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July 7, 2003
"I recently refinanced into a 30-year
fixed-rate loan with no cost to me except the broker�s fee of $1500. The
broker insisted, as a condition of the loan, that I agree to pay a penalty of
$4500 if I refinance the loan within 6 months. I read the note and it does not
contain a prepayment penalty. I never heard of a prepayment penalty imposed by a
broker. Afterwards, I discovered that the broker was paid $4500 by the lender.
Is the $4500 connected to the prepayment penalty?"
Yes. Under a policy adopted by your lender,
the broker must return the $4500 rebate if you repay the loan within 6 months.
The broker is using the penalty in an attempt to shift the burden to you. I am
not a lawyer, but I doubt that the penalty is enforceable. The broker probably
knows this, but is hoping that it will deter you from refinancing again soon.
You took a rebate loan in the midst of the
current refinancing frenzy, and found yourself in the middle of a conflict
between mortgage brokers and the wholesale lenders who fund their loans. The
conflict is about rebates.
Rebates are negative points on high interest
rate loans. Points are an upfront payment expressed as a percent of the loan
amount. One point is 1% of the loan amount due the lender. Negative 1 point is
1% of the loan amount due from the lender.
For example, a lender might offer a 30-year
fixed-rate mortgage at 5.00% with 1 point, 5.25% with zero points, 5.50% with
�1 point, 5.75% with �2 points, and 6.25 % with �3 points. The last three
are rebate loans.
The lender who pays 3 points for a 6.25% loan
assumes he will have the loan at least 40 months. It takes that long for the
higher rate to cover the rebate. If a rebate loan is paid off in 3 months, the
lender takes a big hit.
In the past, I have written about brokers who
enlist borrowers in a scam where they share the largest rebate the lender
offers, then refinance every two-three months, each time with a different
lender. This practice irritates lenders but in normal markets it isn�t
sufficiently widespread to affect their bottom line significantly. Most
borrowers with rebate loans hold them long enough for the lender to recover the
rebates.
However, in a market in which rates drop a
notch, and then shortly thereafter drop again, which has been the pattern in
2003, the trickle of very short-lived rebate loans becomes a flood. The flood is
initiated not by larcenous brokers but by borrowers exercising their free-market
right to lower their rates. Lenders don�t want to stop offering rebate loans,
which are a major part of their business, but they have been anxious to stop the
losses that engulf them each time market rates drop.
So some of them have decided to shift the
burden to their brokers. Their general rule is that if a rebate loan from a
broker is paid off within 6 months, the broker must reimburse the lender for the
rebate. In the case of at least one large lender, repayment is required even if
the broker has nothing to do with the subsequent refinance, and even if the
early payoff results from sale of the mortgaged property!
The broker in your case does not deserve a
lot of sympathy, since you paid for but never agreed to the rebate he collected
from the lender. In many other cases, however, the rebate is shared with the
borrower, and making the broker responsible for the entire amount is patently
unfair.
Upfront Mortgage Brokers (UMBs) credit the entire
rebate to the borrower, who can use it to pay the agreed-upon broker fee, to
reduce settlement costs, or both. For example, the broker might retain half of a
3-point rebate as his fee and credit the other half against the borrower�s
settlement costs. To require reimbursement of the entire 3 points from the
broker is an obscenity.
Last year, HUD proposed a regulation that
would require lenders to credit rebates to borrowers. Borrowers would
have to specifically authorize the payment of a rebate to a broker, eliminating
overcharges arising from borrower ignorance. This regulation would also
eliminate the new lender rules that require brokers to reimburse lenders for
rebates on loans that pay off early. If the rebate is credited to the borrower,
there is no way the lender can get it back from the broker. Perhaps the broker
trade groups, which have been extremely hostile to HUD�s proposal, will now
reconsider.
Copyright Jack Guttentag 2003
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