Mortgage Closings and Per Diem Interest
Many home loan borrowers are confused about a charge on their mortgage loan closing statement referred to as per diem interest. Part of the confusion stems from the fact that this charge is referred to as a closing cost on the good faith estimate provided to the borrower.
Per diem interest means the amount of daily interest payable under a home loan. The mortgage lender needs to calculate per diem interest in order to determine the amount of interest payable by a borrower at the loan closing.
At the loan closing, this will the daily cost of interest form the time the funds are disbursed to either purchase the home or after the three day right of rescission on a mortgage refinance to the time period when the mortgage interest starts to accrue for the first payment.
Most all home mortgages have loans monthly payments that cover a 30 day period of time due on the first of the month. A borrower’s first monthly payment is typically due the first day of the second month after closing. For example, if a loan closes on January 15, then the first monthly payment will be due on March 1 not February 1.
Interest paid on home loans is payable in arrears, using the above payment date example, the March 1 monthly payment will cover interest which accrued during the month of February. Normally, rent payments are calculated another way and are forward payments, the March 1 payment covers the rent for the month of March not February.
Following this same example, the borrower that would close on the home loan on January 15 has their first monthly mortgage payment due on March 1, whether the loan was a refinance or for a purchase. The borrower has a payment due on March 1st that covers all of February’s interest charges and any principal due, but the borrower had access to the funds from the time it disbursed in mid January. To cover the interest charges from January 15 to the February 1st, at the closing the borrower will have to pay interest covering that period from January 15 through January 31 since this interest will not be included in the March 1 monthly payment.
Per diem interest is determined by first multiplying the principal amount of the loan by the interest rate to determine the annual amount of interest payable under the loan. Next, the annual amount is divided by 360 days to determine the per diem interest amount (note mortgage lenders typically calculate per diem interest based on a 360 day year; when calculating per diem interest it always divided by 360 days unless the mortgage lender specifically instructs otherwise). Finally, the per diem interest amount is multiplied by the number of days remaining in the month of closing, including the date of closing.
For example assume that a loan with an original principal amount equal to $100,000 and an annual mortgage interest rate of 7.00% is funded on January 15. To determine all charges at the closing, the mortgage lender must determine the amount of per diem interest which will be payable by the borrower at closing.
The total annual interest is equal to $7,000 or 100,000 x 7%. This is interest for the year and therefore has to be divided by 360 to obtain the daily interest of $19.44. This figure is now multiplied by the 15 days remaining in the month to come up with a total interest charge of $291.60.
This charge will be depicted as a closing cost on the settlement statement but this would seem like a misnomer. The interest charge is simply the cost of having access to that money before the first mortgage payment, referring to interest charges as a closing cost in the same general category as origination fees can appear confusing.
Mortgages and Yield Spread Premiums
Abusive lending practices and an uproar over deceptive sales practices in the mortgage industry often focuses on unscrupulous tactics regarding mortgage rates and closing costs that are exploited by loan officers and mortgage lenders. One such aspect of mortgage lending deceit involves the disclosure of the yield spread premium on the good faith estimate and settlement statement for a home loan.
The issue was addressed once again when the Federal Reserve Board (the Fed) adopted a number of new rules that involve certain prohibitions regarding good faith estimates regarding mortgage rates and closing costs and for mortgages made on or after October 1, 2009.
These new rules which are a combination of the rules adopted by the Fed and others from the U.S. Department of Housing and Urban Development (HUD) ensure that consumers receive mortgage loan good faith estimates of the costs of a mortgage earlier in the mortgage application process and that the disclosures better explain the costs of the home loan and terms of the loan. The disclosures will cover areas such as the potential for monthly mortgage payments to rise, any prepayment penalty the mortgage loan may have for paying off the loan early, and any fees that may be paid by the mortgage lender to a mortgage broker for originating or bringing in the loan business. This last aspect is what the industry refers to as the yield spread premium.
Yield spread premium disclosures apply mostly to mortgage brokers but in certain cases it may also be a requirement for mortgage lenders or correspondent lenders as well.
A yield spread premium (YSP) is a payment the mortgage broker may receive from a mortgage lender when they sell or deliver the mortgage loan to the lender. A mortgage broker’s job is to facilitate the origination and processing of a mortgage loan. The mortgage broker may close the home loan in their name but ultimately the loan is funded by a mortgage lender. The mortgage lender pays the broker the difference in the mortgage rate and points that are required by the mortgage lender to fund or purchase the loan and the mortgage rate and points charged to the home loan borrower by the mortgage broker.
Technically, the yield spread premium is the dollar value of the difference between the lowest interest rate a wholesale mortgage lender would have accepted for a given mortgage loan transaction and the mortgage rate a mortgage broker induces or sells the borrower to agree upon. The greater the spread between the two mortgage rates, the higher the yield spread premium payment to the broker.
As an example, if a mortgage broker handles a borrowers request for a home loan with a rate of 5.5% and two points and the mortgage lender agrees to fund that same loan at a mortgage rate of 5.5% and 1 point, the difference between the two points charged and the one point the mortgage lender takes to fund the loan has is the brokers compensation or profit. Often the difference involves the mortgage rate and/or the points charged.
