What Moves Mortgage Rates? (The Basics)

The questions are simple enough: What´s going on with mortgage rates?

What makes them rise, or fall? Is it the Fed? The economy? Inflation? The banks? The President? Fannie Mae or Freddie Mac? Is it a secret conspiracy?

The answer is that rates are moved by a number of related factors, and believe it or not, you -- Joe or Jane Consumer -- are one of those factors.

Mortgage money can come from many sources, including deposits at banks and brokerages, but most comes from investors through what is collectively known as the "capital markets." This is where investors interested in purchasing certain kinds of debt instruments -- bonds, in this case -- come to buy these items.

In order to attract investors, sellers of bonds must compete with one another to get their money. They do this by offering a variety of " instruments" (also called "product") with differing structures of risk and return over given periods of time. These offerings compete with other investments which are reasonably similar in performance, such as US Treasuries, corporate bonds, foreign bonds, and others.

Who are these investors, and why are they so fickle? Mostly, they´re people like you, and you want two opposing things: low payments on your debt, especially your mortgage, and high returns on your investments. You (or your investment advisors or fund managers) will only buy so many low- yielding bonds (mortgage or otherwise), because you´ll take your money elsewhere if your returns are too low.

Investor demand for a given kind of investment plays a considerable role in moving market yields, because investors have literally hundreds of places to put their money. It´s a crowded marketplace, with many sellers of various product competing for those investor dollars. Investor demand for specific product rises and falls with changes in investment strategies; if demand falls enough, a change needs to be made to attract investors again. How to attract them again? Usually, by raising interest rates.

If course, it´s not as easy or simple as that. Mortgage market makers serve not one client, but two: investors, who want the highest possible return on their investments, and the homeowner or homebuyer, who wants the lowest possible interest rate. Simultaneously, rates need to be high enough to attract investors but low enough to attract borrowers. It´s quite a complex dance; investors, though, make the music.

As interest rates (yields) decline, investment customers can become more or less interested, depending upon the direction of economic growth, inflation, appetite for the given product, and several other factors. Typically, though, the lower those rates get, the fewer investors are interested in putting them on their books.

In the case of financial instruments like bonds, things get a little more complicated. Bonds have an interest rate (yield), a dollar amount (face) and a current price (price).

A very simple explanation -- which leaves out a number of very important factors -- would be as follows:

Let´s say, for example, that you want to sell a $1,000 (face) bond with a yield of 6%. And let´s say that it´s a good deal, so ten investors start offering you more than the $1,000 you want. They bid the price up to $1,010 -- $1,020 -- $1,030. In effect, that increase in price is actually borrowing from the interest which the bond will return. Because some of the interest is gone, the actual return to the investor is no longer 6%, but something less than that. When demand for a given bond is strong, prices rise to the seller, and the return to the investor (yield) declines.

Conversely, when demand for a given bond is weak, the price falls. For example, you might have to sell that $1,000 for only $980; and the return to the investor (yield) rises, since the buyer not only gets all the interest on $1,000, but also got a discount on his purchase price.

The principle to remember is this: as a bond price rises, its yield falls, and vice-versa.

Relationships to Other Investments

Mortgages are priced for sale to attract investors who seek fixed income investments. There are many kinds of bonds available, and mortgage rates (yields) rise and fall with those competing investments to a greater or lesser degree.

But how to price them? Fixed mortgage rates, like other bonds, track US Treasury bonds quite well. Since Treasury obligations are backed by the "full faith and credit" of the United States, they are the benchmark for many other bonds.

There is no specific "lockstep" relationship between Treasuries of any term and fixed mortgage rates. Given enough data points, a relationship could be established against many different financial instruments. However, as a 30-year fixed rate mortgage rarely lasts longer than about 10 years before being paid off or refinanced, the closest instrument which has similar (though lesser) risks is the ten-year Treasury Constant Maturity. Because of this, the ten-year year Treasury makes an excellent tool to track mortgage rates.

