Should I Refinance?

I'm getting a lot of questions lately about whether or not to refinance. I'm looking into it myself, actually, so thought I'd share some thoughts.

First, let's talk about rates and the elusive 4.5% that some government agencies announced, then recanted, as a 'target'. First, that rate may never get here. Second, it may have restrictions around it (like only available to purchases) if it does get here. Third, rates are bouncing really darn close to that number now. Note that the rate also applies only to the conforming limit (currently $417K). "Jumbo conforming" (loans between $417K and $625K) will be higher, and regular "jumbo" above $625K are higher still. (As an aside, if your current loan balance is near one of these breakpoints, you should think about paying the difference down to get into the 'better' loan category.)

So, personally, I'm right on the verge of pulling the trigger. A bird in hand, as they say. Best thing to do is calculate the break even number of months where your closing costs equal the savings in your monthly payment. If you're going to be in the new loan that number of months, then you should seriously think about locking in that savings.

Historically, a rule of thumb is that if rates are 1% lower than what you’re currently paying, you should at least look into it. Remember rates change several times each day, so don’t be surprised if you call one day and then the next day rates are back up again. The decision of whether refinancing makes sense for you -- even with a 1% drop in rates -- can get complicated very quickly given our recent market conditions though.

First thing to think about is the current market value of the home and your equity in it. That’s important because if you got a loan a few years ago, credit conditions have changed dramatically and you may not be happy with the loan options available to you right now, even if the rates are low. For example, if you have two trusts on your current home loan (popular a few years ago in order to avoid paying Private Mortgage Insurance) then that option is no longer available. Banks are requiring private mortgage insurance for anything higher than 80% Loan-To-Value (LTV) – in other words, unless you have 20% equity in your home, you will be required to get one loan and pay the PMI. Second trusts are no longer available in almost any situation. In fact, it’s rare to find a bank willing to lend more than 90% of the current market value of the home, which becomes an issue if your home has depreciated in value. So if you have two trusts it may not be as lucrative for you to refinance as you think, even with lower rates. Similarly, if the home has depreciated at all then you may run into issues as well because your LTV has changed and you will have to pony up some big cash to make up the difference in your "underwater" home.

Let’s take an example: Let’s say you bought a home at $400K with $20K down. Let’s say further that now it’s worth $390K. (The bank will require you to pay for a non-refundable appraisal, which costs about $350-400, to justify the current value of the home before you refinance. And the bank has to choose the appraiser, so don’t bother paying for one on your own and then shopping it around.) The bank may only be willing to lend 90% of that amount (depending on your credit and other factors), or $351K. But you only have $20K equity in the property and still owe $380K. That means in order to finance you have to come up with the difference of $380K-$351K = $29K PLUS your closing costs (similar to costs when you first purchased, and includes county fees, lender fees, title fees, etc.)

Even if your property hasn’t depreciated at all, but the bank’s new policy could very well be to lend no more than 90%, then you still can only borrow $400K * 90% = $360K, leaving you to still come up with $20K (= $380 you owe less the $360 the new bank is willing to lend) PLUS closing costs.

Finally, even if the property hasn’t depreciated, and even if the bank is still willing to lend you 95% of the value—in this example the entire $380K you owe—then your payment still may not be as low as you expect because now you’re required to have a single loan at 95% LTV which requires PMI (rather than your current two trusts at 80% + 15%).

Closing costs can generally be rolled into the loan amount if you have enough equity to meet the LTV requirements. But unfortunately a lot of people will have to come up with significant cash if they want to refinance. But if your property has held it’s value, and/or you have sizable equity in it, then it’s almost definitely worth it to re-fi. So the bottom line is that there are a lot of variables to determine whether or not it’s worth it to refinance. It’s best to talk to a lender to figure out your specific situation. Contact me if you want my recommendations on lenders I would (and do) personally use.

Closing costs, by the way, vary by lender and by settlement company, just like with a purchase. When a lender gives you a good faith estimate, you should focus first on the 800 section “Lender Fees” to see what they’re charging you, and compare that across lenders to find the best deal. Those fees are always negotiable. But banks need to make money too, so don't expect them to charge nothing. Also look at the settlement company fees in the 1100 section, also somewhat negotiable. You do NOT need to use the settlement company the bank recommends. Contact me if you want a recommendation on who I personally would use.

