seller to remain secondarily liable if the new borrower does not pay. The seller would no longer be liable if the lender will consider a novation*.
A mortgage always needs a note to be
legally valid.
States that have usury laws in place penalize lenders who charge excessive rates. There is currently
no usury limit in Indiana. In other words, there is no legal limit on the amount of interest a lender can charge a borrower when the loan is secured by property.
The note may also state
that it is payable to the bearer
Foreclosure
the legal process whereby the property pledged as security in the mortgage documents or the deed of trust is sold to satisfy the debt (promissory note). ORDER OF PAYMENT IN FORECLOSURE Cost of Sale - advertising, attorney fees, trustee fees, etc. Special assessment taxes, and general taxes which are called "ad valorem", according to value taxes, are paid after the costs of the sale. The first mortgage, which is determined by the order of recording. Whatever is recorded next would then be paid because of a foreclosure.
promissory note sometimes called mortgage note (Pledge) is
the promise to repay the debt. It is an I.O.U. It is the primary evidence that there is a loan between the lender and the borrower.
An assumption is
when the buyer takes over the original payment, the original loan, and the original interest rate of the seller's existing loan.
Briefly explain a defeasance clause.
This clause states that if the borrower repays the debt when due, the words of grant are void, the mortgage is canceled, and the title is given to the borrower. It provides for a satisfaction piece to be issued when the mortgage has been paid in full
mortgage contingency clause
This contingency will allow the buyers to terminate the purchase contract and get a refund of their deposit if they cannot obtain adequate financing. Buyers typically have up to 60 days from the date the contract is signed to obtain a loan commitment. The buyers must act in good faith - that is, they must apply for the loan as soon as possible - and they must cooperate with the lender as the process progresses.
a loan with a variable interest rate is commonly called an
adjustable rate loan.