Here´s an oversimplification of the relationships of mortgages to Treasuries:

As we mentioned, intermediate term bonds and long-term mortgages (more properly, Mortgage-Backed Securities, or MBS) compete for the same fixed-income investor dollar. Treasury issues are 100% guaranteed to be repaid, but mortgages are not; therefore mortgages carry more risk of default or early repayment, which could potentially disturb the return on the investment. Therefore, mortgage rates must be priced higher to compensate for that risk.

But how much higher are mortgages priced? In the current market, the average "spread" or markup above the 100% secured Treasury is about 200 basis points, or 2%. That markup -- the spread relationship -- widens and contracts with a range of market conditions, investor appetites and supply of available product -- as well as the presence of competing investment opportunities, like corporate bonds or domestic (or foreign) equity markets. Professional money managers, and investment and retirement funds constantly strive to obtain high-yielding instruments at a given level of risk. Money shuffles from place to place in search of this -- from bond to bond, and market to market.

As we mentioned, the relationship isn´t a fixed one, but one that changes with market conditions. Recently, for example, ten-year Treasuries rose from a low of 4.22% to 5.01% over a three-week period -- about 80 basis points, altogether. At the same time, the average 30-year fixed mortgage rate rose from about 6.59% to 7.21%, a rise of only 62 basis points. Consequently, the spread between the two narrowed appreciably, which is why you can´t simply take the ten-year yield, add 2% to it and know exactly what today´s rate is.

Other Factors

Then, there´s the "unknown supply stream", aka "volume". Unlike many other investment opportunities, no one really knows how many mortgages will be originated, then made available for sale (as bonds) in a given period of time. Recently, a quick drop in interest rates produced a large buildup of loans to be sold to investors as homeowners rushed to refinance. This made way too much bond supply available in too short a time, and investors simply couldn´t absorb it all at once. Too much supply, not enough demand; prices had to go down, and yields had to go up to attract investors.

Delays, Delays

There´s also a time-lag for mortgage pricing. Though shorter than in years past, it takes anywhere from several hours to several days for increase or decreases to get from capital markets to wholesalers to retailers to "the street" where loan originators are working with you.

Not all increases or decreases are passed along, either. Depending upon the size of the change, rates may stay the same (but fees, such as points, may change). Sometimes, a minor increase in bond yields in the morning is followed by a minor decrease in the afternoon, while mortgage rates remain the same all day.

Other Risks

There´s also the impact of inflation, which affects both Treasury, mortgage and other fixed-income investments. Rising inflation reduces the actual return on a fixed interest rate investment, so with 2% inflation, that 6% mortgage note returns only 4% "real" interest.

If inflation is expected to decline for the foreseeable future, you can bet that mortgage rates have some room to fall. Conversely, an outlook which suggests higher inflation ahead will see mortgage rates rise, sometimes very quickly.

Also, a poor economic climate affects mortgages much more profoundly than Treasuries. After all, the US government isn´t likely to lose its job and suddenly stop making payments, but it´s a safe bet that a percentage of homeowners will, even in good economic times.

There´s much more to the structure or bond, mortgage and capital markets, including government influences and overseas relationships to our capital markets which can also have an effect, but the above should be enough to give you a modest working knowledge of the market. You´ll notice that so far, we didn´t mention the Fed at all. Fed moves have no direct effect on fixed rate mortgage pricing, but their action or inaction (and expectations thereof) can indeed have indirect effects.

The Fed´s Role

Contrary to popular myth, the Fed (more properly, the Federal Reserve) doesn´t control mortgage rates. (For more on this, click here.) In fact, their most well-known policy tool -- the Federal Funds rate -- is the overnight interest rate which banks charge each other when a bank needs to borrow money to meet end- of-day reserve requirements. Simply, those rules say that a bank must have so much cash on hand when the books close at the end of the day, and those funds can be borrowed from another bank at this interest rate. You should know that the Fed merely "suggests" what that rate should be, which is why it´s called a "target" rate; the actual rate is negotiated between the borrower bank and the lender bank.

