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Real Estate Finance Today, 3rd Edition

Doris S. Barrell

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Course Objectives Define basics of real estate finance Review government Influences Discuss current issues in lending Describe conventional and government

loan programs Calculate monthly mortgage payments Examine special financing alternatives

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Basics of Real Estate Finance

Financing Instruments

Primary Market

Secondary Market

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Financing Instruments

Note

Mortgage

Deed of Trust

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The Note

Signed Legal documentStates terms and conditions for

repayment of the loanAccompanied by either a mortgage

or a deed of trust

“I. O. U.”

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The Mortgage

Pledges real property as security for debt

Creates a mortgage lien on property

Requires judicial foreclosure in case of default

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The Deed of Trust

Establishes real property as security for debt

Conveys title rights to trusteeTrustee has power of saleLender named as beneficiaryDoes not required court action to

foreclose

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The Transaction

Note + Mortgage or

Deed of Trust

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The Primary Market

Sources of funding

Broker or Banker?

Origination and Processing

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Sources of Funding

Commercial Banks

Savings Associations

Credit Unions

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Commercial Banks

Originally for short-term loans

Active today in mortgage lending

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Savings Associations

Originally called Savings & Loan

Historically primary source of mortgage lending

Also referred to as “thrifts”

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Credit Unions

Newcomer to mortgage financing

Provide service to members

Greatly expanding

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Mortgage Broker or Banker?

Mortgage Broker Originates loan Matches borrower

with investor Paid by “finder fee”

PLUS: has wide range of loan products

Mortgage Banker Originates loan Uses own money Continues to service

loan

PLUS: qualifying standards are set, underwriting flexible

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Origination & Processing

Prequalified? Preapproved?

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Members of the Team

Loan OfficerAppraiserProcessorUnderwriterClosing DepartmentSettlement Attorney or Agent

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Loan Officer

Meets with borrower Collects information

on assets & debts Fills out Uniform

Residential Loan Application

Determines appropriate loan product

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Appraiser

Appraisal is ordered by the lender

Appraisal paid for by borrower at time of application

Appraisal establishes value to substantiate the loan

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Processor

Receives application from loan officer, appraisal, and credit report

Collects and verifies all informationPrepares case file for submission to

underwriterStays in contact with borrower

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Underwriter

Approves or denies the loan

May set conditions

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Lender Closing Department

Prepares financing documents

Submits file to settlement attorney or title company closing agent

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Settlement (or Closing)

Attorney or title company agent Prepares deed to convey title Prepares HUD-1 Statement Conducts title search Acquires title insurance for lender and

purchaser Ensures all terms of contract are met

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Geographic Differences

Western states settle “in escrow”

Eastern & mid-west settle with attorney or title company agent

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Secondary Market

Fannie Mae

Freddie Mac

Ginnie Mae

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Fannie Mae

Originally chartered as Federal National Mortgage Association (FNMA)

Created in 1938 to purchase FHA loans Extended to VA loans after WWII Totally stockholder owned since 1968 Purchases both government and

conventional loans Sells mortgage-backed securities

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Freddie Mac

Originally chartered as Federal Home Loan Mortgage Corporation (FHLMC)

Chartered in 1970 to purchase conventional loans

Today purchases government and conventional loans

Sells marketable securities Under general oversight by HUD

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Ginnie Mae

Government National Mortgage Association

Created as spin-off from Fannie Mae in 1968

Guarantees mortgage-backed securities based on FHA and VA mortgage loans

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Private Investors

Insurance CompaniesPension FundsIndividual Investors

REMIC – Real Estate Mortgage Investment Conduit

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Private Investors

Life Insurance

Pension Funds

REMICs

Individuals

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Government Influences The Federal Reserve

Federal Home Loan Banks

Department of the Treasury

National Credit Union Administration

Dept. of Housing and Urban Development

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The Federal Reserve

Controls flow of money into the economy Discount Rate Reserves Open Market

Supervises commercial banks

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Federal Home Loan Bank

Established in 1932 to supervise savings associations

12 District banks (like the “Fed”) Federal Home Loan Bank Board

abolished in 1989 Supervision of savings associations

given to OTS Provides reserves and secondary market

for its members

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Department of the Treasury

Office of the Comptroller of Currency (OCC)

Office of Thrift Supervision (OTS)

Federal Deposit Insurance Corporation (FDIC)

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National Credit Union Administration (NCUA)

Independent federal agencyCharters and supervises federal

credit unionsOperates National Credit Union

Share Insurance Fund (NCUSIF)Insures savings in all federal and

many state chartered credit unions

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Dept. of Housing and Urban Development (HUD)

