Mortgage Broker Fees & “Zero-Point” Loans

The lending world is structured in a similar way to grocery sales, with money flowing from “manufacturers” to “wholesalers” to “retailers.” Many large lending institutions are “wholesalers” who do not themselves deal with marketing and selling to individual borrowers. They rely on many individual “mortgage brokers” in local areas to do marketing in their local communities, and “sell” the loan, i.e. prescreen the consumer, help them select the best product for them, help fill out the mortgage application, explain the mortgage process and documents, coordinate with realtors and guide the person through the process of closing.

 Mortgage brokers are compensated only when they close a loan—this makes the model a no-risk proposition for lending institutions. For the consumer, using a mortgage broker provides access to many different lenders and their mortgage programs—programs they would not have to access to in any other way. Mortgage brokers also provide personal service and can take the time to really understand the client’s situation and analyze what kind of loan program would really work the best for them.

How Mortgage Brokers Are Paid

Mortgage brokers can be compensated in one of several ways:

• The mortgage broker can be paid by the borrower in the form of a one-time fee at the time of closing. This fee consists of a percentage of the overall loan amount (for a single family residence, this is usually 2 percent, and this is also called “2 points”). This fee is paid by the borrower during the closing of the loan. This fee arrangement is called “borrower-paid compensation.”

• A variation of the borrower-paid compensation occurs when the mortgage broker fee is built into the loan amount. The total loan amount increases by the amount of the broker’s fee (but the interest rate of the loan stays the same). The lender disburses the broker’s fee to the mortgage broker at the time of closing. This arrangement is considered a variation of “borrower-paid compensation.”

• The mortgage broker can make an arrangement with the lender that instead of their fee being paid by the borrower at the time of closing, the borrower will be charged a higher interest rate by the lender—and in exchange for this, the lender will pay the mortgage broker fee. (The loan amount does not change in this scenario, but the interest rate is increased.) This is known as charging the borrower “on the back end” (the borrower pays the fee over time due to having a mortgage with a higher interest rate). This arrangements is also known as “lender-paid compensation.”

 Note that in all cases, the mortgage broker’s fee is ultimately paid by the borrower. Promotion of “zero-point” mortgages is thus deceptive, as the borrower will always end up paying for the broker’s services, and the borrower may actually end up paying quite a bit more in interest when the mortgage is arranged so as to use the “lender-paid” arrangement. Borrowers often do not understand this arrangement, and any disclosures of this can be buried in a thick set of loan documents that are not properly explained.

When Lender-Paid Compensation Makes Sense

Doing a mortgage with lender-paid compensation is not always a bad thing. Some borrowers will actually opt for this arrangement, for example because they are planning to sell or refinance the property within a few years, and this arrangement allows them to maximize their cash flow. Another example could be when the borrower is doing a refinance in the first place, and he or she is trying to get money out rather than putting money in.  

What is important is that it is clear to the borrower what fees are being charged by whom. At Prosperity Lending, we are completely transparent about our fees, and about the options the borrower has. We give you the option of paying our broker fee at the time of closing OR building the broker fee into the loan amount. The option that works better can depend on the person’s financial goals, and the choice is totally up to the borrower.    

Loan officers at large banks and credit unions

Some “wholesalers” also have what they call a “retail channel” (i.e. a retail department). This means that, in addition to lending money to other banks and financial institutions, they also have a department of loan officers who make mortgages available directly to the public.  

The loan officers who work in these departments get paid a fixed salary rather than a percentage of each sale. Therefore, it may look as if there is no fee for their service, but in reality the bank will build in this cost into the back end of the loan (i.e. the customer pays a slightly higher interest rate to cover this expense). If the customer is a lending institution’s “perfect borrower,” i.e. if they are an employee with a top-tier credit score, low debt-to-income ratio and a sizable down payment, then a lending institution like a credit union may still provide them with a better deal than using an independent mortgage broker, even with the fee of the credit union’s sales person built into the loan. (Note that you are likely to get a better deal at a credit union, because credit unions are nonprofit institutions whereas banks are for-profit.) About 30% of borrowers fall into this “perfect borrower” scenario. Even if you are going directly to a bank or credit union and they offer you a good deal, unless you yourself are familiar with loan contracts and the different legal clauses in them, it is advisable to still consult with a financial professional before signing any contract, to make sure that all the conditions of the loan are favorable to you and that you understand what you are signing. Remember that the loan officer at the bank works for the bank, not for you. They are legally obligated to disclose certain things to you in the loan agreement, but they may not explain them in everyday language, and if you don’t understand what you are signing, then those disclosures are not of much use. 

If you are self-employed or otherwise do not fall into this “perfect borrower” scenario (from the viewpoint of the bank), then it is likely that you will find a better deal using an independent mortgage broker like us to find the best mortgage program for you. Call us at 310-294-9417 for more information.