A good way to keep a handle on the Fed is to remember that the Fed Funds rate is the shortest of short-term rates -- literally, an overnight loan -- and a fixed-rate mortgage is all the way at the other end of the scale, a loan that lasts as long as 30 years.

From Fed Funds moves, there´s a complicated discussion of monetary policy about how Fed moves affect certain deposit and loan markets and inflationary expectations. We´ll leave that for another article.

The end result is that the Fed raises or lowers interest rates to help address increases or decreases in economic activity. Lower rates can help banks to make certain kinds of loans more cheaply, especially for business and certain kinds of consumer lending, and that can help to generate greater economic growth. Higher rates can cool demand, helping to keep inflationary pressures from forming.

In some ways, expectations of what the Fed might do can be more important than what the Fed actually does, as their actions or inactions can help to confirm or deny what investors believe.

You may also have noticed that sometimes the Fed cuts interest rates -- and fixed mortgage rates actually rise as a result. Why? If the Fed is taking steps to address economic weakness by lowering rates, that likely means that a return to faster growth -- and possible higher inflation, as well -- is coming sooner, rather than later.

So what moves mortgage rates? Supply. Demand. Competition for money. Inflation. The Economy. Expectations. And you, of course.

We hope that this helps you understand a little better how the whole thing works.

Q. WHAT IS THE LIBOR INDEX?

A. London Inter Bank Offering Rates (LIBOR)

London Inter Bank Offering Rate (LIBOR) is an average of the interest rate on dollar-denominated deposits, also known as Eurodollars, traded between banks in London. The Eurodollar market is a major component of the International financial market. London is the center of the Euromarket in terms of volume. The LIBOR is an international index, which follows the world economic condition. It allows international investors to match their cost of lending to their cost of funds. There are several different LIBOR rates widely used as ARM indexes: 1-, 3-, 6- Month, and 1-Year LIBOR. The 6-Month LIBOR is the most common.

Q. WHAT IS AN INTEREST ONLY ARM?

A. “Interest Only” Adjustable Rate Mortgages

“Interest Only” Adjustable Rate Mortgages (ARMs) have become extremely popular and effective tools for helping prospective homebuyers achieve their dream of homeownership, it also allows for current homeowners to drastically reduce their monthy payments.“Interest Only” ARMs can be an excellent choice of financing under certain conditions, such as rising income expectations, high interest rates, and short-term homeownership. Below are the four items that are normally associated with each arm products.

• Initial interest rate, which is typically one to three percentage points lower than that of most fixed rate mortgages. Lower interest rates and the popularity of the “Interest Only” option make ARM’s easier to qualify for consumers. The initial interest rate is tied to certain economic indicators that dictate in part what the monthly payments will be.

• Adjustment interval, at the time between changes in the interest rate and/or monthly payment will be.

• Index, against which lenders measure the difference between what they are making on their investment in the mortgage and what they could be making on other types of investments. The most popular index has been the one- year Treasury bill (also called T-bill). The Libor index is becoming more popular as the margin on most of these products are lower than most T-bill ARM’s

• Margin, this is what the lender adds to the index to establish the adjusted interest rate on an ARM. The margin is usually 2.00 to 3.25 percent on the Libor and 2.50 to 3.50 percent on the T-bill. Keep in mind the margin is the most important aspect of short term Interest Only ARM’s like the 1 month and 6 month Libor products. ARM’s usually contains certain consumer safeguards such as caps, which limit the amount that the interest rate can go up or down within the adjustment period. For instance, a typical ARM would have a 1st adjustment cap of two percentage points and a lifetime cap of normally 5 to 6 percent over the start rate. This means that a loan with an initial interest rate of 4.75% for the 1st 5 years would be able to go no higher than 9.75 percent over the life of the loan with a 5% lifetime cap. Most short term Libor ARM’s like the 1-month and 6 month do not period caps but do have lifetime caps, these caps vary from lender to lender.

