Based on rumblings at the Federal Reserve, the likelihood of a mortgage price spike in the near future is high.
A rate spike will make a mortgage costlier for all borrowers who are not locked and will make a mortgage unaffordable for some. This article is about locking a price before the spike hits.
Distinguishing the Types of Mortgage Prices
In the mortgage market, there are posted prices, fake prices and lock prices.
- A posted price is the price that the lender would lock for a borrower whose application has been approved, or "cleared to lock." Posted prices are delivered every morning to loan officers, telemarketers, and other employees or agents authorized to offer the lender's products to the public.
- A fake price is one quoted by a loan officer in order to seduce a price shopper, a practice called "low-balling." A fake price below the corresponding posted price is never locked. However, under some circumstances, a fake price above the posted price might be locked, a possibility discussed below.
- A lock price is the price a lender commits to for a specified applicant. It holds for a specified period, which generally ranges from 30 to 60 days. If the loan does not close within the lock period, the lender's price commitment expires.
A lock protects the borrower against a rise in rates and points within the lock period. It does not, however, protect the borrower against those things during the prior period, when the application is being processed by the lender.
If it takes two weeks to approve a borrower's application, the borrower won't be able to lock for two weeks. Hence, an important question to put to any lender you shop is, "What are your requirements to lock?"
Because locking imposes a cost on lenders, they don't want to do it unless they are reasonably certain that the loan will go through. Their inclination is to take the time needed to be sure.
The borrower's interest, in contrast, is to lock as soon as possible. The longer a lock is delayed, the greater the risk of an unaffordable rise in market interest rates and, if you are financing a home purchase with a set closing date, the weaker your capacity to back out and seek another lender.
The most troublesome areas are income documentation and property value documentation, either of which can take considerable time. The first is most likely to be problematic if you are self-employed or draw income from real estate investments. The second is most likely to be problematic if the property is in an area that is suffering from a shortage of appraisers.
That problem is sometimes handled by making approval contingent upon an appraisal being above some minimum value. In such case, it is important that you judge the likelihood that the appraisal will exceed the minimum as high.
Once you have been cleared to lock, do so. Delaying the lock in the expectation that prices might fall is a bad gamble.
Locking the Posted Price
You want to lock the posted price, not a higher fake price.
A borrower who shops and transacts on the telephone might select a lender based on a fake price below the posted price and then lock a fake price above the posted price. In a volatile market, there is always a plausible explanation for a different price.
The best assurance that your lock is at the posted price is that on the lock date you can price your transaction on the lender's website or on a third-party site such as mine in which the lender participates.
This works with some lenders, not with others. If you have direct contact with an obliging loan officer, your need might be satisfied with a hands-on demo of the pricing of your transaction on the officer's laptop. A dated printout of the lender's pricing might also work. You should pin this down early on when you select the lender.
Coverage of the Lock
Locks should cover the interest rate, points and all other lender fees.
On adjustable-rate mortgages, the lock should include the maximum rate, margin, index and adjustment caps.
The coverage of the lock will be shown on the lender's lock confirmation statement, which you should ask to see upfront.
Cost of the Lock
It is common to charge a modest fee for processing and locking a loan. On one website, lenders are allowed to charge $295, which is non-refundable if the borrower walks. It is, however, credited back to them if and when the loan closes.
The largest investment the borrower must make is the appraisal, which can range from $300 to $800, depending on the property. That is not refundable if the loan doesn't close because the appraisal company gets paid whether the loan closes or not.
Implications for Shopping
If you select a lender based on price comparisons, make sure that the price selected is a posted price, not a fake price.
Obtain the lender's requirements to lock, its lock confirmation statement and the amount of any non-refundable fee.
About the Writer
Jack Guttentag is professor emeritus of finance at the Wharton School of the University of Pennsylvania.