Paying Points: Whether or not to pay points to get a lower rate is a judgment call, and depends on how long you’re going to stay in the property. A point equals 1% of the loan amount. So you might get a quote for 5.125% (no points) and 4.875% (1 point). If you have a $380K loan then that means you pay $3800 at closing to get the 4.875%. So you just calculate the savings in payment, divided by the $3800, and that gives you the number of months you need to keep that loan in order to make it worthwhile to pay the point.

So as you can see there are a LOT of variables in the decision of whether or not to refinance, so the best advice I can give is to (1) have a realistic idea of what your home is worth and (2) talk to a lender. Even if you start down the re-fi road and one of these scenarios ends up being bad news for you, the worst case is that your out the $400ish for the appraisal and you keep your current loan.

How Much Do I Need for a Downpayment?

How much do I need for a downpayment?

It depends.

(Come on, you knew I was going to say that.)

There are some rules of thumb though. First, you can bet you need a heck of a lot more than buyers did a few years ago, or even one year ago. There are lots of influencing factors: type of financing, amount financed, type of home (condo/townhouse/detached house), and whether it’s an investment property or you intend to occupy it.

To understand downpayments, we really need to understand the Private Mortgage Insurance (PMI) industry. These are the guys who ‘insure’ the loan for the bank. If you have less than 20% equity in the property (whether via a downpayment or appreciation), any lender will require you to buy PMI. PMI premiums are paid by the borrower, but the beneficiary is the lender. So in other words, if the borrower defaults, then the PMI policy will pay the lender.

Up until recently, banks would issue a “second trust (mortgage)” rather than requiring the borrower to pay for PMI. So a borrower would have a first mortgage for 80% of the value, then a second mortgage for somewhere between 5% and 20% of the value—so the borrower needed as little as 0%. The mortgage interest on the second trust was deductible (a win for the borrower), there was less downpayment needed (another win for the borrower), and the bank got a second loan at a higher interest rate than the first (a win for the bank, or so they thought at the time, AND they held the home as collateral, which couldn’t possibly fall below the value at which it was purchased, right??) The only people that lost out were the mortgage insurance folks.

Fast forward to the default wave of the last two years. Banks are now holding two bad loans instead of one, and no insurance policy to collect on. PMI folks were just fine with that, as they had their hands full anyway with all of their own defaults. In today’s lending world, you can’t find a bank who’s willing to do a second trust that takes the total loan-to-value (LTV) ratio above 80%. So basically: no second trusts. And it’s really tough to find a PMI firm who will insure a loan without meeting certain conditions.

To really know what downpayment you need, you need to talk to a lender and find a program that works for you. But here are some rules of thumb:

- Conventional loans, count on needing 10 to 20%
- FHA – will require 3.5% (as of 01/01/09)
- VA loans – this is about the only program going where you can still get 100% financing, so if you’re a vet, look into it!
- Investment properties – 30%

There ARE special programs out there, though, like HPAP in the District and VHDA in Virginia. So, again, talk to a lender. I can recommend some great ones. You also need to keep your realtor in the loop. Often certain property types don’t work well with certain loan programs, or may trigger additional downpayment requirements.

If you’re confused about where to start your search and understanding how much you can afford, send me an email. I’m happy to work with you to see what types of homes and program combinations will work best for you.

Guest Post: Rehabbing Properties Using the FHA 203K Program

Thanks, Cindy Fox of SunTrust, for information on this program which can really help buyers who have found their diamond in the rough! You can find Cindy's contact information at the bottom of this post.

Looking for a bargain in the real estate market?

Have you seen the perfect place for you and maybe your family – but then the inside of the place has been trashed? Or is simply is older, outdated, and in need of updating and/or repair?

Sometimes you just need to see beyond to cosmetic abuse to the eye, and maybe structural deficiencies, and envision a place after tender loving care – and a lot of tear down, build up and sweat has been applied!

So – you have the vision. Great! Now – how to pay for putting that vision into action to bring to a reality that vision?

There is an option for you! The FHA, which is a part of Housing and Urban Development (HUD), has a program that will help finance the purchase of such a dwelling, as well as the financing of rehabilitation of the house.

203(k) - How It Is Different from Conventional Construction Financing

The 203(k) program is a section of HUD’s home financing guidelines and its primary program for the rehabilitation and repair of single family properties. The program was designed to promote and facilitate the restoration and preservation of the Nation’s existing (and aging) housing stock. Most of the time lenders will only lend money to purchase homes that are complete. The condition of the property must meet certain standards. Under normal purchase transactions (or refinance transactions) properties that are complete and meet a certain property condition provide the necessary collateral for the lender to lend with confidence. Additionally, most loan programs require that if there are repairs, or renovations to be completed, this must occur before the lender will release funds to complete the purchase and close the loan.