Other options you should ask about when shopping for an ARM are:

• Assumability, or whether you may transfer the mortgage to a new homebuyer, usually with the same terms if the new homebuyer qualifies for the loan. ARMs are almost always assumable.

• Convertibility allows the borrower to change an ARM to a fixed rate mortgage, usually at the end of some predetermined period, locking in a lower interest rate.

Q. WHAT IS THE MTA INDEX?

A. The Monthly Treasury Average is a relatively new ARM index. This index is the 12 month average of the monthly average yields of U.S. Treasury securities adjusted to a constant maturity of one year. It is calculated by averaging the previous 12 monthly values of the 1-Year CMT. Because this index is an annual average, it is more steady than the 1-Year CMT index. The MTA index generally fluctuates slightly more than the 11th District COFI, although its movements track each other very closely. This index is normally used with "Option ARM" products that allow for consumers to make four different payment options.

Q. HOW DOES THE TREASURY INDEX WORK?

A. These indexes are based on the results of auctions that the U.S. Treasury holds for its Treasury bills, notes and bonds. Treasury bills are issued by the U.S. government with maturities of 3, 6 months, and 1 year in order to pay for the national debt and other expenses. ARMs tied to the 3-, 6-Mo, and 1Yr T-Bills usually adjust once every six months, once each year, or once every three years accordingly. The 1-year Treasury Bill index (1-year T-Bill) is the most commonly used index for traditional ARM products that amortize. It is also become widely used with longer term "Interest Only" ARM products like the 3,5,7 & 10/1 ARM´s.


Q. WHAT IS THE COFI INDEX?

A .What is the 11th District Cost of Funds Index? The Federal Home Loan Bank (FHLB) System is comprised of 12 Districts, each of which has its own District Bank-The 11th District is based in San Francisco and includes member savings institutions from Arizona, California and Nevada. The 11th District COFI was introduced in 1981 and represents the weighted average cost of all funds for savings institutions eligible to be members of the 11th District. The source of these funds includes savings and checking accounts, money market accounts, short-term CD accounts, advances by the FHLB District Bank, and other borrowed money. The latest statistics released by the Federal Home Loan Bank Board (FHLBB) show the following approximations:

- 60% of deposits are in Checking and Savings accounts
- 30% of deposits are in the 6 month and 1 year CDs
- 10% of deposits are in 2 to 5 year CDs

The index represents a weighted average cost of funds and includes long-term accounts-The 11th District COFI is popular with both thrift lenders and borrowers because the index adjusts slowly and stays consistent with those lenders´ costs.

Q. What is the CODI Index?

A. CODI - Certificate of Deposit Index. A CODI loan is based on one of the most stable indexes currently available. Simply put, it is the aggregate sum of what banks are paying to their depositors on their 3-month CD accounts! As we all know, these short-term CDs generally offer a very low rate of return. Currently, the average rate paid by a bank on a 3-month CD is approximately 1.40%. The overall index is calculated by using an average, of an average, of an average. It works this way: they take the daily average of these 3-month CDs and add those daily values together for one month. They then divide that sum by the number of days in the month to reach a monthly value. Next, they add that current monthly value to the previous 11 monthly values and divide by 12 to give us the current CODI Index.

Q. What is the COSI Index?

A. COSI - cost of savings index. This Lender borrows money from consumers in the form of deposits, i.e. C/D´s, checking and savings accounts, and then lends the money out as home mortgages. Then they place a fixed "Margin" on top of their own Index. The interest rates in effect on these deposits are the basis for the COSI. The COSI is not based on actual interest paid on deposit accounts, but rather on a weighted annualized rate of all interest rates in effect on deposit accounts as of the last day of each month.

Q. How do I calculate my debt ratios?

A. Besides credit considerations, lenders review the capacity of the borrowers to repay the mortgage obligation. Lenders calculate the debt ratio dividing the total monthly debts, this is your total monthly housing expense including taxes and insurance for the proposed loan plus the borrowers other monthly credit obligations) by the total monthly income. For example, if the borrower had a total income of $7,000 per month and total payments of $2,700 per month ($2,000 for housing expenses and $700 for other credit obligations), the debt ratio would be ($2,700 divided $7,000 = 38.5%). 40 to 45% is the norm for total income to debt ratios.

