Mortgage Broker Vs Mortgage Banker Vs Bank. Which should you use for your real estate financing? Is one better than another?
The answer to the first question above, "Which should you use for your real estate financing" is, "It depends!" The answer to the second question, Is one better than the other?, is, "yes".
Does that clear things up? If it doesn't you're not alone. A lot of people, including a good number of real estate professionals don't actually have a firm grasp on exactly how the mortgage banking industry is structured.
This and some comments on various blogs that were disparaging to mortgage brokers are the reasons I chose this topic to write on today.
The truth of the matter is that each of these types of mortgage lenders has strengths and weaknesses and the more you know about each, the better you will be able to answer the questions poised above. That said, I'm Professor Bob and Mortgage Banking 101 is now in session.
Our first lesson will describe the differences between the three and an over-view of how the industry is structured. Later lessons will focus on the competitive advantages of each type of mortgage lender and how a consumer or a real estate professional can utilize each of them to accomplish their particular real estate finance goals. So:
What Is A Mortgage Broker?
A Mortgage Broker is a person or a company that acts as an intermediary between the consumer and the entity actually making the loan. That entity will be a bank or a mortgage banking company in most instances, but can also be a private lender.
What Is A Mortgage Banker?
A Mortgage Banker can be an individual, but most often is a company that originates mortgages through it's own retail outlets and/or a network of outside entities who originate the mortgage and in turn "sell" that mortgage to the mortgage banking company. These outside entities can be mortgage brokers, other mortgage banking companies, banks and in rare instances, private individuals. Many Mortgage Bankers also perform the task of "servicing the mortgage". That is, collecting the payments, making sure that the taxes and insurance are paid and in the event that it becomes necessary, foreclosing on the property in the event that the mortgage goes into default.
What Is A Bank?
In relation to mortgage lending a Bank is a lending institution that also takes deposits and performs a host of tasks that are not directly related to mortgage lending, such as issuing lines of credit and making other kinds of loans other than mortgages.
Following The Money, How Is A Mortgage Funded?
You've found the perfect house and now you need to find the money to pay for it. Where is that money going to come from? Who should I utilize to lend me the money?
Depending upon your or your client's particular situation the answer to these questions can differ. For the sake of demonstration, let's assume that you or your client is well qualified in regards to employment and credit and has at least 5% of their own funds for a down payment . This means that they would probably qualify for a conforming loan. That is, a loan that conforms to Fannie Mae or Freddie Mac Underwriting guild lines.
What? Who are these Fannie and Freddie jokers? Fannie Mae and Freddie Mac are quasi-government institutions whose task is to provide liquidity to the secondary mortgage market.
Huh? In English please! Fannie and Freddie are large institutions that were created by the US government to make sure that money was available for people to borrower in order to buy homes.
What they do is they issue bonds (long term debt instruments) that they sell to investors (people and institutions who have money available that they need to invest in a safe investment that earns a higher rate of return than other safe investments that are available to them such as US or foreign treasury notes and bonds).
They take the money that they receive from the sale of these bonds and buy mortgages from institutions that they have approved as Seller/Servicers. That is companies that have a sufficient amount of net worth, credit and who meet the guild lines that Fannie and Freddie have issued in regards to being trust worthy enough to sell the mortgages that they have originated to Fannie or Freddie.
Neither Fannie Mae or Freddie Mac make loans directly to the public or service the loans that are made to the public. If they did they would become giant bureaucracies, probably larger that the US Army, Air Force and Navy combined! Instead they contract this work out to the Seller/Servicers.
These Seller/Servicers are usually either banks or mortgage banking companies that have been formed for this particular purpose. Sometimes large insurance and financial service companies form subsidiaries to take advantage of the financial opportunities that are available in this field, though not all Seller/Servicers are huge companies by any stretch of the imagination.
Seller/Servicers either originate the mortgage applications themselves through retail outlets, purchase the mortgages from a network of mortgage brokers and banks that have originated the mortgage or they buy the a mortgage or a group of mortgages on what is called the Secondary Mortgage Market. Some Seller/Servicers acquire the mortgages that they are going to sell to Fannie or Freddie from any one of these sources or all three.
An example of a Seller/Servicer would be Countrywide Financial or Chase Home Mortgage Corporation.
The mortgages that are being originated are made up of two parts, the note and the servicing. The note is the financial instrument where the borrower agrees to borrow the money and pay it back and the lender agrees to lend them the money. The servicing is the right to collect the payments and otherwise "service" the mortgage. That is make sure that the taxes are paid on the property, that the property is maintained and insured and to interact with the borrower in regards to the mortgage agreement. Once they have originated or purchased the mortgage these companies sell the note to Fannie or Freddie (there are also some large institutional lenders such as Insurance companies that provide essentially the same services as Fannie or Freddie, but they only make up a small percentage of the total market). The Seller/Servicer services the mortgage and passes the money onto Fannie or Freddie, retaining a small percentage of money as payment for the job of servicing the mortgage.