Under conventional guidelines, when a homebuyer wants to purchase a house in need of repair or modernization, the homebuyer usually has to obtain financing first to purchase the dwelling; additional financing to do the rehabilitation construction; and a permanent mortgage when the work is completed to pay off the interim loans with a permanent mortgage. Often the interim financing (the acquisition and construction loans) involves relatively high interest rates and short amortization periods.

The 203(k) program through HUD was designed to address this situation. The borrower can get just one mortgage loan, at a long-term fixed, to finance both the acquisition and the rehabilitation of the property. To provide funds for the rehabilitation, the mortgage amount is based on the projected value of the property with the work completed, taking into account the cost of the work.

Eligible Improvements: Luxury items and improvements that do not become a permanent part of the real property are not eligible as a cost of rehabilitation. However, the homeowner can use the 203(k) program to finance such items as painting, room additions, decks and other items even if the home does not need any other improvements. All health, safety and energy conservation items must be addressed prior to completing general home improvements.

How the Program Works: The improvements, repairs, and rehabilitation proposals must be part of the loan package and can be prepared by a builder, or a consultant and show the scope of the work to be done. Cost estimates must include labor and materials sufficient to complete the work.

The scope of the work as presented in the proposal determines the amount of the loan. Usually, an appraiser will evaluate the proposal in conjunction with the current value of the property and determine an “after-improved” value which will determine the amount of money available for the repairs and rehabilitation.

For More Information: For more information on eligible properties, how the program can be used, required improvements, how the program works, and the application process, contact Cindy Fox at SunTrust Mortgage at (703) 464-4345, or email Katie (info in right hand sidebar) for more information.

$7500 First Time Buyer Tax "Credit" Info

NOTE> This post applies only to homeowners who purchased in 2008. If you purchased in 2009, see the updated version of the credit here.

It's official, the $7500 tax credit for first time buyers is now law. But how will it work?

First of all, it's not really a 'credit' per se -- it's an interest free loan. Nonetheless, as my first time buyer clients will tell you, an interest free loan is the best kind of loan! First time buyers -- defined as buyers who have not owned a principal residence during the 3 year period prior to purchase -- will claim this credit on their tax returns, and receive a credit of 10% of the purchase price, up to a maximum of a $7500 'credit.' (Note this is NOT a deduction. Taxpayers receive the full $7500.) Here are the additional details:

• All homes, including condos, are eligible.
• The 'loan' part comes into play because it must be repaid over a 15 year period at $500/year starting in 2010.
  
• The purchase must be on or after April 9, 2008 and before July 1, 2009. (Note the law says BEFORE, so those of you buying next year - settle on or before July 1!)
• There's an income restriction: Single taxpayers can't make more than $75,000 and married couples are limited to $150,000. Above those limits, the credit is phased out.
  
• Sorry, DC home buyers, you can't claim both this and the DC First Time Buyer credit. (That one is a real credit, not a loan, so for almost everyone the DC credit is the better deal.)
• There doesn't appear to be any way to get the money in advance, so this credit will have to be a 'reimbursement' of sorts for buyers. You can however, as with any purchase, adjust your withholding to better match your (now $7500 lower) tax bill. The closest thing you can do to getting it sooner than later is to buy a home in early 2009, but then you apply the credit to your 2008 return (before April 15) since the law allows you to choose the year in which you apply the credit.
  

You can learn more at www.federalhousingtaxcredit.com

Update 1/29/09: President Obama's $820B stimulus package contains a proposal to eliminate the need to repay the $7500 -- it would change into a straight on credit, rather than the interest free loan it currently is. This bill has passed the House and is currently with the Senate -- the bill is NOT yet law. Stay tuned.

How to Read a Good Faith Estimate or HUD-1

It can be difficult to compare apples-to-apples when looking at closing cost estimates from lenders. There are lots of tricks that a lender can pull to make themselves look better, and there are so many expenses that’s it’s difficult to know which ones are “junk fees.”