Some lenders will allow up to 50% total dept to income ratios, however they vary depending on the “Interest Only” loan program you choose and the lender.


Q. What is loan to value ratio?

A. Loan-to-Value Ratio, or LTV as it is commonly referred to, is the ratio of loan amount to the appraised value (or the sales price, whichever is less) of a property. For example, a loan of $700,000 on a property valued at $1,00,000 is a 70% LTV . Lenders have become highly aggressive when it comes to LTV requirements. Some will allow up to 100% LTV. The higher the LTV though the more stringent the lenders become on credit and debt ratio.


Q. WHAT KIND OF PROPERTIES ARE ELIGIBLE FOR “INTEREST ONLY” LOANS?

A. Most "Interest Only" loan programs are eligible for the main property types listed below.

· Single Family Attached
· Eligible Condos - Low Rise and High Rise
· Eligible PUD Units
· 2-4 Units Note:

Co-Ops and Mixed Use Properties are available for financing but there are limitations on these types of properties. Contact a mortgage professional for more information on what these limitations are. but always make sure you explain the property type at the time of application (or before) to save any future delays in processing your application.


Q. WHICH LENDER SHOULD I USE FOR AN “INTEREST ONLY” LOAN?

A. Comparing loans of different lenders is often the most difficult part of shopping for a home loan. It is important to keep in mind that mortgage packages consist of more than interest rates. They consist of a quoted rate, points and closing costs.

Most lenders we researched and that will contact you do not charge application fees, origination fees and points however as noted many times throughout our website these items do vary from lender to lender so its important that when you are contacted by a mortgage professional to ask these questions up front. We usually suggest you consider a lender that does not have these fees, as they are normally the most competitive in the industry. There are however lock in fees that are sometimes charged to secure a given rate, this fee is normally credited back to you at closing of the transaction.

You may want to ask your mortgage professional if it make sense to pay points. Points are charged to lower the rate on the loan. Most lenders will allow you to choose amongst a variety of rate and point combinations for the same loan product. Therefore, when comparing rates of different lenders, make sure you compare also the associated points. It has been our experience from talking to various lenders that it usually does not make sense to pay points on an “Interest Only” ARM product as the periods are normally shorter, it could make sense however on a longer term fixed rate loan, it comes down to how long you think you will be in your home.

Closing costs typically consist of loan related fees that you will find in section 800 of the good faith estimate. (i.e. the fees which lenders charge to process, underwrite , approve & fund the mortgage.

When comparing loans of different lenders you need to thoroughly compare all loan features: maximum LTV, credit and cash reserve requirements, qualifying ratios, etc.

One thing that normally will affect the quoted interest rate is the lock-in period, during which the interest rate and points quoted to you will be guaranteed. Lock-ins of 30, 45 and 60 days are common. Usually a longer lock-in period will have higher rate. The lock-in period should be long enough to allow for settlement before lock-in expires.


Q. What is the best way to compare loans among different lenders?

You will want to compare loan products of the same type among different lenders:

1. Get the same quote for a specific loan product like a 5/1 ARM “Interest Only” for a specified period of time, a reasonable time frame for refinance is 30 days, on a purchase it would be the amount of days until you actually close. You have to compare different lenders on the same product and rate lock-in periods. Most lenders can offer you a variety of rate and point combinations for the same loan product and allow you to choose the lock-in period.

2. Add up the total lender fees for that rate including points and loan related fees. There are a number of different fees paid in connection with a loan; some lenders have different names for them. You should ask for a good faith estimate in writing so you can see what the real lender charges are.

These fees can include processing, underwriting, appraisal, the cost of a credit report, tax service fee, application, commitment, wire transfer fee, etc. Be sure as stated before to ask if they have an upfront application fee, and if so is this credited back at closing.
Remember all lenders are not created equal so be sure to compare and get it in writing.

