Finding the best mortgage to fit your specific needs is no simple task. You should certainly shop around for your mortgage but you need tools to make apple-to-apple comparisons. If you’re not a math junkie, you’ll probably have some frustration working through the details but it will make you financially wiser in the end.
The APR and mortgage interest rate are not the same. The interest rate is the amount you’ll pay to borrow the money as a percentage of the total loan amount. The APR is the annualized cost to take out your loan that includes interest, fees, points, mortgage insurance, and more. You should always expect to pay a higher APR than the interest rate.
When you shop for a mortgage, different lenders will offer different interest rates, fees, points, and other costs. You’ll see that one lender’s offer has a lower interest rate but higher fees. Another lender will have a higher interest rate but lower fees. The intention of the APR is to take these differences into consideration when deciding which loan will cost you less over the long run. The APR is most useful if you plan to keep the loan more for more than six or seven years. That's because the APR calculation assumes that you'll keep the loan for its entire term - usually 15, 20, or 30 years. In general, the APR becomes more accurate the longer you pay on the mortgage. For loans less than six or seven years, the interest rate is usually the better way to go if it means lower monthly payments.
When you are close to applying for a mortgage, ask the lenders that you are considering for a “Loan Estimate” (previously known as a “Good Faith Estimate”). You’re not required to provide written documentation to get a Loan Estimate. The only fee that can be charged is a small upfront fee to pay for pulling your credit report, usually no more than $20. Read the loan estimate in detail but on page 3, you’ll find information about the APR and different information about the cost after paying the loan for 5 years. This is not the same as the amortization schedule that you find with most online mortgage calculators (these only include interest and principal). The biggest difference is that at the 5-year mark, it shows you how much will have been paid in interest, principal, mortgage insurance, and loan costs. It also shows the APR for the entire length of the loan. You can compare these for two or more loans to see which works better for you financially. For apples-to-apples, compare 5 years between loans and APR between loans.
Lenders have some variance when they calculate APR because some fees don’t legally have to be included. Ask for a list of all fees that are included and any that are not so that you can do an apples-to-apples comparison. More ethical lenders include more fees, but that makes their APR appear higher.
If you’re looking to compare adjustable rate mortgages (ARMs) the APR can be useful but it has different calculations based on when the loan interest rate will adjust and how much the rate can adjust.
On page 2, section A of the Loan Estimate, you’ll find a breakdown of the costs shown on page 1 of the estimate. The lender won’t want to negotiate these but in the industry, some of these are known as “junk fees” (primarily the application and underwriting fees). At the very least, compare these between lenders. But don’t hesitate to ask to have these fees reduced. The industry is so automated today that it doesn’t justify charging $400 to press a computer button to process your application.
On page 2, section C of the Loan Estimate you’ll find a list of services that the lender allows you to shop for. These will probably be different depending on what part of the country you live in. Good ways to shop for these are through your real estate agent, friends, or a local website that rates professionals. Some of the services that you might be able to get a better price for include buyer's attorney, pest inspector, homeowner’s insurance, title insurance and related services, survey, and notary. There may be others at your location.
This might surprise both you and your real estate agent but studies are showing the time of year can affect the cost of your mortgage. Studies suggest that during the slow season, some lenders reduce their costs to be more competitive. These savings aren’t likely to be major but it could mean a couple of tenths of a percentage point less on the interest rate. It could also be the time of the year when lenders are most likely to lower their costs for things like underwriting and application fees. January tends to be the lowest cost month, followed by December and February. The time between June and October are the most expensive. In a nutshell, the trend is towards higher costs based on the number of applications being submitted.
Please comment with your ideas to lower closing and mortgage costs.
Also, our weekly Ask Brian column welcomes questions from readers of all experience levels with residential real estate. Please email your questions, inquiries, or article ideas to [email protected].