Let’s review terminology first. When you make a loan application, a lender is required to provide you with a Good Faith Estimate (GFE). Most lenders provide you with this estimate even if you haven’t made a full application yet. The GFE contains three main parts: your rate/point combination, your monthly housing payment estimate, and an estimate of your closing costs. Though lenders are required to give you an estimate of closing costs—which run 2.5% to 3% in this area—they actually have no control over most of the fees shown! So be warned: do NOT compare lenders based on total closing costs! There are too many places they can under-estimate to make themselves appear more competitive.

The GFE closing cost estimate is an estimate of what will ultimately be shown on the HUD-1 at closing. The HUD-1 is a standard government form with each line item numbered for easy comparison. GFEs, on the other hand, come in a variety of format, further complicating comparisons.

Generally the expenses on GFEs and HUD-1s will fall into these categories:

Total Sales/Broker’s Commission	Section 700 on the HUD-1, and usually not shown on the GFE because this section is an expense of the seller.
Items Payable in Connection With the Loan aka “Lender’s Fees”	Section 800 on the HUD-1. These are your lender fees, and the most important part of your GFE because this is the part your lender actually controls, and is, at least in part, negotiable. This section will also include any points that you are being charged to get your loan rate. So you must compare this section in conjunction with comparing the interest rate charged.
Items Required by Lender to Be Paid in Advance	Section 900 on the HUD-1. This section is primarily driven by the day of the month you close. Lenders require that you ‘pre-pay’ the interest between settlement day and the end of the month. So if you close on the 1st, you owe 30 days of interest. If you close on the 30th, then you owe one day. If you’re comparing lenders, make sure they all use the same assumption for purposes of the GFE. As long as you’re comparing apples to apples in rates and points across lenders, you can ignore this section.
Reserves Deposited by Lender aka “Total Prepaids/Reserves”	Section 1000 on the HUD-1. Most lenders are the same in what they require—a year of hazard insurance, a few months of property and other local taxes, mortgage insurance, and possibly a month of condo fees. The lender doesn’t actually control this section of the estimate, so it’s safe to ignore it in your ‘shopping’ of loans.
Title/Settlement Charges	Section 1100 on the HUD-1. The settlement company determines this section, so it’s safe to ignore it in your comparison of lenders. This is a big chunk of your fees because it includes title insurance.
Government Charges	Section 1200 on the HUD-1. The local jurisdiction determines this section, so it’s safe to ignore it in your comparison of lenders.
Miscellaneous	Section 1300 on the HUD-1. Contrary to popular belief, this is not where the “junk fees” are. Instead it tends to be actual costs incurred for couriers, the survey of the property, and other fees that don’t fit into one of the above categories.

Read more: "Junk Fees"

Read more: Title Insurance

Complications Buying Condos Using FHA Financing

FHA doesn’t play well with condos. Which is too bad, really, since FHA is such a perfect option for first time buyers since it requires only 3% down, as opposed to the 10% most banks are demanding right now. For a borrower to use an FHA loan to purchase a condo, it must be on the FHA approved list (click here for database). If you take a look through this database, which is not very user-friendly by the way, since it doesn’t allow you to search by address, you’ll see it’s slim pickings.

That doesn’t mean that you should give up hope though. You can still try for a ‘spot-approval’ which means that FHA will see if the building meets certain criteria and then give a one-time exception. Some of the most restrictive criteria include:

· Building must be at least 90% sold (so no new construction qualifies)

· Building must be >51% owner-occupied (I’ve found this is an issue for many older buildings where units are low in price.

· No single entity owns more than 10% of the units

· Condo Association must not be currently in litigation

· No special assessments are pending

· There is an adequate reserve fund and plan

To protect yourself as a buyer, it’s advisable to include a financing contingency period while the lender investigates whether you can get a spot approval. You don’t want to be locked into a contract only to find FHA won’t give you the loan.

So, what to do if you’re interested in a condo but can’t get FHA approval? First, speak with your lender (or other lenders) about other programs that might be available. If your budget allows it, consider looking at townhouses or duplexes, which aren’t subject to the same FHA approval requirements. It may be even more affordable than you think, when you factor in the lack of a condo fee. Or concentrate your search on buildings you know to be FHA compliant.

Out: Exotic Loans, 100% financing; In: FHA, VHDA!

FHA is back with a vengeance. It's a key tool in the current lending environment for getting buyers qualified with only a 3% down payment (with gifts permitted in certain circumstances.) There are a few extra hoops to jump through, but I find more and more buyers are utilizing FHA now that the lending limits have been increased in our area.

