This chapter analyzes redundant charges imposed on buyers and sellers for the basic services necessarily rendered by lenders, escrow companies and title insurance companies to earn the primary fee they charge.
The hidden costs surrounding a loan
A homebuyer’s obligation to close escrow on a purchase agreement is typically conditioned by a contract provision requiring the buyer to obtain satisfactory purchase-assist financing. The loan contingency provision activates two federal mortgage laws which, in addition to California laws, control the disclosures and charges of all third-party participants in the sales transaction, called service providers. The charges for services rendered by the service providers are called transactional costs.
Consider a buyer who needs financing to acquire a home. The buyer’s real estate agent, called a transaction agent by lenders, refers him to a lender whose loan representative claims its costs for originating a purchase-assist loan, called settlement costs or closing/escrow costs, are the lowest available. The claim of low costs is rooted in the presumption that interest quotes from all lenders are the same — which they are not, some are based on par rates and others add a yield spread premium (YSP) rate for commissions.
After reviewing the loan representative’s written good faith estimate (GFE) containing his lender’s rates, all loan related charges, and third-party settlement costs, the buyer submits a loan application to that lender as mandated by both state and federal mortgage law. The lender is not paid an upfront fee for processing the loan application. [See first tuesday Form 204 (DRE 883)]
Three days after submitting the loan application, the buyer receives a second, refreshed GFE and a Truth-in-Lending Act (TILA) Regulation Z disclosure statement from the lender as required by federal mortgage law on personal-use loans. The TILA disclosure itemizes the specific loan terms offered by the lender to the buyer, such as the annual percentage rate (APR), amount financed, finance charges, and interest rate. [See first tuesday Form 221]
The buyer discovers the loan closing costs and interest rate now disclosed by the lender in the refreshed GFE and TILA disclosure are substantially higher than previously quoted by the loan representative in the initial GFE given to the buyer.
The buyer and his agent contact the loan representative and question the increased fees and raised interest rate. The buyer insists the lender honor the costs and rate estimates given in the initial GFE which induced him to submit the loan application, since costs and interest rates have not changed.
The lender’s loan representative assures the buyer the second GFE and TILA disclosure represent a legal formality which overestimates the actual closing costs and interest rate so figures for a worst case scenario can be provided to potential buyers/borrowers.
The buyer is not advised by his agent to:
- submit a back-up loan application to another lender as a precaution; or
- obtain a written representation from the lender’s loan representative reconfirming the lower closing costs then stated in the refreshed GFE and TILA disclosure.
The lender processes the buyer’s loan application and eventually qualifies the buyer and the property.
The lender’s loan representative advises the buyer the loan documents are ready and must be immediately signed and recorded before the end of the month. The buyer is also informed that if the terms of the loan are unacceptable, the loan offer will expire and the loan process will have to start anew next month. The loan representative warns the buyer of the potential for interest rates to rise.
Contrary to the earlier assurances of the lender’s loan representative, the buyer’s actual loan costs and interest rate on closing are nearly identical to the higher, refreshed GFE and TILA disclosure given to the buyer three business days after submitting his loan application. The buyer now objects to paying the additional fees and the higher interest rate.
The lender refuses to adjust the closing charges and claims the interest rate is the current market rate, taking into account the buyer’s discount (prepaid interest) charge, sometimes called points. The buyer then turns to his agent for advice. The agent recommends the buyer pay the lender’s fees, suggesting they are customary costs for a new loan.
The buyer now needs to close the deal and take possession of the property since his family is committed to the purchase and they are beyond the point of no return. Thus, the buyer pays the lender’s fees and agrees to the higher interest rate, both of which were measurable greater than orally promised by the loan representative and set out in the initial GFE. The transaction closes and the agent is paid his broker fee through escrow.
Is it reasonable for the buyer’s agent to allow his buyer to rely on the loan representative’s oral representation about the purpose of the post-application GFE and TILA disclosure made by the lender?
No! The lender may charge the buyer the amounts listed on its post-application GFE and TILA disclosure since no change in those charges were made at the time of closing. More importantly, the lender may at the time of closing alter the various charges by merely issuing an amended TILA disclosure or yet another GFE, without regard to the oral assurances given by the lender or its loan representative.
