North Penn Financial Frequently Asked Questions

Commercial Financing is underwritten on a case by case basis. Every loan application is unique and evaluated on its own merits, but there are a few common criteria lenders look for in commercial loan packages.

Financial Analysis
A key component in making an underwriting evaluation is the debt coverage ratio. The DCR is defined as the monthly debt compared to the net monthly income of the investment property in question. Using a DCR of 1:1.10 a lender is saying that they are looking for a $1.10 in net income for each $1.00 mortgage payment. Typically they will determine the DCR ratio based on monthly figures, the monthly mortgage payment compared to the monthly net income. The higher the DCR ratio the more conservative the lender. Most lenders will never go below a 1:1 ratio ( a dollar of debt payment per dollar of income generated). Anything less then a 1:1 ratio will result in a negative cash flow situation raising the risk of the loan for the lender. DCR's are set by property type and what a lender perceives the risk to be. Today, apartment properties are considered to be the least risky category of investment lending. As such, lenders are more inclined to use smaller DCR's when evaluating a loan request. Make sure that you are familiar with a lender's DCR policy prior to spending money on an application. Ask them to give you a preliminary review of the investment property that you want to purchase. Information is free, mistakes are not.

Loan to Value
Unlike residential lending, commercial investment properties are viewed more conservatively. Most lenders will require a minimum of 20% of the purchase price to be paid by the buyer. The remaining 80% can be in the form of a mortgage provided by either bank or mortgage company. Some commercial mortgage lenders will require more than 20% contribution towards the purchase from the buyer. What a bank/lender will do is subject to their appetite and the quality of the buyer and the property. Loan to value is the percentage calculation of the loan amount divided by purchase price. If you know what a lender's LTV requirements are, you can also calculate the loan amount by multiplying the purchase price by the LTV percentage. Keep in mind that the purchase price must also be supported by an appraisal. In the event that the appraisal shows a value less then the purchase price, the lender will use the lower of the two numbers to determine the loan that will be made.

Credit Worthiness
For businesses less than three years old, personal credit of principals will be evaluated. This may hold true for longer periods of time for tightly held companies. For corporations, business performance and credit ratings will be evaluated with a proven track record.

Property Analysis
Fair Market Value and Fair Market Rent will be analyzed. Special use property may require additional underwriting. Age, appearance, local market, location, and accessibility are some other factors considered.

The bulk of the energy spent "processing" a loan is merely an attempt to verify the numbers that go into the numerator and denominator of the above 3 ratios.

The Loan-To-Value Ratio (LTVR) is defined as follows:
Loan-To-Value= Total loan balances (1st mtg+2nd mtg+3rd mtg) / Fair market value (as determined by appraisal)

Loan-To-Value Ratios seldom exceed 80% because the lender always want some extra protection against default.

The second ratio that lenders use when underwriting a loan is the Debt Ratio. The Debt Ratio compares the amount of bills that the borrower must pay each month to the amount of monthly income he earns. More precisely, the Debt Ratio is defined as:
Debt Ratio = Monthly Debt Obligations / Monthly Income

Obviously someone whose Debt Ratio is 150% is in trouble. A Debt Ratio of 150% would mean that a borrower's obligations are one and a half times his income. Debt Ratios seldom are allowed to exceed 40% in practice.

The final ratio used in lending is the Debt Service Coverage Ratio (DSCR). The Debt Service Coverage Ratio is a sophisticated ratio only used for large loans on income producing properties. It is defined as:
Debt Service Coverage Ratio = Net Operating Income / Debt Service

Net Operating Income is the income from a rental property after deducting for real estate taxes, fire insurance, repairs, and all other operating expenses; and Debt Service is the mortgage payment on the property. Most lenders insist that this ratio exceed 1.0. A debt service coverage ratio of less than 1.0 would mean that the property did not produce enough net rental income for the owner to make the mortgage payments without supplementing the property from his personal budget.