The Virginia Association of REALTORS has this webcast "Mortgage Lending in 2008: Back to the Future, How FHA can help you and your clients," for agents, but I think it provides a good overview of FHA for anyone thinking of buying. At about an hour, it's a bit long, but worth it.

Some Restrictions on Condos
FHA won't work in some instances, though. Sometimes condos--especially new construction--gets tough. Condos must be on the FHA-approved list to qualify. If it's not on the list, it's still possible to get a spot-approval, but it must meet certain other criteria, e.g., more than 60% owner-occupied, which sometimes is problematic with condos. Some of the criteria may be streamlined as part of an expected upcoming FHA modernization, though, so stay tuned.

VHDA Loans
Another great option for first time buyers in our area are programs through VHDA (Virginia Housing Development Authority), which provides a variety of low-interest loan programs and low-down payment options for buyers who meet certain maximum income limits and property price restrictions. You also must not have owned a home in the previous 3 years unless you're buying in a designated target area, must attend a VHDA-approved educational seminar, and meet certain other guidelines.

Read more: Mortgage Loans: Jumbo, Conforming, FHA, and Jumbo Lights

Read more: Why Don't Fed Cuts Always Cause a Drop in Mortgage Rates?

Read more: What is Private Mortgage Insurance (PMI)?

Want to learn more or have more questions? Attend a free first time home buyer seminar that I teach.

FAQ: Mortgage Loans - Conforming, Jumbos, FHA, Jumbo Lights

Although I’m not a mortgage broker or lender, I get a lot of questions from my clients and in my first time homebuyer classes about interest rates, points, and fees. There’s a lot of confusion out there right now about what the conforming limits are, how FHA works, and what the stimulus package impact will be. The short answer is that we don’t have all the answers yet—the mortgage market changes by the minute. I always recommend to my clients that they choose a lender they trust and then stick with him/her (I’m happy to make a recommendation or two if you contact me.) An online mortgage calculator will never keep up with the pace of change and options (both coming and going) in today’s market. In my opinion they are nearly worthless if you're seriously thinking of buying a home (though if someone has found a good one, by all means, let me know!)

Here are some of the basics, including some basic economics on risk and reward (I admit these are over simplified, but I think will suffice to give buyers an idea.) You have to think of your mortgage as an investment product. Somewhere out there is an individual investor with a million dollars to invest; He can invest in the stock market, in gold, in CDs, are in mortgages, for example. The higher the risk he takes with his money, the more reward he will expect. These are some of the “flavors” of mortgages and rates:

• “Conforming” Loans. Until recently this meant ONLY loans less than $417,000 that met Fannie and Freddie underwriting guidelines. Fannie and Freddie are government sponsored entities that purchase loans from banks, package them up, and sell them off. Because the bank has a “guaranteed” buyer for your loan, it lowers their risk and hence lowers the interest rate (low risk for a bank = low reward for a bank.) Fannie and Freddie also slap their own guarantee on these products, so the people they sell them to are willing to earn a lower return because there is less risk. These loans have the most competitive rates. All Fannie and Freddie loans are subject to their underwriting guidelines, including their downpayment restrictions. Because both entities have slapped a "declining market" label on our area, downpayment requirements are higher now than they were a year ago to the tune of 5%. So if previously you were the quality of borrower that could have qualified for a 95% loan-to-value (that is 5% downpayment), this new label means that you now only get 90% (a 10% downpayment) if you want a Fannie- or Freddie- backed loan.
  
• “Jumbo” Loans. Loans that are above $417,000. They carry a higher rate because Fannie and Freddie are prohibited from buying them, and hence the risk to your bank is higher—they need to find a buyer out there, or they need to keep it in-house.
• “Jumbo light” or “jumbo conforming” Mortgages. These are new in 2008 as a result of the stimulus package. Fannie and Freddie are temporarily allowed to buy loans up to 125% of the median purchase price of an area. For the Washington, DC, area, that means $729,950. So this new layer represents a loan that meets Fannie and Freddie’s guidelines and is between $417K and $729,950. Rates on these loans are still in flux, but chances are that it will be somewhere between “conforming” and “jumbo.” Fannie and Freddie put some limitations on which ones they will buy though, so expect some hoops: at least 10% down, or 20% if your FICO score is less than 700, among others; Below 660 and you’re out of luck altogether. One thing the market (our individual investor out there) doesn’t like about this new layer is that it’s temporary, so he’s not sure what will happen to it in the future. Investors don’t like uncertainty, so even though there’s a theoretical “buyer” out there in Fannie and Freddie, he nonetheless wants a premium for it in the term of a higher rate of return.
• FHA Loans. Once the stepchild of the mortgage industry, it’s quickly coming back in favor because of its low down-payment (3%) requirement. FHA loans are guaranteed by the government, so risk to an investor is low. Low risk = low reward, or in other words, lower rates charged to borrowers. FHA until recently had a very low limit, so was not widely used in this area. But Congress recently approved an upper limit of $729,950 in our area (same as the “jumbo lights”). Similar to that scenario, rates on that mid-tier (between the old limit of $362K and the new limit of $729K) will likely carry a small premium over “regular” FHA loans below $362K. FHA comes with its own set of hoops to jump through; for example condos must be on the FHA approved list.

