How are interest rates determined?

The two most pressing topics associated with loans are – how a lender determines my interest rate and how I can get a favorable rate? To answer these questions, let’s take a look at the criteria lenders use to base their decision.

Credit Rating – One of the most important factor for mortgages is the borrowers’ credit score. Credit scores aren’t the only thing considered in lending, but it is a critical aspect. Lenders will search for multiple payment defaults within the past two years.

Ratios – Next, lenders will calculate and examine the borrower’s monthly obligations. This does not include phone payments, utility bills, or anything not regularly reported in a credit report. Based on this, two ratios are determined: front-end and back-end. For most lenders, a “grade A” Conventional loan is one where a borrower has a maximum of 28% front-end and 36% back-end. For example, if a borrower makes \$4,000 in gross monthly income, they have a car payment of \$350, credit card payments of \$55, and a payment on a new house of \$1,000, this is how ratios would be calculated:

• 25% front-end ratio = \$4,000/\$1,000
• 35% back-end ratio = \$4,000/\$1,405

Down Payment – Lenders then factor in the total amount of the borrower’s down payment. The lower the down payment, the higher the interest rate. The more risk lenders have, the higher the rate given to the borrower. If a borrower has perfect  credit but wants to put 0% down, they’ll usually have a rate that is 0.5% more than a borrower who puts 10% down.

After these three points are considered by the lender, the borrower’s application must meet the specifications set by the underwriting department in order for the loan to be approved.

What is a discount point?

Discount points are intended to lower interest rates. A lender generally charges discount points for these purposes: 1 discount point = 1% of the loan amount. The discount fee is charged as a line item at the time of closing on the Closing Disclosure.

How much will I pay at closing?

The amount you’ll pay at closing depends on the type of loan you decide to get. Based on your home state, you generally pay these fees:

• Origination: 1% of the loan’s amount – the cost of establishing the loan
• Discount Points: Utilized to lower interest rates (see Discount Points section above)
• Appraisal: Varies based on house size
• Credit Report: Fee for getting your credit report from the credit bureau (see credit report question in the FAQs section)
• Underwriting: Payment for services provided to the end investor
• Processing Fee: Payment for services provided to the lender
• Flood Certificate: A certificate stating that your home is not in the 100-year flood zone
• Title Charge: Payment for closing your loan to the title company
• Title Policy: 1% of the price of purchase depending on the state (sellers normally pay)
• Recording: Fee for filing depending on the state

Most of these costs are charged by third parties and are not negotiable by you or the lender.

What's the point of a credit report?

When a Loan Officer helps you decide which  loan program is right for you, an important step is to view your credit. The purpose of the report is to pull your credit history from the three main credit-reporting agencies: Experian, Equifax, and TransUnion. Lenders are required to use outside agencies because they are impartial to the findings. Your account history and balances are verified, and you’ll receive a “credit score.”

What's the difference between Conventional and Federal Housing Administration (FHA) loans?

There are a lot of variables between Conventional and FHA loans. In this portion, we’ll go over some of the key differences.

For FHA loans, the minimum amount of down payment is 3.5 percent, while you can pay as low as 3 percent down with a Conventional loan, depending on your credit. Moreover, the money on a Conventional loan must have been in your bank for at least 60 days (“seasoned”) before purchasing the home. You can also use the proceeds from the sale of your existing home.

You must pay an upfront Mortgage Insurance Payment (MIP) on an FHA loan. For down payment less that 20% of loan amount, Conventional loans required Private Mortgage Insurance (PMI).

Question: will my taxes vary depending on the loan I choose? No. This is a common misconception people often have. Taxes will stay the same on either type of loan. The title company closing your loan submits the taxes directly to the lender. If you are in an attorney state, the person representing you will be the same one who orders the tax certificate from the district of appraisal. Taxes that are reported to the lender are included in your monthly payment for the loan. There will be no service or mark-up charges over and above the actual tax amount.

Homeowner’s insurance operates the same way. You pay the lender your monthly policy amount. The lender then escrows this amount and sends it to your insurance company when renewal is due at the end of the year.

Differences in interest rates will depend on the lender you pick.

The portion of payment regarding principal and interest is calculated by configuring the loan’s amount. Taxes, Insurance premiums  (MIP included in the payment on an FHA loan/ PMI included in payment on Conventional loan) and term into a schedule of amortization to calculate the amount of payment. Speak to your Supreme Lending Willmar representative to learn more about FHA and Conventional loans.