The value of the servicing has it's own market and depending upon market conditions the value can rise and fall. Seller/Servicers often buy or sell the servicing on a mortgage in an effort to make additional revenues. This is one reason that the company that people make their mortgage payments to changes so frequently.
Alright, That Explains Who The Mortgage Bankers Are, But Who Are These Mortgage Brokers?
Back in the old days if you wanted to borrow money to buy a house you had basically one choice. You're local bank. Banking regulations and practices were such that generally speaking, you had to have at least 20% of the value of the home that you wished to purchase as a down payment on that home. The bank would lend you the other 80% on a short term loan (generally less than a term of 5 years) The banks didn't want to lend longer because of the fact that interest rates rise and fall depending upon the economy and the interest rate markets.
Savings and Loans were invented with the purpose of pooling deposits in order to lend people money to buy homes that offered longer term mortgages. In essence they were lending long and borrowing short. That is they were lending people money to buy homes for periods of 15 to 30 years while "borrowing" the money from depositors who could take their back at any time. If you remember the movie, It's A Wonderful Life, that's what happened to the Bailey Building and Loan when the bank called their note. It's also want happened to the Savings and Loans in the 80's.
In order to fix this fundamental problem Congress created Fannie and Freddie so that they could provide the money to the Banks and the Savings & Loans as described above. Eventually companies started forming with the specific purpose of making money servicing the loans that Fannie and Freddie purchased and in turn these companies also got into the originations business.
Now if you're bank or a large mortgage company you have a certain amount of overhead. It ends up costing you a certain amount to originate a mortgage. That is to operate a branch takes money. You have to have employees, office equipment, furniture, utilities, etc. Then you have the costs of going out and finding the borrowers who need to utilize your service. If you're a large company of a certain stature, you probably want to have your branches be very nice and located in good areas, etc. Again, this costs money.
When I worked for a large mortgage banking company that had branches across the country they told me that it costs them about 2.5% of the loan amount to originate a mortgage. That is, if they lent somebody $100,000.00 to buy a home, that it costs them approximately $2,500.00 to originate that mortgage.
Back in the 1980's (there were a few mortgage brokerages prior to the 80's but they were few and far between) some entrepreneurial souls saw an opportunity and made arrangements to originate the mortgage for the mortgage company and to sell that mortgage to them. Mortgage brokering was born.
Since the mortgage broker didn't have to incur all of the overhead that large mortgage companies seemed not to be able to avoid, they could sell the mortgage to them less expensively than the mortgage company themselves could originate it.
In a relatively short period of time Mortgage Brokering has grown to be a well-developed market. Almost all Mortgage Banking companies buy mortgages from Mortgage Brokers. As mentioned above, some Mortgage Banking companies do both, originate their own mortgages and buy mortgages from brokers.
To put it in perspective it is estimated that over 50% of all mortgages are originated by mortgage brokerages. When you include mortgages that were originated by other financial institutions such as banks and credit unions that were brokered to mortgage banking companies, the percentage rises to over 80% of mortgages originated that were brokered.
Wait? My Bank Is Going To Broker My Mortgage?
Maybe. Generally speaking, banks won't loan long term (see what happened to George Bailey above) So, if you're getting a 30 year fixed rate mortgage from a Bank, chances are that it is going to be brokered to a mortgage company or sold to Fannie or Freddie.
Why would a bank broker a mortgage to a mortgage banking company instead of simply selling it to Fannie or Freddie? The answer is that they can sell that mortgage to a mortgage banking company for a premium over what they could sell it directly to Fannie or Freddie. Also, mortgage banking companies may offer a wide variety of mortgage products that the Bank wouldn't find it profitable to be able to offer. Also, different Mortgage Banking Companies might offer different products.
The main advantage that banks have over Mortgage Banking Companies and Mortgage Brokerages is that they have the ability to "portfolio" a loan. That is they can make the loan and keep it on their books without selling it. As mentioned above, generally speaking, Banks don't want to lend long when they are borrowing short. That's not to say that they won't or can't do it. While Banks are restricted by various banking regulations, they are not hindered by all of the restrictions that are required for a mortgage to be sold into a Fannie or Freddie pool of mortgages. Banks can take into account outside factors such as a borrower's other assets and such.
The end result is that a Bank can sometimes be a lot more flexible on who they lend to and how they lend.
So, that's as good a wrapping up point for this installment. Let me know if you would like me to continue with more by dropping me an email or visiting me at www.valuelistre.com
R.B. "Bob" Mitchell