An oral agreement with a lender or its loan representative is not legally binding, nor is the TILA disclosure or GFE. This includes the first copy given to the buyer to induce him to submit a loan application and the second, refreshed copy given three days after submission of the loan application. [Kruse v. Bank of America (1988) 202 CA3d 38]
A separate, concurrent loan application submitted to another mortgage lender is the best tool available for a buyer to protect himself against lost expectations and overcharges when finally presented with loan documents at the time of closing. Multiple loan applications pit one lender against another in the mortgage market, reducing the tendency of a lender to increase fees and rates when no competing lender exists at the time of closing.
Par rates used for setting the value of a new loan origination are the rates used by mortgage lenders, and vary little from one lender to the next at any time. It is the commissioned loan representative’s YSP, a rate of interest the loan representative tacks onto the loan’s par rate set by the secondary market to increase his compensation for arranging the loan, which artificially increases the rate of interest on the loan. This increase takes place without the knowledge or consent of the loan representative’s borrower, the buyer.
However, additional fees, higher interest rates, and miscellaneous charges sought by different lenders and loan brokers at the time of closing will only begin to evaporate — in spite of the law — when the buyer has submitted multiple loan applications to different lenders.
Duplicate charge for same service
Real estate sales transactions during periods of rising property values are increasingly subject to duplicate charges imposed on both buyers and sellers by brokers, lenders, escrow agencies and title companies. Duplicate charges for integral services, called kickbacks or hidden costs based on who ultimately receives the funds, are redundancies constantly experienced by the buying and selling public, in violation of The Real Estate Settlement Procedures Act (RESPA).
Public policy and sound economics suggest that duplicate charges are improper and make the real estate market less efficient. The charging of garbage fees usually results from the systematic elimination of more competent and less costly competition. Also, kickbacks to listing and selling brokers (and builders), which are a violation of federal RESPA laws, are openly undertaken by some mortgage lenders, to say nothing about the conduct of the largest title insurance companies, in an illegal effort to garner a greater share of the available business.
Kickbacks are a corrupting business policy. Legitimate operators find it difficult to compete with fraud without also stooping to the same fraudulent actions to meet the corrupt competition. Kickbacks, in the form of referral fees or other indirect financial benefits used to steer or capture business, deliberately interfere with the availability of lower rate loans with fewer charges. The buyer is referred to the lender (or title company) who provides the largest kickback, away from the legitimate non-participating competition who will not take part in the consumer fraud.
All brokers and agents in a sales transaction, called transaction agents, are prohibited from accepting a referral fee for advising parties to employ a particular service provider. The payment of a referral fee by escrow companies, escrow officers, pest control operators, security installers and title insurance companies is specifically prohibited by state law. Although it should, California legislation does not prohibit the payment of broker referral fees by lenders, or anyone else who renders closing services as a third party in a real estate transaction, if the broker is already collecting a fee for acting on behalf of a principal. Brokers are now limited to merely disclosing to their principal the amount of the referral fee they are receiving. [Calif. Business & Professions Code §10177.4; see first tuesday Form 119]
Real estate agents who are employed by a broker (which they must to act as licensees) face a similar prohibition in real estate transactions. Agents acting under their licenses are not permitted to accept a fee or other benefit from any person other than their employing broker, or to pay a fee to any other broker or agent without first directing the payment through their employing broker. [Bus & P C §10137]
For example, an individual licensee, either a broker or sales agent, refers a prospective client to another agent under an agreement to receive one half of the broker fee paid to the agent. While the broker’s agent can agree to split the fee, unless prohibited by his employing broker, the agent does so on behalf of his broker. Thus, the agent must instruct his employing broker to make the payment of the referral fee to the other agent’s broker out of the funds earned by the agent as a result of the referral. The agent may not first receive the fee due him from his broker and then pay the referral fee directly to the referring licensee.
Most importantly, the broker or his agent undertaking the representation of a client must advise the client of the dollar amount of any referral fee or other benefit they receive from any provider of services arising out of the client’s real estate transaction. If the fee or benefit received as compensation for the referral is not disclosed, this non-disclosure is punishable by suspension or revocation of the employing broker’s or the agent’s license, or both. [Bus & P C §10176(g); see first tuesday Form 119]
Double fees, padded charges, same service
Lenders improperly commingle the labeling of all charges listed on loan disclosure estimates as fees. In fact, analysis classifies three types of lender charges:
- fees for lender-performed services integral to the administrative process of originating a loan;
- costs incurred and paid by the lender and passed on to the borrower for services performed by third parties (such as appraisers and credit reporting agencies); and
- prepaid interest in the form of loan discounts and points paid to buy-down the interest rate from the lender’s par rate or to produce additional earnings for the lender.
