Topic 9 Flashcards
Real Estate Finance
Since few buyers have sufficient financial resources to allow them to pay cash for the entire purchase price of a property, most buyers pay for real property through one form or another of ____.
debt financing
The ______ was a carefully structured pyramid of lords, knights, vassals, and serfs which gradually evolved into the FREEHOLD SYSTEM of land ownership and which allowed ownership in FEE SIMPLE, that is, the private ownership of real property.
feudal system
We now have the _____ of land ownership which allows individuals to own land absolutely, without obligation to political superiors.
allodial system
In time, it became possible for the borrower to petition a court of equity or a church court (chancery) for an extension of his loan. The borrower, in a phrase still in use today, could hope to be allowed an ______, that is, additional time within which to pay his debt.
“equitable right of redemption”
This promise to repay and its specific conditions and stipulations are contained in the central instrument of the loan agreement is the _______. Proof of the debt.
the promissory note
the promise to repay has been traditionally backed up by some sort of security arrangement, a second loan instrument with which the borrower pledges an interest of one kind or another in the property he is financing to the lender. The pledged property is called ______.
collateral
Most states follow what is known as the _____ (the lender holds a lien)
lien theory
*In LA, the title is in the borrower’s name, but the lender has a lien.
Some states follow the ____ (the lender holds the title).
title theory
A few states use a mixture of both concepts.
The lender receives a limited form of legal title to the pledged property. The borrower is held to have conveyed, or alienated, limited legal title to the lender. This conveyance is valid as long as the mortgage debt is unpaid. Paying off the debt is said to DEFEAT the conveyance. The borrower, of course retains possession of the mortgaged property as long as he does not default on the debt. If the borrower defaults by falling behind in his payments or breaking some other covenant of the mortgage agreement, the lender, as under the lien theory, must go through foreclosure proceedings to recover his full interest in the collateral property. Has been adopted, at least partially, by 17 states.
the title theory
Characteristics of a title theory:
- Lender’s rights are manifested by contract for deed.
- Lender remains the legal owner of the property until the debt is paid.
- Borrower retains equitable rights in the property.
Used in most states, including LA. In states which apply this theory to real property pledged as collateral, the borrower is said to hypothecate title to the lender.
However, until default occurs, this theory grants the borrower full rights to the property. He holds legal and equitable title. Retaining equitable title is important because doing so permits the borrower who falls behind in his payments to redeem his property before the lender actually forecloses.
the lien theory
A _____ simply confers the legal right to attach a claim against a property, to go into court, if necessary, to enforce that claim, and to secure whatever compensation the court deems just and appropriate.
lien
the lender is given a lien against the borrower’s collateral property and, if default occurs, the lender can file foreclosure proceedings in order to recover his interest in the property.
Hypothecation
Characteristics of Lien Theory:
- Borrower’s and lender’s rights are described in a promissory note and mortgage agreement.
- Borrower holds legal title with the lender having a lien or security interest.
- The defaulted borrower is allowed to retain possession, title and rights in the property until the lien is perfected by foreclosure.
- Borrower, after default, may have equitable right of redemption. After foreclosure sale, borrower may have statutory period of redemption.
*In LA, we only have equitable right of redemption. This right is extended from the notice of foreclosure until the property actually is sold at sheriff’s sale.
The major difference between the title theory and the lien theory…
In the title theory, the borrower deeds his property to the lender. The mortgage conveys title to the borrower when the property is paid for.
In the lien theory, the borrower gives only a lien right to the lender. The borrower retains title to the property.
A few states have adopted a ____ of collateral property midway between the lien and the title theories. In these states, the mortgage is considered to be a lien, but if the borrower defaults, title is conveyed to the lender.
mixed or intermediate theory
Under either theory, or a mixture of these theories, the borrower actually retains possession of the mortgaged property until the debt is paid off, at which time the mortgage is said to be ____.
defeated
A ______ is a security instrument that creates a lien, or in other words, it is a document that makes property security for the repayment of a debt. This collateral interest is created on behalf of the lender.
mortgage (or trust deed)
The participants of a real estate loan are the _____ and the _____.
mortgagor
mortgagee
The ____ is a person or entity who makes a mortgage, the borrower. They convey a lien on his or her property to another person, bank or other institution.
mortgagor
The ____ is the party receiving the mortgage, the lender. They receive a lien on the borrower’s property as security for the debt.
mortgagee
Elements of a Mortgage:
- The provisions of the agreement.
- Legally competent parties.
- Mutual consent.
- Exchange of consideration.
- Legal purpose.
The ____ is the borrower’s personal, unconditional promise to repay the loan. The borrower’s promise to repay is construed to be an unconditional promise, that is, it makes the note a negotiable instrument, one which may be assigned freely by the lender to another party, in much the same way as a check can be endorsed to make it payable to another party.
promissory note
A promissory note can be a debt instrument without a mortgage. If so, it is an _____.
unsecured note
A _____ is one having no mortgage and no collateral.
signature loan
gives the lender the right to demand payment in full of the entire unpaid debt in the event of default. Without this clause the lender would have to go into court month by month to collect a delinquent borrower’s obligation. This process could conceivably last as long as the duration of the loan itself.
acceleration clause
pushes the interest rate up to the highest rate allowed by law if default occurs and the debt is accelerated
interest escalation clause
The practice of charging more that the legally allowable interest is termed ____
usury
This clause both encourages the borrower to make his payments on time and compensates the lender for delays in receiving his expected payments.
late pay clause
Many notes include a penalty for prepayment or restrict loan prepayment, following the legal reasoning that the lender has contracted to perform no more and no less than stated in the note. Since accepting payments larger than their agreed upon amount or before their due dates in effect deprives the lender of a portion of the interest which the borrower has promised to pay, lenders protect their yield through the _____.
prepayment clause or the prepayment penalty clause
absent in FHA and VA loans
Prepayment penalties are usual in the first few years of existence of the note.