F H A

G in n ie M ae

F an n ie M ae &F red d ie M ac

In d ian H ou s in g

C D B G &S ec tion 8

R E S P A &F a ir H ou s in g

H U D

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Congressional Acts

Fair Housing Act of 1968

Equal Credit Opportunity Act (ECOA)

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Congressional Acts

Real Estate Settlement Procedures Act (RESPA)

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Congressional Acts

Truth-in-Lending Act (TILA)Requires disclosure of all cost of creditAnnual Percentage Rate (APR) must be

shownRegulation Z affects advertising

Community Reinvestment Act (CRA)Requires bank’s commitment to

community

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Congressional Acts

Taxpayer Relief Act of 1997

Sale of personal residence

$500,000 capital gains tax exemption for couple ($250,000 for single)

Must have occupied 2 out of past 5 yrs.

Can be taken every 2 years

No buy-up required

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Congressional Acts

Taxpayer Relief Act of 1997

Sale of Investment Property

Capital Gain tax on profit reduced to 15%

Depreciation recapture at 25%

Hold for 12 months

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Current Issues in Mortgage Lending The Subprime Crisis

Foreclosure Rates Increase

Importance of Credit Score

Required Homeowner Insurance

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The Subprime Crisis

Extreme growth

Declining housing market

New affordable lending options

Predatory Lending Concerns

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Foreclosures Increase

Who’s hurting?

Who’s to blame?

Who can help?

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Lender Workout Options

Foreclosure PresaleShort SaleDeed in LieuReinstatementForbearanceRefinancing

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Sources of Help

Consumer Credit Counseling Service

Non-profit organizations

888-995-HOPE

www.HOPENOW.com

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Credit Scoring

Equifax

Experian

(TransUnion

FICO

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Percentage of Contribution

Payment history 35%Current total debt 30%Length of credit history 15%Requests for new credit 10%Types of credit in use 10%

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Factors That Lower Score

Late paymentsToo many credit cardsExcessive potential creditMaxed-out cardsLiens, judgments, foreclosureMultiple inquiries

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Ways to Improve Score

Pay bills on time Reduce number of

credit cards Refuse preapproved

credit cards Refuse increased

loan limits Correct errors on

credit reports

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Required Homeowner Insurance

Disaster impact

Accelerating rates

Flood Insurance

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Conventional Mortgage LoansStandard Conforming Loans

Affordable Loan Products

Non-conforming Loans

Adjustable Rate Mortgage (ARM)

Growing Equity Mortgage (GEM)

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Standard Conforming Loans

Guidelines established by Fannie Mae and Freddie Mac

Made homeownership possible for more people

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Original Guidelines

Maximum loan amount – set annuallyMinimum down payment – 5%Qualifying ratios – 28/36Reserves – 2 monthsPrivate mortgage insurance requiredNon-assumableNo pre-payment penalty

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Private Mortgage Insurance

Protects the lenderRequired with less than 20% downPayment can be made upfront, financed

or paid in monthly incrementsLegislation mandates removal of PMI

when 78% LTV reachedWays to avoid PMI

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Ways to Avoid PMI

Lender-paid PMI Lender charges slightly higher rate

with no PMI payment

Combined lst & 2nd mortgage (trust) 80-10-10 80-15-5 80-20

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Affordable Loan Products

Fannie Mae Mortgage Solutions

Biweekly Mortgage

Expanded Approval™

Flexible 97 and Flex 100™

MyCommunity Mortgage™

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Affordable Loan Products

Freddie Mac Home Possible Home Possible 97

and 100 Neighborhood

Solution™ Initial Interest

Fixed-rate

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Non-conforming Loans

Loans which do not conform to Fannie Mae/Freddie Mac guidelines

Guidelines set by lender

Loans exceeding conventional limits are called “jumbos”

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Special Community Programs

Attract essential workers into community

Encourage low & moderate income first-time homebuyers

Help to move from subsidized housing

Promote revitalization

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Adjustable Rate Mortgages

Index Margin Note Rate Initial Rate Adjustment period Caps Assumable Convertable

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Example of a 1-year ARM

Index (T-bill) 4.0 Margin 2.5 Note rate 6.5 Initial rate 4.5 Caps 2/6

“Worst-case scenario” Yr. 1 = 4.5 Yr. 3 = 8.5 Yr. 2 = 6.5 Life of loan = 10.5

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Benefits & Disadvantages

Benefits

Qualify for more loan

Lower monthly payment

Good for short-term planning

Disadvantages

Payments increase

More interest paid Sharing risk with

lender

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Growing Equity Mortgage

Increasing payments to principal Decrease term of loan Save in interest paid

Bi-monthly mortgage Pay one-half payment every 2 weeks Creates one extra month’s payment