Thus, three forms of lender corruption exist:
- fees charged twice for the same loan origination service, usually fragmented into several listed services, the aggregate of which are simply the minimum necessary loan origination activities continuously performed by lenders in every loan transaction;
- padded charges which overstate the lender’s actual out-of-pocket costs for third party services, or are paid to third parties for steering business to lenders; and
- higher interest rates charged on loans than the lender’s par rate to provide the lender with earnings in the form of a YSP taken through table funding or later resale of the loan.
RESPA bars second-fee, same-service scams
All providers of services to buyers and sellers to open and close a real estate transaction which involves the origination of a federally-related loan must comply with the requirements of RESPA, also known as Regulation X.
A federally-related loan which triggers the control of costs under RESPA is a loan originated and secured by a trust deed lien on:
- one-to-four unit residential property; or
- manufactured housing;
- made by a lender who annually invests or originates loans retained in the lender’s portfolio totaling over $1,000,000;
- made by a federally insured bank or thrift;
- eligible for purchase in the secondary mortgage market by the Federal National Mortgage Association (Fannie Mae), Federal Home Loan Mortgage Corporation (Freddie Mac) or the Government National Mortgage Association (Ginnie Mae); or
- is insured by the Federal Housing Administration (FHA) or the Veterans Administration (VA). [24 Code of Federal Regulations §3500.2(b)]
For example, RESPA establishes a no-new-service, no-second-fee restriction on the earnings a transaction agent, lender, mortgage loan broker, or escrow or title insurer, called a service provider, while rendering services on behalf of a buyer or seller in a real estate transaction financed by the origination of a RESPA loan. These transactions are typically single family residences (SFRs) bought with funds from a purchase-assist loan.
Service providers may charge a fee in any amount reasonably related to the bundle of general services included in their basic fee, whether the fee is for brokerage, escrowing, loan processing, appraisal reports, pest control or home inspection reports, attorney’s fees, or a title search. The basic fee is almost always permitted to be charged, no matter the amount, for these settlement services. Competition among providers offering the same services will keep the buyer, seller or borrower from being overcharged for transactional costs – the goal of RESPA.
For a fee to qualify as a charge for a settlement service and be collectible by a broker, escrow or lender from a buyer, seller or borrower in a RESPA transaction (purchase-assist loan on the sale of one-to-four residential units), the services performed by the broker, escrow, or lender must:
- directly benefit the buyer, seller or borrower; or
- be performed at or before the closing. [Cohen v. J.P. Morgan Chase & Co. (2nd Cir. 2009) __ F.Supp. ___]
Further, any fee charged in addition to the basic fee for services performed at or before closing can not be a surcharge for:
- an itemized service which duplicates any part of the general services implicitly rendered in exchange for the basic brokerage fee, escrow fee or loan processing fee, and thus increases its price;
- general administrative costs of the broker, escrow, or lender for transaction coordinators, bookkeepers, business insurance, furnishings, fee sharing, broker-mandated trade union dues and other operating overhead, costs implicitly covered in the basic brokerage fee, escrow fee or loan processing fee, or activities such as regulatory compliance requiring employee oversight/supervision and file maintenance;
- improved services by upgrades in training, online assistance, equipment or graduating office rent to better support the buyer, seller or borrower; or
- assisting buyers or sellers to locate property or prospective buyers through advertising, discounted fees, referral fee sharing and the like.
For a broker, escrow, lender or other provider of services connected with the creation and closing of a RESPA controlled real estate transaction to collect a fee, an underlying basis must exist to support any separately listed service, a.k.a. garbage fees or junk fees, if the service provider is to be able to collect that fee as a settlement service earned. If no underlying basis exists, the service will be barred as a violation of RESPA. If the service itemized as the additional junk fee is a service the broker, escrow or lender renders to most buyers, sellers or borrowers in the creation or closing of the sales transaction, the additional fee is barred as a duplicate charge since the service is implicitly included and thus paid for in the basic fee which, if allowed, would simply increase the price of that service, a prohibited double-pricing activity.