When the mortgage rate quoted by the mortgage broker is higher than the mortgage rate agreed to be the mortgage lender, the difference is the compensation to the broker which is referred to as the yield spread premium. The spread between the two mortgage rates, the rate charged the borrower and the rate the mortgage lender will agree to buy or fund the loan at, is paid as a percentage of the loan amount to the broker. If the mortgage broker quotes a very high mortgage rate of 6.50% and the mortgage lender is willing to fund or buy that same loan with a rate of just 5.00%, the yield spread premium would be very high. That is an extreme example that would not often be done. However, yield spread premiums are often a considerable amount of the mortgage broker’s income.
Many critics of the mortgage industry have charged that yield spread premiums amount to kickbacks that give brokers and other loan originators financial incentives to steer consumers to higher rate home loans. Clearly the federal government believes there are abuses with yield spread premiums as evidenced by the new disclosure rules and in fact, the issue of abuse in yield spread premiums and proper mortgage rate and cost disclosures is a topic visited by the federal regulatory agencies as well as state regulatory agencies in the mortgage lending industry regularly.
Q. How do I find the best mortgage lender?
A. The most important step in the process of finding the right mortgage lender is to do plenty of research. Unfortunately, most consumers will spend more time shopping and comparing the price of a new television set than they do shopping for a mortgage lender.
When shopping for the best mortgage lender is not only important to shop around and compare mortgage rates and costs, it is equally important to investigate the mortgage lender and their services. It’s important that you find a mortgage lender who will work with you to meet your needs and who you feel comfortable with and gives you a feeling of trust. This will entail comparing rates, services and competence.
It’s not that difficult to choose a good mortgage lender, but you do have to be informed and know what you are looking for in a mortgage lender. In order to shop and compare mortgage lenders, you need to fully understand what you are searching for not what they are selling. In order to understand the product, a prospective home loan borrower has to learn about the mortgage loans available, the average mortgage rates, the costs and the terminology involved in the mortgage loan process. With the knowledge of how the mortgage loan decision making process works, a mortgage shopper can better compare mortgage lenders and question the services and products offered.
Above everything else, do your homework before the application process begins. To find the right mortgage lender a consumer will have to question the mortgage lender and loan officer and this will be difficult to do without some understanding of how a mortgage loan is originated, processes and closed.
Once you, as the potential home loan borrower, understand the mortgage loan types and the process involved, its time to quiz the mortgage lender and mortgage loan officers. The first thing to find out is how knowledgeable the mortgage loan officer is about the home loan options and equally important, how well they explain the process and any potential pitfalls to a smooth home loan closing. The mortgage lender or mortgage loan officer should explain the mortgage rate lock process, the mortgage payments, the loan term, when and if you can refinance again and more.
Which mortgage lender has the best mortgage rate will certainly be a consideration. Of course, it is important to discuss mortgage rates and closing costs. This is a big ticket item and the mortgage rate can have a significant impact on the total costs of the loan. Comparing mortgage rates fortunately is fairly straight forward process.
Go online and check the prevailing mortgage rates in your area for the home loan product you are most interested in. Use these mortgage rates as a starting point to compare the mortgage rates of lenders you call and measure how competitive their mortgage rates really are. Don’t choose a mortgage lender based on mortgage rate alone. Make sure the mortgage lender is competitive with their mortgage rates but be sure to investigate the costs and service as well.
Comparing closing costs can sometimes get fishier. Some mortgage loan officers remain intentionally vague about the total closing costs. Other mortgage lenders employ loan officers that just don’t know that much about what they sell. In these cases it may be wise to move on. A representative of any mortgage lender should be able to explain the mortgage costs with great detail. That means they should explain any origination points, the costs of the appraisal, the title insurance costs, the cost for processing, the credit report, the tax service fee and any other fees the mortgage lender will be charging.
Not only should a good mortgage lender explain these costs, they should be able to explain what they are and why you are being charged the corresponding fee. Once you have chosen your mortgage lender and submitted a home loan application, get a Good Faith Estimate in writing itemizing approximate mortgage costs and fees. Pay close attention to all the figures on the Good Faith Estimate.
You should know, up front, how the mortgage lender will evaluate your application. Have the mortgage lender explain the mortgage loan process and the how they come to approve your home loan request all the way up to how and when they set up the mortgage loan closing or settlement. When you speak with the mortgage lender they should explain the automated underwriting process, the verification process, the documents needed by you to support the down payment and your income as well as how long this process should takes.
While the mortgage lender briefly explains the process, find out how accessible they will be while your home loan application is being evaluated and underwritten. With all the transactions now taking place on line including mortgage origination’s, a face to face application or consultation is not necessary with a mortgage lender but you should at least be able to contact your loan officer by phone or email regularly. Some customers can be annoying but the job as the mortgage loan officer to help you get a home loan. You want to be assured it will be easy for you to monitor the status of your mortgage loan application and be able to ask questions along the way.
A final step should be to ask for references. As good mortgage loan officer should be able to immediately provide references of satisfied customer’s even customers that they are presently working with.
In a nutshell, to choose a good mortgage lender you want to research the products they offer and the mortgage rate, the level of service in handling a home loan application from beginning to end and the reputation of the mortgage lender. Mortgage lenders who understand mortgage rates and costs and the whole loan process are most certainly going to be a very knowledgeable and resourceful mortgage loan officer who has not merely a salesman. Be sure to choose a company that gives helpful advice and that makes you feel comfortable.