Lenders' Organisational Structure

 Lenders' Organisational Structure

"You're doing a fantastic job! There is no documentation required. You've already been greenlit. Even though these loan offers sound good, you should be wary because of how simple they are. If you shop around, you can find lenders that are prepared to give better rates in exchange for documents. People that charge more for their services often don't need as much paperwork. Ultimately, it's in your best interest to show proof of your financial situation and get into the best programme possible.

The loan industry can be compared to a ladder. First and foremost, there are A-paper lending products. A-paper loans are common knowledge. The credit is outstanding. Everything is there: income, assets, etc. Those programmes are thus highly ranked. At the centre of the ladder are the loan programmes that are referred to as Alt-A or the "alternative" to the A-paper credit products. Imagine it as paper with an A-minus. If you don't quite meet the requirements for an A-paper loan, you may be eligible for an Alt-A loan, which has easier requirements. And last but not least, there are subprime lending packages, which are programmes tailored to borrowers with B or C credit. Almost anything may be accepted down there. Both the standards and the underwriting procedure are considerably more user-friendly.

These days, a fourth tier exists beneath Subprime. Hard Money refers to programmes that disregard the borrower's credit altogether. Hard money lenders care solely about the loan amount and the property's worth. A ratio known as the Loan-to-Value (LTV) ratio is what they consider. Since hard money lenders usually count on default, their main concern is making sure the property has enough equity to cover the debt in full (including legal fees, incidentally) in the event of a foreclosure.

As you move up the ladder, the rates naturally improve. Similarly, the rates get harsher as you descend the ladder. You are essentially paying more in interest for the privilege of more lenient rules. They will ask you for everything at the top of the ladder, but the prices are amazing. Proof of income. Financial records. Excellent credit. If you make a sizable deposit into your bank account, they will want to know why. They will require a detailed record of your work experience spanning two years. After the sale closes, they will want to have a healthy emergency fund on hand. What this means is that they will offer you the greatest rate possible, but they will also double-check that you can afford the installments. Affordable, minimal risk. Dangerous, expensive.

Regrettably, many mortgage brokers nowadays softly push their clients towards lower rungs on the ladder rather than higher ones. Their lives are made easier by it. Less stringent are the rules. A green light is more easily obtained. There is less documentation that they are required to submit. Trust me. Subprime loan programmes have little trouble approving borrowers with perfect credit. There isn't any complexity. In such cases, individuals are informed, "don't worry about a thing; you've got great credit and we don't need anything else; the loan's already approved." They have no idea that the extra cost of that luxury comes with a higher interest rate and, likely, a penalty for paying off the loan early.

You should seek for a collaborator who helps you climb the corporate ladder, not one who drags you down. You should find a person who will actively seek out opportunities to enrol you in the most advantageous programme they can find. Someone who will be a major hassle and demand a mountain of paperwork is what you're looking for. In this way, you may see if they are attempting to enrol you in a rigors programme. The best mortgage brokers will have a method to help their clients request and itemise all of their needs from the start, which will make the remainder of the process much easier and faster. If your mortgage broker insists on charging you more, try not to become too irritated. I think it's a good indicator overall.

Believe me. No one wants to be the one to beg for everything. If he forgets to ask for something first, it might be awkward and frustrating. However, it is clear that he has submitted your application to a rigors programme. The underwriters will not approve that specific loan programme unless he receives the requested evidence. Yes, it is that easy. Please be patient and listen to his suggestion. Once everything is finalised and sent, the only thing that will stick in your mind is the price. Extra bank statement—you won't recall it. No matter how detailed the letter is, you will forget it. Remembering the rate is all that matters. Feel comfortable about the loan you got if your rate is lower than your friend's or neighbor's.

In a previous piece titled "The Source of Mortgage Money," we discussed how substantial funds have been amassing over the last quarter of a century. All this money has gone into two different areas. To begin, interest rates have been falling rather consistently since 1982. Second, there are a lot of fresh and exciting lending options available now. As a result of lenders vying for a small pool of borrowers, both of these facts are true. Every one of them is looking for an excuse to have you borrow money from them instead of their rivals.

Twenty years ago, 30-year fixed-rate A-paper loans were the exclusive option for borrowers. End of discussion. There it was. Furthermore, a 20% down payment, ample income, and excellent credit were also requirements. That leaves every single homeowner in the nation perfectly suited for the top rung of the ladder. Every single homeowner has an A-paper loan. Programmes like Alt-A and Subprime did not exist. Nothing existed of them.