If the borrower is not permitted to pay off any or all of the loan’s balance before the regularly scheduled payment dates, the prepayment penalty clause is called a ____.
lock-in clause
The security instrument, that is, ____, gives the lender legal recourse in the event of the borrower’s failing to meet his obligations as contained in the promissory note, and they also contain certain covenants regarding how the borrower may or may not use the collateral property.
the mortgage or trust deed
a contract between the borrower and the lender.
mortgage
borrower is referred to as the…
The giver of his pledge of his property as collateral. he gives a lien or sometimes a title interest in it to the lender or mortgagee.
mortgagor
the lender is referred to as the…
The lender’s lien or title interest allows him to foreclose if the borrower defaults.
mortgagee
In the mortgage agreement, the mortgagor (borrower) is said to _____ an interest in his property to the mortgagee (lender).
hypothecate
To pledge a specific property as collateral without actually giving up possession or the other rights associated with ownership.
hypothecate an interest in real property
The mortgagee’s rights of hypothecation allow him to go into court and obtain a judgment against the mortgagor in the event of his default.
In order to give notice of the lien, the mortgage must be …
recorded at the office of the county or parish recorder in which the property is located.
A real estate mortgage always requires an _____ that is identified by the legal action of a notary.
accompanying promissory note
When the mortgagor’s debt is completely satisfied, the mortgagee cancels the note by executing a ____, which cancels the debt and defeats any interest the mortgagee has had in the collateral property. Like the mortgage itself, the satisfaction should be recorded to insure its legal effectiveness.
satisfaction of judgment
Because mortgage law varies from state to state and mortgage practice is partially a matter of the needs and preferences of the various lenders and borrowers, there is no such thing as a ____
“standard” mortgage form.
ELEMENTS OF A MORTGAGE:
Clause #1: contains date, place and names of parties.
Clause #2: amount of mortgagor’s debt and schedule of payments.
Clause #3: the granting clause, pledging the collateral property to the mortgage. In lien theory states, this clause will read “mortgage and pledge”; in title theory states, it will read “mortgage and grant”.
Clause #4: legal description of mortgaged property, also listing any personal property included in the mortgage.
Clause #5: the warranty of title clause, affirms that mortgagor holds good and clear title to the property and has the right to convey it.
Clause #6: the defeasance clause removes the mortgage when the debt is paid.
There may also be an ____ which gives the lender the right to increase the rate of interest during the length of the mortgage.
escalation clause
COVENANTS:
- ) covenant to pay taxes and special assessments
- ) insurance covenant
- ) covenant of good repair
- ) covenant against removal
- ) property inspection covenant
- ) alienation clause
- ) receiver clause
- ) owner’s rent clause
- ) subordination clause
Obligates the borrower to maintain adequate hazard insurance to protect the property.
insurance covenant
In some mortgages called ___, the mortgagor agrees to assign a certain portion of each monthly payment for insurance and taxes. These funds are placed in escrow accounts.
PITI Mortgages
principal, interest, taxes, and insurance
a covenant against waste. Keeping the property in good repair and not allowing it to go to ruin
covenant of good repair
prohibits the mortgagor from removing any property covered by the mortgage
covenant against removal
permits the mortgagee to inspect the property covered by the mortgage
property inspection covenant
makes the mortgage non-assumable by giving the lender the following rights:
alienation clause or due on sale clause
- ) right to demand payment in full
- ) right to investigate credit and approve any buyer who wishes to assume the mortgage
- ) allows lender to raise the interest rate on alienated property above that of the original loan
provides for a receiver to oversee the operations of income producing properties while in foreclosure. This prohibits the borrower from collecting rents while neglecting to pay property taxes, and perform maintenance, etc.
Receiver clause
In trust deeds, this clause is called the assignment of rents clause
Applies to owner occupied residences in foreclosure
owner’s rent clause
a feature in certain types of mortgages. Gives the lender permission for a subsequent lender to assume first mortgage lien rights. If the mortgage goes into foreclosure, the holder of a second, or junior mortgage, can take first priority for satisfaction of his claim at the foreclosure proceeding.
subordination clause
most common in the sale of vacant land
the right of a title company to receive any damages available to the insured when the title company has made a payment to settle a claim covered by a policy
subrogation
an instrument that is employed to pledge an interest in real property in exchange for a loan or other consideration.
trust deed
Trust deed includes three parties…
- the borrower is the TRUSTOR
- the lender is the BENEFICIARY
- the added third party is the TRUSTEE
an impartial party appointed to oversee the trust agreement. May be a private institution, such as a title company, or it may be a private person
trustee
The mechanics of the trust deed:
- The owner of a property (trustor) transfers title to a third party (trustee) in exchange for a loan or other consideration from the lender or beneficiary. The borrower or trustor executes both a promissory note and a trust deed. The borrower’s signature is required on both documents.
- The trustee holds the title for the benefit of the lender or beneficiary to secure the loan the lender has made to the trustor.
