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August 3, 1998
"I have been warned to
watch out for junk fees. What are they, and how much might they cost me?"
Junk fees are upfront charges by
the lender that are not included in "points". Junk fees are expressed
in dollars whereas points are expressed as a percent of the loan. Some examples
of junk fees are "affiliate consulting fee", "amortization
fee", "appraisal fee", "credit report",
"underwriting fee", "bank inspection fee", "processing
fee", "lender's inspection fee", "settlement fee",
"signup fee", "funding fee", "lender's attorney
fee", "endorsement fee", "express mail fee",
"document preparation fee", "notary fee", "messenger
fee", "photograph fee", "assumption fee",
"administrative fee", "document review fee", and
"translation fee".
Junk fees supposedly reimburse the
lender for specific expenses, but of course their real purpose is to enhance the
lender's bottom line. Not that the lender doesn't have high costs in originating
a loan, but a single charge would be simpler for everyone. Some lenders do
charge a single fee but most do not because they believe that they can extract
more in total from the borrower that way.
The sad fact is that while lenders
advertise their interest rates and points, the only ones who advertise the total
of their junk fees are those who don't charge any, of whom there are very few.
There is no place the consumer can go to get information on total junk fees
while shopping for a loan except the lender, and getting it from the lender is
often like extracting a tooth.
While lenders are not required to
report their total junk fees anywhere, under Federal Truth in Lending
regulations they must report a number called the APR ("Annual Percentage
Rate"). This is a measure of credit cost to the borrower which takes
account of the rate, points and most but not all junk fees. [It does not include
application fees, or the cost of credit reports, appraisals, and document
preparation.] While the APR is a dangerous guide to the consumer, for reasons I
have explained in another column, it served a useful purpose in preparing this
column.
Using a bit of reverse engineering,
I used the advertised rates, points and APRs on 30-year fixed-rate loans to
calculate total junk fees, for each of 28 lenders who advertised in the
Philadelphia Enquirer on March 23, 1998. Four lenders charged $100 or less (with
one at zero); ten charged between $100 and $1,000; nine charged between $1000
and $3,000; four charged between $3,000 and $5,000; and one charged $7500! Junk
fees thus range from the nominal to the ridiculous.
These numbers include any
"origination fees", which are charges expressed as a percent of the
loan exactly like points. Lenders who charge origination fees are trying to make
their rate/point quotations look favorable relative to those of other lenders.
From the standpoint of the consumer, origination fees should be
considered "junk fees".
Given the way in which these
numbers have been compiled, mistakes in the calculation of the APR by lenders
would result in corresponding mistakes in my calculation of junk fees. However,
any such mistakes would be at least as likely to lead to underestimates as to
overestimates. Further, these numbers exclude mortgage insurance premiums, which
must be included in the APR reported to a specific applicant but are omitted
from the APR shown in advertisements.
My colleagues at the Wharton School
who are accustomed to working in "efficient markets" would immediately
ask whether lenders who charge high junk fees are also charging lower rates
and/or points? In fact, there is very little indication of this. For example,
two lenders both of whom charged a rate of 7.5% and zero points had junk fees of
zero and $2700, respectively; two lenders who charged 7.25% and zero points had
junk fees of $500 and $7,500; and two lenders who charged 6.875% and zero points
had junk fees of $900 and $5300! This is a "sloppy market" in which
borrowers must be on their guard.
Copyright Jack Guttentag 2002
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