Again, I highly recommend speaking to a mortgage professional if you’re not sure which product is right for you – they all have advantages and disadvantages, and programs and guidelines are changing daily. In a future post I’ll try to touch more on FHA loans, the Nehemiah program (a roundabout way for a seller to “gift” your downpayment!), and the rates/points/fees tradeoffs (the best rate isn’t always the right answer!)

If you’re interested in learning more, I encourage you to attend my first time home buyer class. Details are here, and you can email me to register.

Are you ready to begin your home search? I’d be happy to speak with you about some of the advantages and disadvantages of loan programs and how they impact your negotiating ability in a transaction. Just drop me an email or call and we’ll set up some time to talk about your search.

Read more: Why Don't Fed Cuts Always Cause a Drop in Mortgage Rates?

Read more: What is Private Mortgage Insurance (PMI)?

Want to learn more or have more questions? Attend a free first time home buyer seminar that I teach.

Fed Rate Cut - Why Didn't Mortgage Rates Fall Much?

The Fed's emergency three-quarters of a point rate cut didn't have much impact on mortgage rates...or did it? Well, it did and it didn't (don't you love answers like that)? The bottom line is that the Fed Funds rate certainly impacts mortgage rates, but sometimes indirectly, and surprisingly, sometimes they can move in opposite directions! This is a very high level and over-simplified discussion of the whys and hows -- it's tough to fit this in to one post though, and I'm not a mortgage banker, so bear with me, and feel free to contact me directly if you want to discuss more. Here we go:

The Fed Funds Rate is the overnight borrowing rate between banks. Banks are required to have certain reserve funds at the Fed each night to cover their deposits (remember reading about the Depression and runs on banks?) Sometimes banks don't have the funds so they borrow from other banks who have excess funds. The rate is an important policy tool of the Fed--it helps keep the balance of economic growth vs inflation in check. That's the key trade-off that the rate helps control--if rates are too low, we'll get inflation. If rates are too high, it prohibits growth.

The FFR is a very short term rate (overnight), whereas mortgage rates are more aligned with longer term instruments like bonds. After all, a buyer is theoretically borrowing money for 30 years (the length of a mortgage, though the lenders all know that most borrowers sell or refinance long before that time.) Bond yields, which impact 30 year mortgages, are tied to long term investor market expectations.

So which loans does the FFR impact?

30 year fixed -- Not directly impacted, though they often move in tandem because of shared expectations about long term growth of the economy. But if the FFR drops too low and investors get too worried that it will result in inflation, then mortgage rates can actually move in the opposite direction.

ARM loans -- These are generally tied to short term (1 year) treasuries, and so likely are impacted by rate cuts, but only if it varies from what was "expected" (see more below).

HELOCS -- These are generally tied to the prime rate, which moves in step with the Federal Reserve.

Subprimes -- Depends what index it's tied to, but they are often tied to LIBOR. LIBOR rates have been falling this month.

How markets move after FFR changes depends on expectations; the Fed meets on a regular schedule and many pundits predict their every move, so there are expectations "built in" to interest rates. If the Fed acts "as expected", then there are minimal changes following an announcement. Yesterday's announcement was a surprise mostly in the timing--many pundits had already predicted a half point cut later in January. So the impact was not overly dramatic.

NB: Not covered in this post is the differences in impacts between "Jumbo" and "Conforming" loans -- the magic number there is $417,000 because that's the mandated upper limit of loans that Fannie and Freddie can purchase from banks and re-sell--with a guarantee--to investors, creating a very liquid secondary market. Liquidity and guarantees lowers risk for banks, which helps keep rates lower for buyers in that bracket.