For the additional brokerage/escrow/loan fee with its separately stated service to be collectible, the service itemized must be another and different service – extra service – not normally provided to most buyers, sellers or borrowers prior to or at the close of the sales transaction. If the itemized service is a service normally performed and integral to the completion of the services the broker/escrow/lender agreed to render, then it is a basic service covered implicitly in the basic charge for the services of the provider – the broker, escrow, lender, title company, etc, and is thus uncollectible.
In the end, RESPA merely requires the provider of services, be he the broker, escrow, lender or others, to adjust their basic fee to cover their costs and allow for a profit; not to add miscellaneous junk fees as surcharges to increase the revenues they receive for what actually is part of their basic service. With one-tier pricing, the customer can compare the advertised fee for the list of services to be rendered, one broker’s services against another’s, without the nickel-and-dime effect of surcharges to add the maze of a “bonus feature,” a deceit upon the public.
Consider a prospective buyer who enters into a listing agreement with a selling broker. A 3% broker fee due on closing is negotiated for finding a suitable property for the buyer. The broker locates a suitable one-to-four unit residential property, the purchase of which will be financed by a federally related loan, subjecting the transaction to RESPA.
On closing, the broker charges the buyer an additional fee, a surcharge to defray his overhead costs (transaction agent) in addition to the agreed-to 3% broker fee. The buyer refuses to pay the surcharge fee, claiming it violates RESPA’s no-new-service, no-second-fee prohibition since no additional, beneficial service was provided by the broker to support the fee.
Can the broker surcharge the buyer a fee for basic services which are normally provided by the transaction agent when representing a buyer?
No! The surcharge fee violates RESPA’s no-new-service, no-second-fee regulation since no additional service was provided. Thus, no additional settlement service fee – the surcharge – was “earned” by the broker to be charged the buyer. [Busby v. JRHBW Realty, Inc. (April 20, 2009) __ F.Supp__]
Further, a lender or mortgage loan broker is prohibited from paying a fee to a commissioned transaction agent who represents the seller or the buyer in a sale which will be funded by a RESPA loan, unless the transaction agent performs significant services on behalf of the lender for which the fee is paid. Thus, a transaction agent (the broker) may receive a second fee if he renders significant loan origination services which would otherwise be performed by the lender.
A second fee cannot be paid to any transaction agent simply for directing the buyer to the lender who will make the loan. That type of referral fee, a second fee on the same transaction without more than the effort of referring, is illegal to pay or receive.
For example, a broker and his agent are entitled to a second fee in a sales transaction if the fee is for their handling the loan escrow or processing the loan application and loan documents. These services are significant since they are not normally performed by a transaction agent (broker) as part of their representation of buyers and sellers. They are additional closing services provided under separate contracts from the listing employments in a sales transaction. Conversely, the advice and counsel given a buyer or seller as to which lender (or escrow, title insurance company, etc.) to use is part of the assistance and services expected by clients for the basic brokerage fee compensation the transaction agent receives on the sale.
A lender and transaction agent (broker) are in compliance with the no-new-service, no-second-fee rule if the earnings the broker is to receive for the second service were due as:
- payment for goods; or
- payment for services rendered, other than the referral. [12 United States Code §2607(c)]
A transaction agent can be paid and accept an additional fee for a second service he performs, such as a fee paid by a lender to the sales broker (or agent). However, the broker or the agent acting as a transaction agent must perform at least five loan origination activities normally performed by the lender or a loan broker to justify the fee. Further, if sufficient loan origination activities are performed by the transaction agent, then the second fee must be further justified as a dollar amount others would be paid to competitively perform the same services.