The loan-to-value (LTV) ratio is probably the most important of the 3 underwriting ratios.

The loan-to-value ratio is defined as:
LTV Ratio = Total Loan Balances (1st mtg+2nd mtg +3rd mtg) / Fair Market Value of the Property

First let's look at the numerator. If the borrower is only applying for a first mortgage, and there will be no other loans on the property, then the beginning balance of the new loan requested should be inserted in the numerator.

However, if the borrower is applying for a second mortgage, then the "underwriter" (the person who determines whether or not the loan qualifies) should insert the sum of the first and second mortgages in the numerator. Similarly, if the borrower is applying for a third mortgage, then the underwriter should insert the sum of the first, second and third mortgages into the numerator.

When the borrower is applying for a second or third mortgage, the loan-to-value ratio is often known as the combined loan-to-value ratio (CLTV ratio).

Now let's look at the denominator. Generally the fair market value of a property is determined by an appraisal. There is one important exception, however. When the proceeds of a mortgage loan are used to buy the same property that is securing the loan, then that mortgage is known as a "purchase money loan." If the appraisal comes in lower than the purchase price in a "purchase money" transaction, then the lender will use the LOWER of the purchase price or appraisal.

Mortgage brokers are often asked by real estate agents and buyers to base their loan on the appraised value rather than the purchase price. Their claim is that they have negotiated a super deal and that the property is worth much more than what they are paying for it. This may be so (although generally untrue), but lenders always base their maximum loan on the lower of purchase price or appraisal. The lender's argument (its their money, so there is really very little argument) is that an appraisal is really no more than an estimate of fair market value, no matter how competent or conscientious the appraiser may be. The only true indicator of value is the marketplace in which "a willing buyer and a willing seller, each in full knowledge of the salient facts, and neither under undue pressure, agree upon terms." If the property sells for "X," then it is probably only worth "X."

When analyzing the personal budget of a borrower, lenders use two different debt ratios to determine if the borrower can afford his obligations. These two debt ratios are:

The "top" debt ratio is defined as:
Top Debt Ratio = Monthly Housing Expense/Gross Monthly Income

By "monthly housing expense" we mean either the borrower's monthly rent payments, or if she owns her own home, the total of the following -

You will often hear the term P.I.T.I. It refers to (P) Principal, (I) Interest, (T) Taxes and (I) Insurance. While P.I.T.I. is not exactly the same as Monthly Housing Expense because it does not include homeowner's association dues, the two terms are often used interchangeably.

Lenders have learned over the years that a borrower's "top" debt ratio should not exceed 25%. In other words, a person's housing expense should not exceed 1/4 of his income. While lenders will often stretch this number to as high as 28%, traditional lending theory maintains that anyone with a debt ratio in excess of 25% stands a good chance of developing budget problems.

The second ratio that lenders use to determine if a borrower can afford her obligations is the "bottom" debt ratio. It is defined as follows:
Bottom Debt Ratio = (Total Housing Expense + Debt Payments)/Gross Monthly Income

The only difference between the two ratios is the inclusion in the numerator of "debt payments." Debt payments include the following:

What is not included in "debt payments" is Utilities such as PG&E, water or telephone and payments on real estate loans. Real estate loans are usually offset first by the net rental income from the property. If the borrower has a net positive cash flow from all his rentals, then the net income is usually added to his "gross monthly income." If the borrower has a net negative cash flow from all of his rental properties, then the amount of the negative cash flow is usually added to the numerator of the "bottom" debt ratio as if it were a monthly debt obligation, like a car payment.

Traditional lending theory maintains that a borrower's "bottom" debt ratio should not exceed 33 1/3%. In other words, the total of the borrower's housing expense and debt obligations should not exceed 1/3 of his income. Lenders often will stretch on this ratio to as high as 36%, and some have even been known to stretch as high as 40% or more. Obviously a loan with a debt ratio of 40% is a far more risky loan than a loan with a debt ratio of 32%.