Q. WHAT IS APR?

The Federal Truth in Lending law requires mortgage companies to disclose the APR when they advertise a rate. It is designed to represent the true cost of the loan to the borrower, expressed in the form of a yearly rate. The purpose is to prevent lenders from hiding fees and upfront costs behind low advertised interest rates. However the APR is in fact a very confusing number. Even lenders admit it is confusing since it includes some, but not all, of the various fees and insurance premiums that accompany a mortgage. The rules for calculation of this number have not been clearly defined, so APRs vary from lender to lender and from loan to loan, depending on which types of fees and charges are included.

We do not recommend relying upon the APR as an indicator of a loan product´s value. The APR calculation is based upon the assumption that you keep your loan for the entire period of the loan; say 30 years, which in reality may not be the true hold period for a borrower.

In addition, the APR model is flawed in that when a product is variable and tied to an index, the index is assumed to never change. This obviously is an invalid assumption that can lead again to a number, which in fact cannot be compared, from one quoting source to another.

Finally, the APR won´t tell you anything about balloon payments and prepayment penalties and how long your rate is locked for. So a loan with a lower APR is not necessarily a better loan.

 Q. What are the Minimum Credit Score Requirements?

A. Most lenders use credit scoring to determine what products they will allow for "Interest Only" loans. With the increasing popularity of these types of loans numerous lenders are easing the minimum credit scores that are required, keep in mind the lower the score the higher the chance the interest rate offered will increase. These minimums are sometimes exceeded if the borrower has compensating factors such as strong assets and low debt-to-income ratios but it is always on a case-by-case basis. The chart below represents some of the average lender requirements for "Interest Only" loans but in no way implies that there are not loans available to applicants outside of these ranges. The information is purely for reference.

To learn more about the "Interest-Only" programs available to your scenario please go to apply now and an interest only mortgage loan consultant will contact you with more details.

Credit Score	Products	Types of Property
Above 720 Considered to be the top credit worthy applicants in the nation	All ARM & Fixed Rates Products Full Documentation No Income / No Assets/ No Employment Verified (NIV) (NAV) (NEV) No Ratio Stated Income Stated Income / Stated Assets Loan to value requirements generally vary on all products depending on Property Usage & Price Range.	Primary, Second Home, Investment
Scores 680 to 719 Very strong credit scores	Full Documentation No Income / No Assets/ No Employment Verified (NIV) (NAV) (NEV) Stated Income Stated Income / Stated Assets Loan to value requirements generally vary on all products depending on Property Usage.	Primary, Second Home, Investment
Scores 660-680 Considered Good Credit	Full Documentation No Income / No Assets / No Employment Verified (NIV) (NAV) NEV) Stated Income / Stated Income / Stated Assets Rates normally slightly higher because of the credit scores Loan to value requirements generally vary on all products depending on Property Usage.	Primary, Second Home, Investment
Scores 620-660 Average Credit	Full Documentation Stated Income There are numerous Lenders in the market today that will still allow limited documentation loans with these credit scores. Rates normally are higher but the “Interest Only” option compensate for this. Loan to value requirements generally vary on all products depending on Property Usage.	Primary, Second Home, Investment
Below 620	Full Documentation Some Stated Income Products Rates normally considerably higher, loan terms usually are short term with a fixed rate for 2-3 years and then adjusting. There are still lenders though offering “Interest Only” loans with these products.

Please note that this information should be only used for reference and is not an offer to loan at the published guidelines. All lenders have their own underwriting guidelines for each product. We have reviewed various information provided by mortgage lenders and provide the information above for potential mortgage applicants to use as a general idea of what loan programs may be available. The final details of all loan products can only be made by licensed mortgage lenders, brokers, bankers and other institutions/individuals with the authority to do so. In addition, not all lenders offer the same programs in all states.