- The trust deed is said to convey “bare” or “naked” title which is held by the third party, the trustee. As long as the trustor does not go into default, he retains full legal rights to the property. The trust deed conveys along with the title, a power of sale. If the trustor does not pay his debt, the trustee may sell the property and turn the proceeds of the sale over to the lender.
- When the trust deed is paid off, the trustee must give the trustor a deed of reconveyance which transfers the title back to the original owner. (The clause of reconveyance is analogous to the defeasance clause in a mortgage).
If the borrower or trustor does default, the beneficiary _____
conveys the trust deed to the trustee and instructs him to sell the property
Because of the trust deed’s ___, the property can be sold without the necessity of going through the court action of a foreclosure.
power of sale clause
The primary difference between a mortgage and a trust deed…
a mortgage
- creates a lien
- two parties must be named
a deed
- conveys title
- three parties must be named
- contains a power of sale clause, warranty to title clause, reconveyance clause, acceleration clause, receiver clause, and owner’s rent clause
In this type of financing, the sale and financial agreement are generally in one document. The buyer gives a downpayment plus a promissory note and mortgage or trust deed in exchange for certain rights to the seller’s property. No third party lender need be involved. The buyer does not receive full title until the terms of the contract have been met. The seller delivers the deed when all of the payments have been made. The purchaser, however, has all of the privileges of ownership in the meantime.
Because the seller retains legal title until the debt is satisfied, in most states he does not need to go through foreclosure proceedings if the buyer defaults. In some strict jurisdictions, the buyer may be evicted if he falls behind on payments and will forfeit all payments if he breaches the contract. Also, he may not have absolute guarantee that the seller will be able to deliver good and marketable title once the debt has been paid. The advantage to the buyer is that he may be able to purchase property without a large cash output and without going through a lending institution.
CONTRACT FOR DEED or Installment Land Contract, Conditional Sales Contract, Agreement to Convey
In LA, called Bond for Deed
The basic elements of a Contract for Deed are:
- A description of the deed for the property.
- Conditions of the sale, such as purchase price and terms of the loan.
- The buyer is responsible for paying taxes and insurance.
- Signatures of both parties, dated and notarized.
- Escrow provisions and prepayment privilege.
- Protections for the seller, such as the right to declare entire purchase price due if buyer defaults.
The seller accepts a promissory note and mortgage or trust deed from the buyer in partial or complete payment for the property. The buyer in turn receives legal title to the property and all the accompanying rights of ownership. In effect, the property becomes the buyer’s collateral for the loan.
purchase money mortgage or purchase money trust deed
Purchase money agreements may be either _____ mortgages.
first or second
If a first purchase money mortgage is executed simultaneously with a deed to the property…
the purchase money mortgage has first claim against the property, superseding any homestead rights which might normally prevail in the state in which the property is located.
The primary difference between the purchase money mortgage and the contract for deed is….
contract for deed
- the seller retains legal title to the property until part or all of the debt is paid
- Until this time the buyer holds equitable title only.
purchase money mortgage
-the buyer receives full legal title at the time of sale.
If the borrower fails to meet the obligations of the mortgage, the lender has the right to ____ on the collateral property and sell the property to redeem the debt.
foreclose
Under the method termed _____, if the amount received from the sale exceeds the borrower’s debt, the lender profits. This method has gradually been modified to treat the borrower more fairly.
strict foreclosure
Under the practice which has evolved, _____, the lender is required to refund to the borrower any profit realized on the sale of the foreclosed property.
foreclosure by sale
If the lender is unable to recover his full interest in the collateral property, he may, in some states, be permitted to seek a _____ against the borrower in order to recover the remaining debt.
Allows the lender to attach and seize the borrower’s unsecured personal and real property to make up the difference between the amount realized at the foreclosure sale and the borrower’s remaining outstanding obligation.
deficiency judgment
However, if the buyer has acquired the property “subject to” an existing mortgage he can not have a deficiency judgment entered against him.
Because of the trust deed’s “power of sale” clause, the property can be sold without the necessity of going through the court action of a foreclosure. The lender or its trustee has the right to sell the collateral property upon default, rather than having to file expensive legal proceedings.
Eliminates the statutory period of redemption.
The most common form of sale foreclosure.
deed of trust foreclosure
Steps in a deed of trust foreclosure…
- ) The lender/beneficiary notifies the trustee in writing of the delinquency of the trustor/borrower and instructs the trustee to start foreclosure proceedings.
- ) A 90 day notice is forwarded to the trustee and the sale is advertised in the newspaper.
- ) The trustee or any junior lienholders have the right to bring the loan up to date with payment of delinquent payments plus accrued collection costs, delinquency fees, etc.
Upon default, the property is sold at the Sheriff’s sale and proceeds, up to the amount of the debt, go to the lender.
mortgage foreclosure
Louisiana permits this type of foreclosure. If the property does not sell for the full amount owed, the creditor may obtain a deficiency judgment for the amount owed by the borrower above the proceeds of the sheriff’s sale. The debtor has the right to bid for the property only if the bid equals at least two-thirds of the appraised value.
sale with appraisement
If no appraisal has been made, the lender forfeits the right to obtain a deficiency judgment.
sale without appraisement
Under this process the borrower, “sells” the property to the lender in return for the lender canceling the note. The lender does not retain the right of a deficiency judgment if the property sells for less than the borrower owed.