A minimum number of loan origination services must be performed by the transaction agent before any fee is justified. Consider a transaction agent who initiates the performance of loan services by assisting the buyer in the preparation of the loan application to be submitted to the lender. To justify receipt of the second and loan related fee, the transaction agent must perform at least five of the following loan origination services:
- pre-qualify the buyer/borrower to determine the maximum loan amount he can afford by analyzing the buyer’s/borrower’s income and debt [See first tuesday Form 230];
- advise the buyer/borrower on the home-buying and purchase-assist loan process, about the different types of loans available, and the variations in costs, rates, and payments on the various loans;
- gather financial information from the buyer/borrower such as tax returns, profit and loss statements, bank statements, and balance sheets needed to complete the application process;
- order out verifications of employment and cash deposits [See first tuesday Forms 208, 208-1 and 209];
- order out requests for loan verification on other debts owed by the buyer/borrower [See first tuesday Forms 209, 210, 210-1 and 211];
- order out the appraisal to determine the property’s fair market value (FMV) [See first tuesday Form 228];
- order out property inspection and engineering reports [See first tuesday Form 130];
- review with the buyer/borrower the process for clearing credit problems which might arise;
- apprise the buyer/borrower, broker, and lender of the status of the application, and what further information or documentation each needs to close, by continuing to conduct regular contacts after taking the loan application until the close of the transaction [See first tuesday Form 339];
- order out legal documents (statements) which are required for escrow to close, or a policy of title insurance to be issued;
- order out a flood hazard report on whether the property is located in a flood zone; and
- assist as an active participant in the closing of the loan. [HUD Policy Statement 1991-1, Section C]
However, if the five loan origination activities performed are related only to counseling (as contrasted to loan documentation efforts), then the sales transaction agent must:
- present and advise the buyer/borrower on the availability of loans from at least three different lenders (to avoid steering the buyer/borrower to a single lender);
- be paid a fee for his counseling services regardless of which lender is ultimately selected by the buyer/borrower; and
- inform the buyer/borrower that the fee paid for the transaction agent’s loan origination services is a competitive rate based on the value of the services rendered, and not contingent or based on the loan amount or type of loan originated with the referred lender.
Profit from the yield spread premium (YSP)
Consider a buyer of real estate who contacts a loan broker for a purchase-assist loan. The loan broker assists the buyer in completing the loan application, counsels the buyer on loan programs, requests and gathers financial data on the buyer, analyzes the buyer’s debt and income ratios, arranges appraisals and inspections, and prepares and hands the buyer RESPA disclosures, Reg Z disclosures, and other required notices. The loan broker then submits the loan package to a lender for approval and funding. [See first tuesday Forms 201 and 202]
For his compensation, the loan broker enters into a listing agreement with the buyer calling for a 1% loan origination fee for his services. The lender who will fund the loan publishes a daily rate sheet in which the lender offers to also pay the loan broker a fee. The amount of the fee from the lender is based on the present worth of the spread between the lender’s par rate quoted for the loan and the note rate the loan broker negotiates with the buyer, a difference in the value of the loan called the yield spread premium (YSP). Total compensation paid by the buyer and the lender to the loan broker is around 2.5% of the loan amount. [See first tuesday Form 104]
After closing, the buyer determines the interest rate on his new loan is a little above the rate charged on other loans originated at the same time. The buyer then discovers the loan broker he employed received a kickback from the lender for the value of the YSP, a fact which was not previously disclosed by the loan broker or lender. The buyer claims the loan broker’s compensation which included the YSP was not agreed to and must be returned to the buyer since it constituted a kickback prohibited by RESPA and state agency law – the loan broker had “sold” the buyer a higher loan rate in order to earn an additional undisclosed and unapproved fee.
The loan broker claims the total compensation received for the services rendered to the lender by preparing the loan package was reasonable and not excessive, and thus not a violation of RESPA.
The buyer claims that compensation exceeding the agreed-to 1% origination fee and costs is excessive.
Has the loan broker violated RESPA by collecting a YSP from the lender?
No! The loan broker has provided compensable loan-related services for payment of the YSP. The buyer is unable to show that the loan broker’s total compensation, inclusive of YSP, exceeded fees charged by competing loan brokers for the same services at the time. [Dominguez v. Alliance Mortgage Company (2002) 226 F. Supp2d 907]
However, a loan broker retained by a borrower must, under state agency law, disclose to his borrower all compensation he receives, from any source, when the earnings flow from the employment by his principal, the borrower. If not disclosed, the borrower can recover the entire fee the loan broker received on the transaction. This recovery of all fees paid to the loan broker also applies to a sales broker and his agent who are paid an undisclosed referral fee. [See first tuesday Form 119]
The broker-lender knot
This scenario is further aggravated by the conflicting adversarial relationship which legally exists between the buyer’s selling agent, whose duty of care is owed to the buyer, and the lender, with whom the buyer’s agent collaborates in the sales transaction to receive additional earnings. The buyer’s agent has an obligation to the buyer to fully disclose any self dealings and additional compensation received in the transaction (such as the referral fee) to avoid violation of state agency law.