Update: In conjunction with the just released stimulus package comes news that Congress is evaluating whether or not to raise that $417K limit to $625K. If implemented, this will do a ton to create more affordable mortgage options in the DC area...more to come.


Read more: How do Fed rate cuts affect adjustable mortgages?

Read more: A slightly dated article that still does a nice job explaining impacts on different mortgage types.

First Time Buyer Assistance Programs

Believe it or not, this is a perfect time to start planning for a home purchase in the spring, especially if you're a first time buyer. The reason I say that is that I find it takes most of my first time buyer clients at least 3 months from the time they first speak to a lender until the time they move in. If someone has special financing restrictions, or isn't quite sure yet what they're looking for in a home or neighborhood, then it takes more in the range of 4-6 moths!

Financing in particular takes some very advance preparation--saving for downpayments and closing costs, sticking to a budget, and fixing any credit issues can take quite a long time. With the cost of housing (still) being what it is in this area, it's especially difficult for first-timers.

If you're thinking of buying in DC, though, there's a special program that may help you out. Like many special programs, there's a bit of paperwork involved, so it's best to get started far in advance. HPAP enables lower and moderate income buyers (that is, making less than $70K per year) to receive up to $70K in funds in the form of a low-interest loan. In addition, buyers can receive up to $7000 in closing costs free! Closing costs average 3% of a transaction, so on a $300K condo, that covers almost all of them! Tough to find a better deal, but there is paperwork and classes involved so get started now if you're thinking of buying in the spring. Get more info here, and contact me to discuss how best to coordinate your search using HPAP and other programs.

There are lots of other programs too; here is a link to some other area programs.

Confused about how to start your search? Attend a free first time home buyer class in Arlington, VA.

FAQ: Earnest Money Deposits

I love the Post's Saturday Real Estate Mailbag. There's always something interesting in there. (Though if you read it long enough, you do start to see the same questions over and over.) Here's a good tried-but-true one that I often get from clients -- how much should you put as earnest money? What IS "earnest money," anyway?

Simply put, earnest money is a personal check that you write (payable to your real estate broker or another third party) that accompanies your offer on a property to indicate to the seller that you are sincere, or "earnest," in your endeavor to buy their property. It's a "good faith deposit" on the property. Once you agree to terms, the seller will be removing their property from the market and passing up potential future offers, so it's only fair that they have something more tangible than your signature to rely on. It's a buyer's way of putting "skin in the game."

The check gets cashed upon contract ratification, and the deposit is held by that third party until settlement, at which time it is applied to your downpayment or closing costs. In the event of any overage, it's refunded to you at settlement. In the event of a default by the buyer, the seller theoretically can claim that deposit (though in reality it's extremely difficult to make that happen.) Here's a great FAQ from the mailbag:

DEAR BOB: What is the normal earnest money deposit that should be offered by a buyer for a $350,000 condominium? Is it a percentage of the sales price, or is it based on something else? -- Ottilia C.

DEAR OTTILIA: There is no "normal" earnest money or good-faith deposit for the purchase of a residence. At a minimum, however, it should be 1 percent of the sales price to show serious intent. That would be $3,500 in your situation.

If you are making an offer substantially below the seller's asking price, a larger deposit can impress the seller. However, your deposit should not be more than 5 percent of the purchase price. Always make your check payable to the firm you want to handle the closing of the sale, such as a title-escrow company or perhaps a real estate lawyer -- not the seller.

Of course this column is syndicated nationwide, so may not represent the typical transaction in this area. Though there is no specific requirement, in my experience and in the current buyer's market, you should be prepared to put about $5000 as a deposit for a transaction value up to about $350K, $10,000 up to about $600K, and for anything higher than that $20-25K would likely be considered sufficient. Obviously the more you put down, the more seriously your offer will be considered, particularly in a competitive bid situation (yes, they still happen!)

"Junk Fees"

The Washington Post had a good, though short, Q&A on "Junk Fees" from mortgage lenders. Many people know BoA has a big promotion running right now for their "no fee mortgage plus" which advertises $0 closing fees and $0 application fees, with no PMI. (Update July 2007: See the article about whether BoA's program really saves you money here.)

But what are these fees? And which ones are negotiable? Here are some excerpts from the WP, and you can read the full entry here.