Deed in Lieu of Foreclosure or a “friendly foreclosure”
In LA, called dation en paiement
Foreclosure may take place by either _____.
ordinary process or executory process
much quicker because it does not have to go through the judicial process. It already includes a waiver of notice, that is, the legal delay of foreclosure have been waived.
executory process
occurs during the period of time after the borrower goes into default but before the actual foreclosure sale. During this period, the borrower, or other lien holder, can redeem the property by paying the current indebtedness. If the mortgage contains an acceleration clause, the entire debt may have to be paid in order to redeem the property.
equitable redemption
ccurs after the actual foreclosure sale. Depending on the state, the borrower may have up to two years to redeem his property by paying off the debt in full, and he may be permitted to remain in possession of the property. During this period, the court may appoint a receiver to pay operating costs, collect rents, and otherwise look after the property. The time limit varies from state to state.
statutory redemption
*In LA, there is no statutory redemption except for tax sales which is 3-5 years.
Foreclosure by power of sale is referred to as ___. The borrower is allowed only a period of reinstatement, extending only to the time the property is sold.
non-judicial foreclosure
Loans may be divided into two general categories:
- ) conventional loans
2. ) government backed loans
The process of determining the risk a lender is incurring by lending a sum of money to a certain borrower to finance a particular property is referred to as ____
underwriting, or loan qualification
When underwriting a loan, the lender concentrates on three areas:
- the borrower
- the property
- the location of the property
How is a borrower evaluated?
- ) a variety of factors are taken into consideration including:
- income
- character
- expenses
- savings and other assets
- occupation
- income stability
- length of time at current employment
- desire to repay. - ) Standard procedure is to obtain a credit report from which the lender determines the borrower’s credit history.
- ) The lender usually uses a ratio of 2 ½ to 1 in verifying the ability to repay the loan. In other words, the purchaser should be able to afford a home loan that is 2 ½ times as large as his or her annual gross income.
How is the property evaluated?
- ) An appraisal and title report are usually ordered to establish the property’s present value and to uncover any unsatisfied liens or other encumbrances against it.
- ) The appraisal establishes the fair market value of the property, which may or may not be the same as the purchase price.
How is the location evaluated?
- ) The lender takes into consideration such factors as:
- the presence of adequate utilities
- street paving
- proximity to schools, churches, shopping and recreational facilities. - ) Economic obsolescence
forces outside the property itself which cause a decline in its value, is also considered.
economic obsolescence
This is the term used to describe the relationship between the amount of the downpayment and the amount of the loan.
LOAN TO VALUE RATIO (LTVR)
divide the amount of the loan by either the appraised value or the selling price, whichever is less.
Before the Depression, LTVR’s ranged from 40% to 60%.
Conventional loans of today normally have an LTVR of 80% because the use of public and private loan insurance and guarantee programs.
Generally, any loan approved for more than 80% LTVR must have ______. The borrower pays an insurance premium for an insurance policy which covers the top portion of the loan proceeds advanced over and above the standard 80%. This insurance covers the potential deficiency in proceeds which the lender might experience after foreclosure and sale of the collateral.
private mortgage insurance (PMI)
Government backed loans:
- ) Federal Housing Administration Loan Program (FHA)
2. ) Veteran’s Administration Guaranteed Loan
- Created in 1934
- an alternative to conventional lending practices
- rarely provides mortgage funds directly to borrowers
- doesn’t build houses
- doesn’t set interest rates
- it is a large federal mortgage insurance agency
- loans are insured by the federal government through the DEPARTMENT OF HOUSING AND URBAN DEVELOPMENT (HUD)
- insures lenders against loss from borrower default
- main objective is to assist in providing housing opportunities for low- and moderate-income families.
- doesn’t have income limits to determine who’s eligible for assistance
- anyone who is a U.S. citizen, permanent resident, or non-permanent resident with a work visa and who meets the lending guidelines can obtain a loan
- sets a max mortgage amount that it will insure
Federal Housing Administration Loan Program (FHA)
Government backed loans are exempt from the ____.
federal usury laws
set the maximum interest rate that can be charged
usury laws
Requirements for FHA loans:
- ) Downpayment of at least 3.5% of the purchase price, but closing costs can be included in the loan
- ) Borrower is charged a mortgage insurance premium
- ) Property must be appraised by an approved FHA appraiser
- ) Max mortgage limits are set for various regions of the country
- ) Borrower must meet standard FHA credit qualifications
- ) Includes financing for manufacture or factory-built housing
provides a function similar to private mortgage companies: insuring private lenders against losses caused by borrower defaults on FHA insured loans.
Under the plan, lenders approved by the FHA either submit applications from prospective borrowers to the regional HUD Homeownership Center for approval or may act as Direct Endorsers.
Mutual Mortgage Insurance Fund (MMI)
lenders authorized to underwrite their own FHA loan applications. They are responsible for the entire mortgage process, through closing, and perform underwriting functions themselves (credit examination, appraisal review, etc.). When they approve and close a loan, the application for mortgage insurance is then submitted to the FHA.
Direct Endorsers (Des)
The FHA established guidelines for approving borrower and property, as well as other loan regulations, for FHA loans; and their regulations have the force and effect of law. These guidelines generally apply to all standard ____ loans on single-family homes.
FHA 203(b)
Difference between FHA and conventional…
FHA
- have more liberal income qualifying standards
- Although an underwriter likes to see a stellar credit history, some prior credit issues might not be a problem as long as there are no open collections, outstanding judgments, etc. on the credit report.
- a borrower who has defaulted on a student loan would not qualify for an FHA loan
- many lenders impose minimum credit score requirements when approving a borrower.