Lending became more competitive as investment capital grew, and some lenders began to provide programmes with less stringent requirements. In what is now known as Alt-A lending programmes, they began issuing them. The last fifteen years or so have seen this really take off. As time went by, some lenders began to loosen the rules even more. They introduced what are now known as subprime programmes, which began to gain traction around seven or eight years ago. Plus, the Hard Money area has been experiencing a surge in population in recent years. The most noticeable pattern is the tremendous expansion of available programmes, which is a direct outcome of the intense competition in the market.

For the time being, nevertheless, let us focus on the Subprime group. In this context, that's the lowest rung on the ladder, as Hard Money programmes are only applicable to extremely rare refinancing transactions with extremely low LTV percentages. There is a two-year fixed term for the majority of subprime credit programmes. A few for three, but the majority for two. The following step is to determine the rate by adding an index to a certain margin.

The beginning rate is often two or three percentage points higher after adding the index and margin. With a 6% base rate, the index plus margin might reach 8% or even 9%. Moreover, there is more. To help keep payments down, several of these loan programmes include an Interest Only option; however, this feature often expires after two years. Consequently, the Interest Only option is eliminated and the rate increases by two or three percentage points when the fixed rate ends after the first two years. The payment might potentially double by that time.

Things are going to get far worse. A two-year prepayment penalty is also included with the majority of these programmes. The borrower finds themselves in a very difficult situation. If they wish to avoid a hefty prepayment penalty, they won't be able to do anything until the two years have passed, during which their payment will probably quadruple. As a result, these borrowers should really begin refinancing in the 23rd month, precisely one month prior to their two-year anniversary, in order to complete on the new loan no later than one or two days following the prepayment penalty's expiration. If they don't, they risk losing their home and being hit with a hefty payment shock.

All of that sounds terrible, doesn't it? Very much so. Wait a minute, though. We can't paint Subprime loans in a negative light after pointing out their glaring flaws. People who would never have been able to qualify for a mortgage even a decade ago now have the chance to do so thanks to various loan programmes. Absolutely not. I just closed a deal in the Bay Area for a lady whose credit score was 577 and she got 100% financing! How fantastic! In 1995, a 577 credit score would not have allowed that woman to purchase a home. I don't see how.

The demand for properties, which is boosted by programmes like these, in turn supports your home's worth. Back in late 2003, the US Department of Housing and Urban Development projected that 68.6% of the population lived in a home of their own. People who wouldn't have been able to afford a home before are now able to do so thanks to these new, more accommodating lending programmes. As a result, there will be more demand for housing, which will raise the value of all residences. The subprime loan programmes are not without their drawbacks. Of course. You must use caution. Additionally, they offer practical benefits. They play an important role.

Give me the lowdown. Just go ahead and use one of these subprime lending programmes to buy a house or refinance your current one. Two years from now, when you'll be forced to refinance, you'll have cleaned up your circumstances and be ready to start climbing that ladder. You have two years to fix it. Also, you'll be back where you started if you don't. Iterating through the cycle grants you a new two-year window. Plus, you'll have to do it all over again if you ignore the current state of affairs. Your mortgage broker is the sole beneficiary of this loop. With every refinance, they pocket a profit. Avoid it at all costs. Refinancing will cost you money, regardless of what anyone says. Yes, it is that easy. It is expensive to refinance. Another loan from your mortgage broker will make him happy, but it won't improve your financial situation in the slightest.

Before I go into the recent refinance boom, there is one key difference between this scenario and that. Despite the costs, you should go all out if you can refinance your mortgage at a cheaper rate while rates are falling. Refinance as much as you desire. Not only will your mortgage broker profit, but so will you. However, the era of easy loans has over. There have been very few chances to just refinance into a cheaper rate since it stopped in 2004.

In order to avoid a significant payment shock, you may be required by the loan programme to refinance. This is the scenario I'm describing here. In such a case, you should get yourself ready for the next time around so you can enrol in a better programme, one that may be fixed for a longer duration, one that does not impose a prepayment penalty, one that offers an Interest Only option for a longer duration, or one with a lower margin. You can't get past the Subprime category without first climbing that ladder.

Everything you can do to begin climbing that ladder can be categorised as either income, assets, or credit. In a subsequent piece, we will go into further detail about these three aspects of the underwriting procedure. While you wait, the first step in enhancing your future financial profile is to familiarise yourself with the hierarchical structure of lenders that we covered before.

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