In the context of a real estate purchase, the buyer’s agent is the buyer’s most reliable and knowledgeable ally. This alliance extends beyond the moment the purchase agreement offer is accepted to all critical interactions with the lender who will fund the closing. The lender is not an agent of the buyer, but his adversary.
By negotiating a fee arrangement with the mortgage lender, the buyer’s agent aligns himself with the lender, who is a hostile third party with a financial interest economically adverse to the buyer in the purchase transaction negotiated by the agent. [Kruse, supra]
The only fee a loan broker should charge, in addition to reimbursement for third-party provider costs, is an administrative/processing fee for the loan broker’s non-interest earning activities performed prior to recording the loan. Points and discounts are the prepayment of interest on the loan, not compensation for arranging and making the loan.
Origination activity for which the loan broker charges a processing fee must, by necessity, include all the basic services required of the loan broker to actually arrange a loan, such as review the loan application, underwriting risk analysis, processing loan documents, and funding the loan, in addition to any other services the loan broker customarily performs to originate a loan.
Consider these basic rules: All real estate brokers and their agents are prohibited from knowingly underestimating lender closing costs. A selling broker’s silence in the face of known lender misrepresentation to the buyer constitutes a breach of his agency duty. Additionally, it is the selling (buyer’s) agent’s duty to locate the best possible financial advantage readily available to the buyer – his client. [Bus & P C §§10176, 10177]
Yet, ironically, buyers are all too often left by their selling agents to single-handedly wrestle with the only adversarial element remaining at the time of closing, the lender who will fund the closing and has no duty to anyone but itself. [Drennan v. Security Pacific National Bank (1981) 28 C3d 764]
The selling agent, best fulfills his agency duty to his client by:
- bargaining with multiple lenders rather than forming a solitary alliance with a single lender or allowing only one loan application to be submitted, a condition where the buyer will, out of necessity, have to accept the terms of that lender at the time of closing;
- enlarging the number of lenders he regularly bargains with to obtain the most affordable and advantageous loan package for his clients (commonly called working the marketplace); and
- understanding that all oral representations made by lenders or their loan representatives to the agent or the client are worthless, unless put in writing and signed by the lender’s representative.
Any of the following fees listed in addition to an administrative fee are duplicate charges:
- document preparation fee: for preparing the loan documents needed to originate the loan;
- loan application fee: for examining the buyer’s credit history and determining whether he qualifies for the loan (typically, the charge for this service is part of, or credited to, the loan administrative processing fee rather than charged separately);
- processing fee: for the preparation of loan-related documents;
- underwriting fee: for lender’s risk analysis and loan approval before funding a loan; and
- warehousing fee: for the mortgage lender’s acquisition of money on a line of credit extended by a bank so it can fund the loan.
Fees for inflated costs incurred by the lender and passed on to the buyer include:
- appraisal fee: appraisers are paid $250 to $500 by the lender, depending on the value of the property in question, while the lender passes the appraisal cost on to his borrower at an increased amount;
- credit report fee: for obtaining the buyer’s credit and telecheck report from a credit reporting agency (agencies typically provide credit and telecheck reports for around $10, while lenders generally pass on the charge at $70 or more); and
- funding/wire fee: charged by the lender for the transfer of funds from one account to another (the wire transaction itself costs around $15, while the lender generally passes on the charge at $50 to $300).
Lenders occasionally omit or misrepresent fees during the initial GFE prepared to induce a buyer to submit a loan application. Sensing their advantage in real estate transactions where timing is everything, lenders later add and increase fees by including them on the final (amended) GFE and TILA disclosure at the time of closing. At that moment in time, it is too late for the buyer to change lenders or successfully challenge the increased fees.
A competent buyer’s agent managing the buyer’s activity can prevent some of these unscrupulous charges from occurring. What must be understood by the buyer’s agent is that the lender’s product – money – is unpriced until closing. This holds true in spite of the GFE and TILA interest rate disclosures that are given to the buyer within three business days following the lender’s receipt of the loan application. [See first tuesday Forms 204 (DRE 883) and 221]
The most competent buyer’s agents have experience policing lenders and are aware of the methods they use to glean the highest rates, most points and garbage fees from the unprotected buyer. If the lender’s tactics are anticipated by the buyer’s agent, he can counsel the buyer to be on guard against any form of deceit. By doing so, the buyer’s agent prevents the lender from pulling the wool over the buyer’s eyes, as history has proven they are prone to do.