- less stringent when it comes to a borrower’s level of income
the relationship of the borrower’s total monthly housing expense to income, expressed as a percentage.
housing expense ratio
When you know a borrower’s stable monthly income, you can multiply that by the housing expense ratio to determine the maximum monthly housing expense the borrower can afford.
FHA considers a borrower’s income adequate for a loan if the proposed total mortgage payment does not exceed ___of gross stable monthly income.
31%
FHA’s maximum mortgage payment includes ____ as well as any monthly homeowners association dues. This allows the FHA to get a better picture of the borrower’s true total housing cost.
principal, interest, taxes, and insurance (PITI)
FHA downpayment…
- no pre-payment penalties or lock in clauses on its insured loans
- only insures first mortgages
- can be assumed without an interest increase
- permit only loans that have a “subject to transfer” clause to be taken over through a formal assumption process.
- Can be sold in the secondary mortgage market
- to qualify for financing, the property must meet min. property standards and the buyer must be qualified
required for all FHA loans, regardless of downpayment size. Has an initial premium and an annual premium.
Mortgage Insurance Premium (MIP)
or
Upfront Mortgage Insurance Premium (UFMIP)
MIP for a new home purchase with a 30 year mortgage…
Initial is 1.75% of the loan amount
annual premium of 0.55% of the outstanding loan balance, divided into 12 monthly payments
MIP for a new home purchase with a 15 year mortgage…
Initial is 1.75% of the loan amount
annual premium of 0.25% of the outstanding loan balance, divided into 12 monthly payments
FHA loan review…
- ) Less stringent qualifying standards
- ) Higher property standards
- ) Low down payments
- ) MIP is required
- ) Long-term loans
- ) Loans are assumable
- ) No prepayment penalty
est. in 1944 to aid veterans or their surviving spouses in obtaining financing for the purchase or construction of owner occupied homes and farms. Also available for owner-occupied mobile homes and condos
VA program
veteran can’t buy another house using a VA loan until the 1st loan is paid off
FHA and VA loans aren’t really loans, they’re…
loan insurance
FHA loans are insured, VA loans are ____
guaranteed
veteran borrowers pay no insurance premium on VA loans
The loan guarantee amount which the veteran is eligible to receive on a VA loan is referred to as his ____
entitlement
To determine what portion of a mortgage loan the VA will guarantee, a veteran must apply for a _____. It establishes the maximum guarantee entitlement of the veteran.
certificate of eligibility
The VA will also issue a ____ for the property being purchased stating the current market value based on a VA-approved appraisal
certificate of reasonable value (CRV)
Is there a limit on VA loans?
there’s no limit on the amount of the loan a veteran can obtain. The VA limits the amount it will guarantee
If a mortgagor defaults on a VA loan…
the VA will pay the lender the following amounts toward the remaining balance after the foreclosure sale. After the property has been foreclosed, the VA may elect to make full restitution to the lender and take title to the property.
The dollar amount of interest paid is calculated as a percentage of the ____.
loan’s principal
_____ is always calculated on a yearly basis. To calculate the amount of interest in any given month, ______.
interest
multiply the interest rate by the principal balance and divide by twelve.
used to lower the interest rate on the loan while increasing the yield to the lender. Can be thought of as pre-paid interest, as they are paid as a lump sum at the time of closing. They are also considered to be increased yield to the lender since the lender is getting more money at the time of sale.
Discount points or equalization factors
covers several properties, but each may be released from the mortgage separately. This is the type of mortgage that is usually used by a developer constructing tracts of homes.
blanket mortgage
A _____ drafted into the blanket mortgage permits each parcel to be released from the mortgage as it is sold.
partial release clause
secured by both real and personal property, that is, both movables and immovables. This type of loan is commonly used to finance new homes along with major household appliances.
the package mortgage
used for owner financing and is originated by a second lender combining equity and money owed into a second mortgage. In a common transaction, a second lender agrees to assume payments on the borrower’s original loan and also to lend the borrower the additional funds he requires. The loan may be at a higher interest rate than the original loan, but still below the current market rate.
the wrap around mortgage
used for building or repairing either residential or commercial property and is a type of INTERIM FINANCING. The loan is committed for the total cost of the construction project, but is paid out in draws at regular intervals after each stage of construction has been completed. Interest is paid only on the total amount of disbursements. Are generally made for periods of three years or less.
construction loan
Other forms of owner/seller financing which were mentioned earlier are …
- ) the purchase money mortgage
2. ) the installment land contract, or bond for deed.
calls for payments of interest only for the term of the loan. At the end of the term, the entire sum of the principal is due in one balloon payment plus any remaining interest.
straight loan or term loan or straight term loan
this loan type features a schedule of equal payments consisting of both principal and interest. This is normally a long term loan, up to thirty years. The portion of the monthly payment that is applied toward the principal increases each month, and the amount applied toward the interest decreases each month. In other words, as the loan matures, more and more of each payment is applied toward the principal, so that, in the beginning you are paying mostly interest, and at the end of the loan, you are paying mostly principal.
fully amortized loan or
direct reduction loan
Payments are typically calculated over a 20 or 30 year amortization period with a loan term of 5 years. Is repaid in regular installments of principal and interest, but one or more payments is a balloon payment, that is, a payment larger than the loan’s regular payment amounts. The effect of the balloon payments is to reduce the amount of the regular payments.
