| Why
Do I Have to Pay for This?
Americans
love things that are free, or appear to be. Yet
my experience in over 40 years in business is that
companies never give things away. There's always
a cost somewhere, sometime. The latest of these
"free" gimmicks involves the mortgage
industry. One lender's TV ad's say, "We don't
think you should have to pay to borrow money."
The
fact is that there are dozens of people who are
involved in the processing, underwriting, and funding
of each loan, plus appraisers and title and escrow
officers. None of them works for free. Now this
company is a public company so its financial statements
are available. They show that the company had revenue
of $135,000,000 last year. Where did that some from
if the customers are getting free loans? So how
is it that they are able to make this offer?
Here's
how. When that lender funds a loan, say for $200,000,
they are able sell that loan to another lender or
agency like FannieMae for $203,000. In effect, FannieMae
is paying the $3,000 closing costs so you don't
have to.
Now
you might ask why FannieMae would do that. The answer
is that the free loan has a rate that is higher
than the market rate. In a typical case, if the
market rate is 6 percent, a $200,000 loan that has
a rate of 6.375 percent is worth $203,000 because
the borrower will pay more interest every month.
Let's run through the numbers.
On
a market rate loan of $200,000 the interest over
ten years is $111,263. But the total interest paid
on the 6.375% loan is $118,746. So FannieMae paid
$3,000 more for that loan but got back $7,483 in
extra interest. That's a huge return, a Return on
Investment (ROI) of over 20 percent per year! If
someone were to keep the loan for 30 years, the
added interest is $17,510, all on a $3,000 investment.
Clients
seldom ask how lenders are able to do this, but
when they do they are told that the interest is
"slightly" higher. .375 percent doesn't
sound like much and in fact the difference in monthly
payment is only $49, but as we have seen that "slightly"
higher rate turns into $7,483. Does $7,483 sound
like "slightly" more to you? You can see
that you'd be better off getting a cash advance
on a credit card and paying the closing costs yourself.
That
part of the business is so lucrative that the entire
industry is doing everything they can to do loans
just like that. They only make 6 percent on the
$200,000 but make over 20 percent on the $3,000.
Heck, I would like to have a business like that.
I'll put up the $3,000 and the borrowers will pay
me $50 per month for thirty years! What a deal!
I'll
leave it up to you to decide whether this is deceptive
advertising or not. But my point is that the hook
on deals like this is that the customer doesn't
have to pay up front. For millions of American consumers,
this seems to them to be a better deal. And it seems
that almost none of them ever ask what the long-term
costs are going to be. And so it costs them more
in the long run and the lenders are rubbing their
hands in glee.
I'd
like to comment a little more on this company's
financials. They also show that the company paid
out $47,617,000 in Sales and Marketing expense.
I'm not sure what expenses are included in this
classification, but it doesn't seem to me that the
borrowers benefit from that $47 million. All it
did was attract them to the company. They do benefit
from the $66 million that is classified as Operations,
which I take to mean the processing and funding
of loans. But that's only 50 percent of their revenue.
By
comparison, small mortgage brokers like my company
spend very little on advertising and promotion because
it is way too expensive for us. Instead, we spend
100 percent on our clients.
Be
careful out there.
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