Lender disclosure requirements
A lender who makes a loan which funds the purchase of one-to-four unit residential property must provide the borrower with a GFE of all the transactional costs as mandated by RESPA within three days after the lender’s receipt of the borrower’s loan application. [12 CFR §226.19; see first tuesday Form 204 (DRE 883)]
Thus, if the loan funds a personal-use loan, such as a purchase assist loan for a principal residence, TILA disclosures regarding the loan terms are presented to the borrower by the earlier of:
- three business days after receiving the borrower’s loan application (which is set by the time limit for presenting RESPA GFE cost disclosures); or
- prior to entering into a loan agreement, usually the loan escrow instructions. [12 CFR §226.19(a)]
These TILA loan disclosures include statements informing the buyer of:
- any possibility of interest rate or payment adjustments (variable rates);
- the formula used to make these adjustments;
- the manner in which the interest rate and payments will be determined; and
- the frequency of changes in the interest rate. [12 CFR 226.19(b)]
The purpose of TILA disclosure requirements is to promote homeownership through informed use of consumer credit and to discourage unnecessary or hidden costs to be charged to the buyer during a loan transaction. These objectives are accomplished through a comparative analysis by the buyer as provided by the lender’s use of a uniform set of disclosures made by all competing lenders. [12 CFR 226.1(b); see first tuesday Form 221]
Although federal disclosure requirements are imposed to protect borrowers, the protection afforded is extremely limited.
For example, the lender may still alter the loan terms even after the original TILA disclosure has been delivered to the buyer. If the lender later changes the loan terms in a way which affects the interest rate and payments, the lender is merely required to issue a new TILA statement prior to funding the loan.
The redisclosure requirement at the time of funding does not apply when the lender alters any other loan terms, such as an increase in service charges for originating the loan. [12 CFR §226.19(a)(2)]
Erroneously, many buyers are not advised by their agents to shop around and contact multiple lenders for purchase-assist loans. Thus, the internet has become the alternative source of brokerage advice for buyers, and provides an expansive source of loan information (also available to curious real estate agents).
Multiple government agencies, both federal and state, promote the practice of submitting multiple applications. To assist the buyer with the task of comparing the costs and rates of two or more lenders, agencies such as the California Department of Corporations, Freddie Mac, the Federal Reserve, and the Federal Trade Commission publish Mortgage Shopping Worksheets. These worksheets are designed to be completed by the buyer with the assistance of the buyer’s agent. They contain two columns for itemizing all the variables commonly occurring at the time of origination or over the life of a loan.
After submitting loan applications to two lenders and receiving the corresponding GFE and TILA Reg Z disclosures, the buyer and his agent will possess all the information needed to fill in the columns, one for each lender. Once complete, the buyer and his agent can compare the terms offered by the competing lenders and proceed to act on the more advantageous offer. Information on available terms offered by different lenders can also be gathered from loan representatives and analyzed before submitting applications.
The California Department of Corporation’s Mortgage Shopping Worksheet can be obtained at www.corp.ca.gov.
Avoiding unnecessary lender fees
A homebuyer can take steps to avoid unnecessary fees and stress caused by the lender, such as:
- seek out financing and pre-approval for a loan by a direct lender prior to entering into a purchase agreement with a seller;
- submit loan applications to two lenders on entering into a purchase agreement;
- attempt to advance only the lender’s out-of-pocket costs (credit and appraisal reports) prior to funding of the loan, and then only after receiving the lender’s GFE disclosure;
- consider offering the seller carryback financing as a less expensive alternative to a new loan; and
- demand signed estimates of interest rates (Reg Z related) and loan origination costs (RESPA related) from the lender’s representative. If an adjustable rate mortgage (ARM) is arranged, the buyer must request an ARM disclosure statement be filled out by the lender’s representative. [See first tuesday Form 320]
By submitting loan applications to two lenders, the buyer can:
- select the lender who, through comparative shopping, offers the best loan terms at the time of closing;
- lock-in the interest rate on one loan (in writing) and not lock in the other loan, which is subject to daily interest rate fluctuations; and
- negotiate with the lenders at the time of closing for fewer fees, using pre-application GFEs by the loan representatives as a wedge.