The partially amortized loan or limited reduction loan or renegotiable rate mortgage
A mortgage in which the interest rate fluctuates according to some external index, such as the open market interest rate, prime lending rate, or consumer price index. Normally, the rate is adjusted once a year and can not change more than 2% in any one year period. There is also a ceiling or upper limit on the interest rate, and a lower limit.
The adjustable rate mortgage or
variable rate mortgage
Payments start small and become larger as the mortgage goes on. Generally used for commercial loans enabling a new business to defer a portion of their mortgage payments in the expectation of increased income in the future. In some, the borrower pays only interest for the first few years.
graduated payment mortgage (GPM)
In this type of loan the borrower increases his existing mortgage to the original amount. This is, in effect, a way of borrowing against your equity without taking out a second mortgage. This usually results in the borrower having a higher monthly note since the full amount must be repaid by the original expiration date of the loan.
the open end loan
Mortgage is tailored for older homeowners, retired, or near retirement, who own a home free and clear and wish to use some of the equity they have in their home. Regular monthly payments are made to the borrower based on the equity the homeowner has invested in the property. The loan is eventually paid from the sale of the property or from the borrower’s estate upon his or her death.
Reverse mortgages
arrangements are used to finance large commercial or industrial properties. The land and building, usually used by the seller for business purposes, are sold to an investor, such as an insurance company. The real Estate is then leased back by the buyer to the seller, who continues to conduct business on the property as a tenant. The buyer becomes the lessor, and the original owner becomes the lessee. This enables a business firm with money invested in the real estate to free that money so it can be used as working capital.
Sale-and-leaseback
a way of temporarily lowering the initial interest rate on a mortgage or deed of trust loan. By “pre-paying” some of the interest to the lender on the borrower’s behalf, one can “buy down” the original interest rate for a period of time. Typical arrangements reduce the interest rate by 1 to 3 percent over the first one to three years of the loan.
buydown
Charged by most lenders for generating a loan. Aren’t prepaid interest. They are paid to the lender and are usually 1 percent of the loan amount.
A loan origination fee
Sources of financing:
- ) Institutional lenders
- ) Non-institutional lenders
- ) The secondary mortgage market
Institutional lenders:
- ) Savings and loans
- ) Commercial banks
- ) Mutual Savings Banks
- ) Life Insurance Companies
Non-institutional lenders:
- ) Mortgage brokers
- ) Mortgage bankers
- ) Pension funds
- ) Trust funds
- ) Private individuals
- ) Foreign investors
- ) University and hospital endowment funds, credit unions
do not use their own funds. They find money to lend, acting as intermediaries between the borrower and the lender. He has nothing to do with servicing the loan.
mortgage brokers
set up loan transactions using their own capital, and also service the loan.
mortgage bankers
facilitates the buying and selling of mortgages that have been made by the primary mortgage market. Any time a lender takes over a loan that he himself did not originate, he is engaging in this. The secondary lender buys mortgages from primary lenders, thereby supplying him with the cash needed to originate more new loans.
The secondary mortgage market
the original purpose of this program was to establish a market for the buying and selling of government insured mortgages and thereby to assist holders of certain residential mortgages. Buys conventional and FHA and VA backed loans. In September 2008, it became a government-owned enterprise. Until that time it was a privately owned corporatin that issued its own stock.
Federal National Mortgage Association (FNMA)
Nicknamed “Fannie Mae”
this organization is sponsored and administered by the federal government and is under the auspices of the department of Housing and Urban Development. Acquires loans for urban renewal projects, housing for the elderly, and other federal housing programs which assist low and moderate income households.
Government National Mortgage Association (GNMA)
Known as “Ginnie Mae”
was founded in 1971 to allow savings and loans liquidity for their mortgage assets. Buys mortgages from these institutions and supplies them with cash to originate new mortgages. Like FNMA, is now a government-owned enterprise that provides a secondary market for mortgage loans, primarily conventional loans.
Federal Home Loan Mortgage Corporation (FHLMC)
“Freddie Mac”
similar to Fannie Mae and Freddie Mac except that it deals with agricultural loans. Purchases agricultural loans from original lenders and issues guaranteed mortgage-backed securities. The Farm Service Agency (FSA), formerly the Farmers Home Administration is a federal agency of the Department of Agriculture. The FSA offers programs to help families purchase or operate family farms. It also provides loans to help families purchase or improve single family homes in rural areas
Farmer Mac
formerly the Federal Agricultural Mortgage Corporation
In 1968, the _____ was passed because of problems with consumer confusion regarding interest charges, points, misleading advertising practices, and confusion as to the actual cost of consumer credit.
FEDERAL CONSUMER PROTECTION ACT
A portion of this legislation, known as The Truth In Lending Law, is enforced by _____.
regulation “Z”
Regulation “Z” establishes guidelines for three aspects of the lending process:
- Disclosure of Loan Cost
- Borrower’s Right of Rescission
- Fair Advertising Practice
Real estate loans for personal, family, and agricultural purposes are covered by _____. Business and commercial loans are not covered.
Regulation “Z”
The Truth in Lending Law requires that the lender provide the borrower with a formal disclosure statement containing the following items:
- Date finance charge will begin to accrue
- annual percentage rate (APR)
- number of monthly payments
- due date of payments
- prepayment penalties
- balloon payments
- default and delinquency charges
- legal description of property
- amount of credit which will be made available to the borrower
- credit sales, cash price and total unpaid balance
Note that the lender is _____ to reveal the total amount of interest which will be payable during the full term of the loan.