Certain risks are associated with any kind of adjustable rate mortgage. The information contained in this site should be used only for reference. Before entering into an agreement with any financial institution please consult your financial planner, accountant or any other person who is familiar with your financial profile for further information.

Q. WHAT IS RESPA?

A. Real Estate Settlement Procedures Act

This law protects consumers from abuses during the residential real estate purchase and loan process and enables them to be better-informed shoppers by requiring disclosure of costs of settlement services.

The U.S. Department of Housing and Urban Development’s (HUD) Federal Housing Administration (FHA) administers several regulatory programs to ensure equity and efficiency in the sale of housing. One of these programs, under the Real Estate Settlement Procedures Act (RESPA), applies to almost all mortgage loans and mortgage companies, not just FHA-insured mortgages. RESPA’s purposes are (1) to help consumers get fair settlement services by requiring that key service costs be disclosed in advance, (2) to protect consumers by eliminating kickbacks and referral fees that would unnecessarily increase the costs of settlement services, and (3) to further protect consumers by prohibiting certain practices that increase the cost of settlement services.

RESPA protects consumers by mandating a series of disclosures that prevent unethical practices by mortgage companies and that provide consumers with the information to choose the real estate settlement services most suited to their needs. The disclosures must take place at various times throughout the settlement process:

Disclosures at the time of loan application. When a potential homebuyer applies for a mortgage loan, the buyer must receive (1) a Special Information Booklet, which contains consumer information on various real estate settlement services; (2) a Good Faith Estimate of settlement costs, which lists the charges the buyer is likely to pay at settlement and states whether the buyer is required to use a particular settlement service; and (3) a Mortgage Servicing Disclosure Statement, which tells the buyer whether the loan will be kept or transferred for servicing, and also gives information about how the buyer can resolve complaints. RESPA does not specify penalties when these three items are not provided, but bank regulators can impose penalties.
Disclosures before settlement (closing) occurs. (1) An Affiliated Business Arrangement Disclosure is required whenever a settlement service refers a buyer to a firm with which the service has any kind of business connection, such as common ownership. The service usually cannot require the buyer to use a connected firm. (2) A preliminary copy of a HUD-1 Settlement Statement is required if the borrower requests it 24 hours before closing. This form gives estimates of all settlement charges that will need to be paid, both by buyer and seller.

Disclosures at settlement. (1) The HUD-1 Settlement Statement is required to show the actual charges at settlement. (2) An Initial Escrow Statement is required at closing or within 45 days of closing. This itemizes the estimated taxes, insurance premiums, and other charges that will need to be paid from the escrow account during the first year of the loan.

Disclosures after settlement. (1) An Annual Escrow Loan Statement must be delivered by the servicer to the borrower. This statement summarizes all escrow account deposits and payments during the past year. It also notifies the borrower of any shortages or surpluses in the account and tells the borrower how these can be paid or refunded. (2) A Servicing Transfer Statement is required if the servicer transfers the servicing rights for a loan to another servicer.

Along with these disclosures, RESPA protects consumers by prohibiting several other practices: (1) Kickbacks, fee-splitting, and unearned fees: Anyone is prohibited from giving or accepting a fee, kickback, or any thing of value in exchange for referrals of settlement service business involving a federally related mortgage loan, which covers almost every loan made for residential property. RESPA also prohibits fee splitting and receiving unearned fees for services not actually performed. Violations of these RESPA provisions can be punished with criminal and civil penalties. (2) Seller-required title insurance: A seller is prohibited from requiring a homebuyer to use a particular title insurance company. A buyer can sue a seller who violates this provision. (3) Limits on escrow accounts: A limit is set on the amount that a borrower is required to put into an escrow account to pay taxes, hazard insurance, and other property charges. RESPA does not require an escrow account on borrowers, but some government loan programs or mortgage companies may require an escrow account. During the course of the loan, RESPA prohibits charging excessive amounts for the escrow account. And each year, the borrower must be notified of any escrow account shortage and return any excess of $50 or more.