Lenders, of course, do not like to be competitive. Thus, they instinctively advise buyers not to submit multiple applications for credit (which will occur on multiple loan applications), wrongfully claiming additional applications will interfere with debt ratio analysis during the loan processing.
A buyer who submits applications to two lenders has retained a bargaining chip to protect himself against a lender who later:
- loads on the garbage fees at the time of closing; or
- is unable or unwilling to originate the loan on the terms initially represented by it, or at the lower prevailing par rate available elsewhere at the time of closing.
The submission of a loan application to one lender, even multiple lenders, does not commit the buyer to any obligation to any lender. Though a lender may disclose reasonable and competitive cost estimates (RESPA) and loan terms (TILA/Reg Z) before and at the time the initial loan application is submitted, luring the buyer to stay with them during the loan packaging process, the lender has no obligation not to boost its costs, fees or the interest rate at any later stage in the process, usually reserving these boosts for three days before closing.
If the estimate of costs and rates worked up by the loan representative prior to submission of the loan application are widely divergent from those furnished in the GFE and accompanying TILA annual percentage rate (APR) disclosures, the lender’s true colors are instantly exposed. The buyer, with the proper guidance of the buyer’s agent, can determine whether the loan representative gave them straightforward and honest information, or if the initial interview with the loan representative was a fabrication to entice the buyer to apply for a loan.
Although the second application doubles the buyer’s application costs, these costs are minimal in comparison to the total dollar amounts involved in the transaction. The buyer’s agent should not let the borrower be dissuaded on these grounds as this cost is the premium paid for covering the risk of changes at closing.
Escrow fees for “extras”
Escrow agents are subject to RESPA cost controls when a one-to-four unit residential property is the subject of their sales or loan escrow. Yet escrows have also jumped on the hidden-cost bandwagon by adding fees, but not additional services.
Rather than openly admitting to fee hikes and risk losing business to competitive RESPA compliant escrow officers, escrow companies generally advertise a low rate for basic services, and upon closing charge for services proclaimed as extras.
Extras are most frequently fundamental services necessary to the escrowing of every transaction. These necessary services are often separately itemized as additional charges as though the service was especially unique to this transaction and not a service performed as a necessary step. However, these charges are merely a duplication or redundancy of services necessarily performed as part of the basic service fee since the separately itemized services are an integral part of the services required to be performed by an escrow officer in every escrow.
Some escrow companies are vague with their definition of what services are included in a basic escrow transaction. However, basic escrow service includes any activity required of escrow in the routine services expected and rendered in most every transaction.
Duplicate fees commonly charged by escrow agents include:
- fees for drawing deeds and notes;
- a fee for complying with lender instructions and handling the lender’s documents;
- an Internal Revenue Service (IRS) §1099 processing fee charged for filing a tax form (which is also separately prohibited) [Internal Revenue Code §6045(e)(3)]; and
- fees for notarizing signatures (which if allowed are limited to $10 per signature when performed at the escrow office). [Calif. Government Code §8211]
The fundamental events which constitute an escrow include:
- the receipt of funds from the buyer and lender (and, if deposited with a title company instead, any sub-escrow charge should be absorbed by escrow as a deduction from the client’s escrow fee since the escrow did not handle the money which is a most normal function of escrow);
- preparation of the seller’s grant deed and any carryback note and trust deed; and
- preparation of instructions for escrow’s delivery of funds and documents on satisfaction of conditions, called an escrow. [Calif. Civil Code §1057]
Thus, the most basic escrow services — after preparing written instructions — are preparing deeds, notes and trust deeds, handling funds and documents from the buyer and the buyer’s lender, ordering out reports and statements needed by escrow to comply with instructions and releasing all instruments on the close of escrow. One can recognize inclusive services by reviewing the boilerplate escrow instructions. An escrow officer should provide a notary seal at their office, but since the office-place notary acknowledgment is capped by law at $10 per signature, they happily prefer to meet at the buyer’s place of business or home and then charge $100.00 or more per signature.
Any escrow company itemizing the above services separately from the basic service is double charging for a single basic service, a RESPA violation when a federally related loan is involved. These services by an escrow agent are simply the minimum activities required to open, process and close an ordinary sales escrow.