NOT required
The law also deals with the way in which credit terms may be advertised. If an ad reveals any one specific credit term of the loan, then _____
all other pertinent credit terms must be revealed.
Regulation “Z” allows borrowers seeking ___ to rescind the loan contract up to midnight of the third business day following the signing of the contract, or three days after the lender disclosed the rate and amount of the loan’s finance charges, whichever is later.
second mortgages only
When a sale is closed, a settlement statement is used to show the items and amounts charged or credited to each party. The ____ covers the disclosure of settlement costs, the expenses a buyer must pay at the closing before he receives actual possession of the property.
Real Estate Settlement Procedures Act (RESPA)
applies only to first mortgage transactions which are financed by federal programs including FHA and VA backed loans, HUD administered programs, loans from lenders with federally insured deposits, and loans that are to be bought by FNMA, GNMA, FHLMC, or other federally controlled secondary mortgage market institutions.
RESPA
The RESPA requirements are:
- Borrower must be given a copy of the HUD settlement booklet
- Lender must prepare a good faith estimate of closing costs within 3 days of the loan application.
- Borrower must be given a copy of HUD’s Uniform Settlement Statement.
- No overcharging on escrow accounts for property taxes and insurance.
- No kickbacks or fees for services not performed during the sale closing.
to maintain sound credit conditions, help counteract inflationary and deflationary trends and create a favorable economic climate. Divides the country into twelve federal districts, each served by a federal reserve bank. All nationally chartered banks must join and purchase stock in its district reserve banks. Regulates the flow of money and interest rates in the marketplace indirectly, through its member banks, by controlling their reserve requirements and discount rates.
The Federal Reserve System
Homeowners may deduct from their gross income:
- mortgage interest payments on most first and second homes
- real estate taxes (but not interest paid on overdue taxes)
- certain loan origination fees
- loan discount points (whether paid by buyer or seller)
- loan prepayment penalties
the profit realized from the sale or exchange of an asset, including real property. It is figured as the adjusted basis of the property (initial cost plus any physical improvements minus any depreciation) minus its net selling price.
capital gain
To stimulate investment, Congress at various times has allowed part of a taxpayer’s capital gain to be _____
free from income tax
Current tax law specifies what percentage of capital gains is taxable as income. To determine the taxable amount, an investor ___
multiplies the total capital gain by the current percentage
Real estate investors can defer taxation of capital gains by ____. A property owner will incur tax liability on a sale only if additional capital or property is also received. Note that the tax is deferred not eliminated. When the property is sold the capital gain will be taxed.
making property exchanges
All or part of the gain on the sale of a personal residence is exempt from immediate taxation if ____
another residence is bought and occupied within 24 months (before or after) the sale of the old residence
An unmarried individual may exclude from income up to $250,000 of gain realized on the sale or exchange or a residence….
- ) The individual must have owned and occupied the residence for an aggregate of at least two of the five years before the sale or exchange.
- ) The exclusion can be used on a continuing basis – but not more frequently than once every two years.
- ) Effective for sales and exchanges after May 6, 1997, this exclusion replaces the one-time $125,000 exclusion for taxpayers age 55 or older.
For married individuals, the excludable gain is increased to $500,000 if filing jointly and if:
- Either spouse meets the ownership test;
- Both spouses meet the use test; and
- Neither spouse is ineligible for exclusion by virtue of a sale or exchange of a residence within the last two years.
Regulation Z
Disclosure requirements:
- cost of credit transactions
2. right to rescind in some types of credit transactions
Regulation Z
Coverage:
- loans to individuals for all real estate credit transactions for personal, family, and household purposes up to $25,000.
- loans to individuals covered for non-real estate credit transactions for personal, family and household purposes up to $25,000.
Regulation Z
Agreements NOT covered:
- personal property credit transactions above $25,000.
- real estate purchase agreements
- business or commercial loans
- loans with 4 or fewer installments
- loans made without interest charges
- loans to government agencies
- assumptions with no change in terms
- agricultural loans for amount above $25,000
Regulation Z
Requirements regarding finance charges:
- all finance charges as well as true annual interest rate must be disclosed.
- finance charges must include interest, loan fees, points, service charges, finder’s fees, credit fees and property and credit insurance.
- finance charge must be stated as annual percentage rate.
Regulation Z
Requirements regarding liens on residences:
- “cooling off” period required when liens will be placed on a principal residence; borrower has right to rescind the transaction up to midnight of the third business day following the transaction or until delivery of the disclosure statement, whichever is later.
- right to rescind does not apply to loans to finance the purchase or initial construction of a house.
Regulation Z
Advertising:
- does not require brokers to advertsie credit terms; if lenders advertise some credit details, they must fully disclose terms.
- full disclosure of terms:
a. amount of down payment
b. amount of loan or cash price
c. finance charges as annual percentage rate
d. number, amount and due dates of paymentse.
e. total of all payments except where advertisement relates to first mortgage
Regulation Z
Administered by…
Federal Trade Commission (FTC)
Regulation Z
Penalties for noncompliance:
- violation of an administration order enforcing Regulation Z is $10,000 for each day the fiolation continues.
- engaging in unfair or deceptive practice may result in a fine of up to $10,000.
- creditor may be liable to consumer for twice the amount of the finance charge, from a minimum of $100 to a maximum of $1000 plus court costs, attorney’s fees and any actual damages.
- willful violation punishable by fine up to $5,000 or one year’s imprisonment or both.
Ensures buyer and seller have knowledge of all settlement costs before closing.