Q. HOW MUCH INSURANCE DO I NEED?

A. Homeowners Insurance Information

When you insure your home, you should insure your home for the total amount it would cost to rebuild your home if it were destroyed. If you don´t have sufficient insurance, your insurance company may only pay a portion of the cost of replacing or repairing damaged items.

There are three ways to insure the structure of your home:

1. Replacement Cost: Insurance that pays the policyholder the cost of replacing the damaged property without deduction for depreciation, but limited to a maximum dollar amount.

2. Guaranteed Replacement Cost: Insurance that pays the full cost of replacing damaged property, without a deduction for depreciation and without a dollar limit. This coverage is not available in all states and some companies limit the coverage to 120 percent of the cost of rebuilding your home. This gives you protection against such things as a sudden increase in construction costs due to a shortage of building materials.

3. Actual Cash Value: Insurance under which the policyholder receives an amount equal to the replacement value of damaged property minus an allowance for depreciation. Unless a homeowner’s policy specifies that property is covered for its replacement value, the coverage is for actual cash value.

For a quick estimate of the amount to rebuild your home, multiply the local building costs per square foot by the total square footage of your house. To find out the building rates in your area, consult your local builders association or real estate appraiser.

Factors that will determine the cost to rebuild your home:

- local construction costs
- the square footage of the structure
- the type of exterior wall construction -- frame, masonry (brick or stone) or veneer
- the style of the house (ranch, colonial)
- the number of bathrooms and other rooms
- the type of roof
- attached garages, fireplaces, exterior trim and other special features like arched windows.

Also be sure to check the value of your insurance policy against rising local building costs each year. Ask your insurance agent or company representative about adding an "INFLATION GUARD CLAUSE" to your policy. This automatically adjusts the dwelling limit when you renew your policy to reflect current construction costs in your area. Also, be sure to increase the limit of your policy if you make improvements or additions to your house.

Q. WHY DO SOME LENDERS CHARGE PMI INSURANCE?

A. Private mortgage insurance is a type of insurance that helps protect the mortgage company against losses due to foreclosure. This protection is provided by private mortgage insurance companies and allows mortgage companies to accept lower down payments than would normally be allowed.

Private mortgage insurance also enables mortgage companies to grant loans that would otherwise be considered too risky to be purchased by third party investors like the Federal National Mortgage Association (FNMA) and the Federal Home Loan Mortgage Corporation (FHLMC). The ability to sell loans to these investors is critical to maintaining mortgage market liquidity, which in turn, allows mortgage companies to continue originating new loans.


Q. HOW CAN I GET RID OF MY PMI INSURANCE?

A. Mortgage insurance can usually be canceled by the homebuyer after he or she has at least 20 percent equity in the home. Borrowers should contact their servicer to find out the procedure for canceling mortgage insurance when they think they have achieved 20 percent equity. Guidelines for canceling private mortgage insurance are set by investors. Typically, investors will require an appraisal on the property. The servicer can recommend qualified local appraisers.

Q. WHY DO I NEED TITLE INSURANCE?

A. A policy of title insurance is a contract of indemnity between the insured and the insuring company relating to the title to the land described in the policy, protecting the insured against loss of damage by reason of defects, liens or encumbrances of the insured title existing at the date of the policy and not expressly excepted from its coverage.

The policy is issued after a complete search and examination of the public records and shows the condition of the record title, including any money obligations outstanding against the property, easements and other matters which may affect the rights of ownership, possession and use of the property.

Title insurance protects the "record" title, insuring it is good subject only to the exceptions expressly set out in the policy. lt also insures against certain matters which do not appear of record, such as forgery, identity of parties, incompetence of former owners, interest of missing heirs, and status of individuals not having the "right" to sell property.

There are different types of policies. Owner’s policies are issued to real estate owners. Purchaser’s policies are issued to purchasers of real estate under contract. Mortgage policies are issued to mortgage companies. In addition there are several other special forms of policies. There is a type of policy to meet the requirements of almost any form of real estate transaction.