The most important ratio to understand when making income property loans is the debt service coverage ratio. It is defined as:
DSCR = Net Operating Income (NOI) / Total Debt Service

To understand the ratio it is first necessary to understand the numerator and the denominator. Let's take a look at net operating income (NOI) first.

Net operating income is the income from a rental property left over after paying all of the operating expenses.

Please note that lenders always insist on some sort of vacancy factor regardless of the actual vacancy rate in an area to cover collection loss. In addition lenders always insist on using a management factor of 3-6% of effective gross income, even if the property is owner-managed. Their logic is that they would have to pay for management if they took back the property. Finally, NOTE THAT WE HAVE NOT INCLUDED LOAN PAYMENTS AS AN OPERATING EXPENSE.

Next let's look at the denominator, Total Debt Service. This includes the principal and interest payments of all loans on the property, not just the first mortgage. NOTE THAT WE HAVE NOT INCLUDED TAXES AND INSURANCE. They were already accounted for above when we arrived at net operating income (NOI).

To calculate the debt service coverage ratio, simply divide the net operating income (NOI) by the mortgage payment(s). For the sake of simplicity, let us assume that there is only one mortgage on the property:
$500,000 First Mortgage
11% Interest, 30 years amortized
Annual Payment (Debt Service) = $57,139

Then:
DSCR = Net Operating Income (NOI) = $65,000
Total Debt Service $57,139
DSCR = 1.14

Obviously the higher the DSCR, the more net operating income is available to service the debt. From a lender's viewpoint it should be clear that they want as high a DSCR as possible.

The borrower, on the other hand, wants as large a loan as possible. The larger the loan, the higher the debt service (mortgage payments). If the net operating income stays the same, and the loan size and therefore the debt service increases, then the lower the DSCR will be.

Life insurance companies are very conservative and generally require a 1.25 or 1.35 DSCR. This means that their loan-to-value ratios are low. Savings and loans (S&L's) generally only require a 1.20 DSCR, and sometimes will accept a DSCR as low as 1.10.

A DSCR of 1.0 is called a break even cash flow. That is because the net operating income (NOI) is just enough to cover the mortgage payments (debt service).

A DSCR of less than 1.0 would be a situation where there would actually be a negative cash flow. A DSCR of say .95 would mean that there is only enough net operating income (NOI) to cover 95% of the mortgage payment. This would mean that the borrower would have to come up with cash out of his personal budget every month to keep the project afloat.

Generally lenders frown on a negative cash flow. Some lenders will allow a negative cash flow if the loan-to-value ratio is less than around 65%, the borrower has strong outside income such as an electronic engineer, and the size of the negative is small. Lenders rarely allow negative cash flows on loans over $200,000.

Listed below is a partial list of properties that require commercial financing.

Multi family

Garden Apartments
Hi-Rise Apartments
Mid-Rise Apartments
Low/Mod Income
Student Apartments
Senior Apartments
Underlying Coop

Retail

Regional Enclosed
Strip Center
Outlet Mall
Free Standing
Single Tenant
Regional Unenclosed

Office

Single Tenant
Hi-Rise Tower
Mid-Rise Office
Office Over Retail
Heavy Manufacturing
Light Manufacturing
Warehouse/Distribution
Owner Occupied
Multi-Tenant
Self Storage
Special Purpose

Health Care

Congregate Living
Nursing Home
Rehabilitation
Ambulatory Care

The following list will help you identify the types of information a banker will need to make an informed decision about your business.

We offer stated income, stated asset commercial loans with loan amounts ranging from 100,000 to 1,000,000 and loan to values as high as 80% with no minimum credit score requirement.

FINANCIAL TERMS AND DEFINITIONS

7/23 and 5/25 Mortgages
Mortgages with a one time rate adjustment after seven years and five years respectively.