Real Estate Settlement Procedures Act (RESPA)
Real Estate Settlement Procedures Act (RESPA)
Requirements:
- lenders must give copy of special information booklet, Settlement Costs and You to each loan applicant.
- borrower must be provided with a good-faith estimate of settlement costs by lender no later than three business days after the receipt of the loan application.
- loan closing must be prepared on a Uniform Settlement Statement (HUD 1).
- RESPA explicitly prohibits the payment of kickbacks and prohibits referral fees
when no services are actually rendered.
Real Estate Settlement Procedures Act (RESPA)
regulations apply only to transactions involving ______.
new first mortgage referral loans for one family to four family dwellings generally financed by the federally related mortgage loan.
Foreign Investment and Real Property Tax Act (IRC Section 1445).
Ensures that nonresident aliens and foreign corporations pay U.S. income tax based on gains from the disposition of U.S. real property interest…
- in real property located in the United States
- in any domestic corporation that was a U.S. real property holding corporation during the period that the taxpayer held the interest after June 18, 1980, or at any time during the five year period ending on the date of the disposition of the property, if earlier.
Foreign Investment and Real Property Tax Act (IRC Section 1445)
A ____is required to withhold a tax equal to 10 percent of the amount realized by the foreign transferor on the disposition of the property.
transferee of any U.S. real property interest
Foreign Investment and Real Property Tax Act (IRC Section 1445)
If a transferor’s or transferee’s agent fails to furnish the notice required, ____, except that the agent’s liability is limited to the amount of compensation that he or she derives from the transaction.
the agent, for example, a broker, is required to withhold in the same manner as would be required of the transferee
Foreign Investment and Real Property Tax Act (IRC Section 1445)
A buyer or other transferee of a U.S. real property interest and any corporation, partnership or fiduciary required to withhold tax must file an ____ to report and transmit the amount withheld.
IRS Form 8288
Foreign Investment and Real Property Tax Act (IRC Section 1445)
Buyers or other transferees of a U.S. real property interest also must file an ____ to show the amount withheld.
IRS Form 8288-A
Foreign Investment and Real Property Tax Act (IRC Section 1445)
Generally, the amount required to be withheld with respect to any disposition of a U.S. real property interest cannot exceed _____.
the amount of the transferor’s maximum tax liability
Foreign Investment and Real Property Tax Act (IRC Section 1445)
Brokers involved in listing or selling a U.S. real property interest for nonresident aliens or foreign corporations should contact ____
the IRS to establish the appropriate procedures
IRS Regulations
Generally do not apply to purchases where the property will be used ____
as a residence and the sale price is under $300,000
IRS Regulations
Independent Contractor and Employee - under the “qualified real estate agent” category in the Internal Revenue Code, meeting three requirements can establish independent contractor status…
- must have current real estate license.
- must have a written contract with the broker that contains the following clause: “The salesperson will not be treated as an employee with respect to the services performed by such salesperson as a real estate agent for federal tax purposes.”
- 90% or more of the individual’s income as a licensee must be based on sales production, not on the number of hours worked.
- broker should have a standardized agreement drafted or reviewed by an attorney.
IRS Regulations
1099 forms…
- IRS rules require closing agents to report details of closing to the IRS using IRS Form 1099 S.
- Reports must be submitted for sales or exchanges of residences with 4 or fewer units.
- commissions paid to salespeople by brokers also must be reported on IRS Form 1099 MISC.
IRS Regulations
Declarations of value…
- documents or statements of value that accompany every deed or contract to be recorded in the registrar of deeds office.
- statements of value are used by local and state tax officials for assessment purposes.
IRS Regulations
Imputed interest…
- IRS will impute, or assign, interest at a prescribed rate, computed monthly, on an installment contract that fails to include an interest rate or states an unreasonably low rate.
- although no interest is paid, buyers may deduct for tax purposes imputed interest per annum on unpaid balances.
- rate for determining whether interest should be imputed and the amount of interest that should be imputed is based on the applicable federal rate (AFR).
- AFR is one of 3 rates, depending on whether the debt instrument is
a. short term - not more than 3 years
b. midterm - more than 3 years but not more than 9 years.
c. long term - more than nine years. - IRS issues alternative AFRs on a monthly basis
- Installment sales less than $3,000 are not covered by the imputed interest law.
IRS Regulations
1031 tax-deferred exchange…
- under Section 1031 of the IRC, real estate investors can defer taxation of capital gains by making a property exchange.
- a property owner may exchange one property for another property and have tax liability on the sale only if additional capital or property is received.
- tax on an exchange is deferred rather than eliminated.
- properties involved in exchange must be of like kind.
- “like kind” refers to any real property to be held for income purposes or investment; it excludes dealer property and residences.
- additional capital or personal property included in a transaction to even out the exchange is considered boot; the party receiving boot is taxed at the time of the exchange.
Antitrust Law
Prohibitions:
- allocation of customers or markets
- price fixing
- boycotting
- people violating the Sherman Antitrust Act may be found guilty of a felony punishable by a maximum $100,000 fine and three years in prison.
- in a civil suit a broker found guilty of violation of the Sherman Antitrust Act will be liable for 3 times the actual damages plus attorney’s fees and costs.
agreement among brokers to divide their markets and refrain from competing for each other’s business; division may take place on a geographic basis or on a certain price range of homes.
allocation of customers or markets
conspiracy among brokers to set prices for their services, rather than negotiate such fees.
price fixing
two or more businesses conspire against other businesses to reduce competition.
boycotting