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Formulas Using Rate Factor

Formula One Determine principal

and interest payment

Multiply loan amount by rate factor

$200,000 x 6.65 =

$1330.00

Formula Two Determine loan

amount

Divide PI dollars by rate factor

$1330 divide by 6.65 = $200,000

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Calculating Monthly Payment

Principal and Interest

(loan amount times rate factor) Taxes and insurance

estimate 2% of sales price, divide by 12 Private Mortgage Insurance

(average .8% x loan amount divide by 12)

Condominium or Homeowner Fees

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Case Study #1 – The Browns

Annual income ($30,000 + $25,000)

Debts ($300) Savings ($5,000 plus

$5,000 gift) Interest rate - 7.5%,

30 yr loan Qualifying ratios –

28/36

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Case Study #2 - Greenberg

Income - $36,000Debts - $335Savings - $3,0007% interest, 30 yr.33/38 ratios

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Case Study #3 - Gonzalezs

Income - $70,000 Debts - $ 500 Savings - $15,000 8%, 30 yr loan 33/38 ratios

8%, 15 yr loan

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Government Insured or Guaranteed Loans

Federal Housing Administration

(FHA)

Dept. of Veterans Affairs (VA)

State or Local Programs

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FHA Loan Guidelines

Maximum loan amount : varies by area

Minimum down payment: 1.25% for sales price $50,000 or less: 2.25% for over $50 K

Qualifying ratios31/43

Seller contribution: up to 6% of sales price

Mortgage Insurance Premium: 1.50% upfront and .5% annual, charged monthly

Assumable with purchaser qualifying

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Mortgage Insurance Premiums for FHA Loan (MIP)

Upfront MIP

1.50% of loan amount amortized over life of loan

Not charged on condos

Annual MIP

.5% of loan amount divided by 12 per month

All FHA loans

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Compensating Factors

Low long-term debts Large down payment Minimal credit use Excellent job history History of making equal or greater

payments than new PITI Additional potential income

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Special FHA Programs

FHA/VA 203(h) – disaster relief

FHA/ARM 251 (1/5 caps)

Officer, Teacher Next Door

Housing Choice Voucher (formerly Section 8)

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FHA 203(k) Rehab Loan

Finance both purchase and rehab costs

97% LTV of projected value

Paid in “draws”

Minimum $5,000 in rehab cost

Owner-occupant only

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Calculate FHA monthly payment Principal & Interest

Loan amount x rate factor Taxes & Insurance

Estimate 2% of sales price divided by 12 Mortgage Insurance

Upfront: 1.50% of loan amount financed Annual: .5% of loan amount divided by 12

Condo or Homeowner fee

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VA Loans Certificate of Eligibility

90 days in wartime 180 days service before l980 2 yrs. Service since 1980 6 yrs for reservists & National

Guard

Entitlement set by VA 25% of current Fannie/Freddie

loan limit

Top 25% of loan guaranteed Bank lends 5 times entitlement

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VA loan Guidelines

Maximum loan amount: 4 times VA entitlement

Minimum down payment: 0 Qualifying ratio: just 41 Funding fee: similar to PMI or MIP Seller contribution: unlimited Assumable with buyer qualification Certificate of Reasonable Value:

appraisal

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VA Funding Fee

First Use Subsequent

0-5% down 2.15% 3.30%

5-10% down 1.50% 1.50%

10%+ down 1.25% 1.25%

RESERVISTS/NATIONAL GUARD

0-5% down 2.40% 3.30%

5-10% down 1.75% 1.75%

10%+ down 1.50% 1.50%

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Case Study #1 - Browns

Sales price: $142,000Mortgage: $137,740Calculate payment for FHA loan

FHA or MyCommunity Mortgage™?

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Case Study #2 - Wong

Income: $40,000Debt: $725Current rent: $850

Compensating factors?

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Case Study #3 - Martinez

Income: $28,000Debt: $80Savings: $2000

VA eligible?

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Special Financing Alternatives

Seller Financing

Low/Doc or No/Doc Loans

Loans for Self-employed

Alternative Sources of Cash

Reverse Annuity Mortgage

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Seller Financing

First or Second Mortgage (Trust)

Lease-Purchase Option

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Lease-Purchase Option

Non-refundable depositSales price establishedAccelerated rent with credit backLiability for repairsDelayed settlementFinancing arranged 60 days prior to

settlement

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Loans for Self-Employed

The Problem!

Solutions

Low/doc loan

Tax returns

Profit & Loss

Balance sheet

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Alternate Sources of Cash

Gift

CD, Stocks, Bonds

IRA

401(k)

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Reverse Annuity Mortgage

Payments to owner based on equity in home

Benefit to elderly needing cash Lump sum Payments Line of Credit

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Available RAM Programs

Private lender

FHA Home Equity Conversion Mortgage (HECM)

Fannie Mae HomeKeeper®