The first category of charges listed are those items payable in connection with your loan. These may include an origination fee, points, appraisal fee, credit-report fee, mortgage-broker fee, underwriting fee, processing fee, courier fee and wire transfer fee. An origination fee and points are typically a set fee that you have agreed to pay to obtain your loan. It may be a percentage of the loan amount, say 1 percent.

An appraisal fee and a credit-report fee are typically not negotiable, as the lender or your mortgage broker will order these.

The mortgage-broker fee listed on the good-faith-estimate form is negotiable. The lender's inspection, underwriting and processing fees may be somewhat negotiable, but many lenders stay fairly firm on these fees.

Courier and wire-transfer fees are typically charged for transferring loan documents to the escrow closing company and wiring the loan proceeds to the closing officer. You may ask that these be reduced or waived.

The Best "Rent vs. Buy" Calculator

Thanks, Mary Ellen, for sharing this cool link with me: One of the best Rent vs. Buy calculators I've seen, especially for the visually-oriented and "what if" type of people:

Rent vs. Buy Calculator

Check out the "Advanced Settings," especially on Buying, where you can enter such things as condo fees (count on at least $250-300) and costs of buying home (about 3% for closing costs is a good rule-of-thumb) and selling (count on 7-10%), maintenance costs, It even lets you enter the return on alternate investments and inflation rate, and the capital gains exclusion (see "Tax Benefits of Home Ownership" post). This is simply the most thorough calculator I've seen.

The only downside to this particular calculator is that it doesn't allow for different financing scenarios--say an ARM loan or interest only loan. (No, interest-only loans are not instruments of the devil; in fact for some borrowers it is a fantastic option. They've been abused quite a bit in the past few years in this area, and now there's an unreasonable backlash against the product.) Nonetheless, it's an excellent tool overall and includes many "hidden" costs of homeownership.

Of course, the breakeven point always depends on your assumptions, so what are some "reasonable" ones? Reasonableness is in the eye of the beholder, but a conservative estimate of property taxes in this area is 1%. Long-term appreciation rate is of course a huge driver; the long term average, according to the GMU study I've reference in previous posts, is 7%, though of course 2006 was much less than that. GMU estimated 2.2% appreciation in 2006, currently is predicting somewhere between 0-5% in 2007, and expects a return to the long term average of 7% by 2008-09.

Here is the NY Times article that accompanies the calculator. Interestingly, the article is an argument to rent over buying, which is the best option for lots of people. These types of articles paint the market with a broad brush, by necessity--they have a national audience. But if there's one thing everyone knows about real estate, it's location, location, location. All real estate, like politics, is local. Don't take someone's word for it that buying is the right answer for you--use your own assumptions and tools, like this one. But in my experience in this area, with rents and income levels being what they are in DC, combined with the long-term market view (if one were to believe the historical data and housing shortage projections, anyway), the numbers almost always add up to buying.

FAQ: What is PMI?

Private Morgage Insurance (PMI) is required by a lender when a buyer has less than 20% or the purchase price as a downpayment (this is where the "I need 20% down" myth originated.) The buyer pays the premium but the lender is actually the one insured. Once the equity in the property reaches 80% (either via paying down the balance or an increase in market value of the property), the buyer can cancel the insurance. (Note: This insurance is NOT the insurance that must be carried on FHA mortgages, often touted as advantageous for first time buyers. FHA loans carry a different type of required insurance that lasts for the life of the loan.)

Prior to 2007, PMI was not tax deductible--just a fee that a homeowner had to pay. This resulted in "piggyback" loans--second mortgages that are tacked on to first mortgages. These second mortgages often carry slightly higher interest rates, but the benefit to the borrower was that the two loans in combination added up to more than 80%, and thus the buyer could replace non-tax-deductibe PMI with tax-deductible interest on the second mortgage. You often see these loans referred to as 80/15/5, or 80/20; the first number is the percent of the purchase price borrowed on the first trust (loan), the second number is the percent borrowed on the second trust, and the third number, if there is one, is the amount of the downpayment.

Starting in 2007, PMI is now fully tax deductible IF you're income is under $100,000. So far, this applies only to loans closed in 2007, so we'll have to see if this benefit stays in place. If you qualify for this deduction though, it may be advantageous to take one 95% loan, all at the same, lower interest rate, and pay the PMI, since it's now tax deductible just like mortgage interest. Everyone's situation is different, so consult a mortgage lender you trust and ask him to run the scenarios to see which option is more beneficial for you.