3/1, 5/1, 7/1 and 10/1 ARMs
Adjustable-rate mortgages in which rate is fixed for three-year, five-year, seven-year and 10-year periods, respectively, but may adjust annually after that.

Acceleration
The right of the mortgagee (lender) to demand the immediate repayment of the mortgage loan balance upon the default of the mortgagor (borrower), or by using the right vested in the Due-on-Sale Clause.

Adjustable rate mortgage (ARM)
Is a mortgage in which the interest rate is adjusted periodically based on a pre-selected index. Also sometimes known as the renegotiable rate mortgage, the variable rate mortgage or the Canadian rollover mortgage.

Adjusted Basis
The cost of a property plus the value of any capital expenditures for improvements to the property minus any depreciation taken.

Adjustment Date
The date that the interest rate changes on an adjustable-rate mortgage (ARM).

Adjustment interval
On an adjustable rate mortgage, the time between changes in the interest rate and/or monthly payment, typically one, three or five years depending on the index.

Adjustment Period
The period elapsing between adjustment dates for an adjustable-rate mortgage (ARM).

Affordability Analysis
An analysis of a buyers ability to afford the purchase of a home. Reviews income, liabilities, and available funds, and considers the type of mortgage you plan to use, the area where you want to purchase a home, and the closing costs that are likely.

Amortization
Means loan payment by equal periodic payment calculated to pay off the debt at the end of a fixed period, including accrued interest on the outstanding balance.

Amortization Term
The length of time required to amortize the mortgage loan expressed as a number of months. For example, 360 months is the amortization term for a 30-year fixed-rate mortgage.

Annual percentage rate (A.P.R.)
APR is a measurement of the full cost of a loan including interest and loan fees expressed as a yearly percentage rate. Because all lenders apply the same rules in calculating the annual percentage rate, it provides consumers with a good basis for comparing the cost of loans.

Appraisal
An estimate of the value of property, made by a qualified professional called an "appraiser".

Appraised Value
An opinion of a property's fair market value, based on an appraiser's knowledge, experience, and analysis of the property.

Assessment
A local tax levied against a property for a specific purpose, such as a sewer or street lights.

Assumability
An assumable mortgage can be transferred from the seller to the new buyer. Generally requires a credit review of the new borrower and lenders may charge a fee for the assumption. If a mortgage contains a due-on-sale clause, it may not be assumed by a new buyer.

Assumption
The agreement between buyer and seller where the buyer takes over the payments on an existing mortgage from the seller. Assuming a loan can usually save the buyer money since this is an existing mortgage debt, unlike a new mortgage where closing cost and new, probably higher, market-rate interest charges will apply.

Assumption Fee
The fee paid to a lender (usually by the purchaser of real property) when an assumption takes place.

Balloon Mortgage
A loan which is amortized for a longer period than the term of the loan. Usually this refers to a thirty-year amortization and a five year term. At the end of the term of the loan, the remaining outstanding principal on the loan is due. This final payment is known as a balloon payment.

Balloon Payment
The final lump sum paid at the maturity date of a balloon mortgage.

Biweekly Payment Mortgage
A plan to reduce the debt every two weeks (instead of the standard monthly payment schedule). The 26 (or possibly 27) biweekly payments are each equal to one-half of the monthly payment required if the loan were a standard 30-year fixed-rate mortgage. The result for the borrower is a substantial savings in interest.

Blanket Mortgage
A mortgage covering at least two pieces of real estate as security for the same mortgage.

Borrower (Mortgagor)
One who applies for and receives a loan in the form of a mortgage with the intention of repaying the loan in full.

Bridge Loan
A second trust that is collateralized by the borrower's present home allowing the proceeds to be used to close on a new house before the present home is sold. Also known as "swing loan."

Broker
An individual in the business of assisting in arranging funding or negotiating contracts for a client but who does not loan the money himself. Brokers usually charge a fee or receive a commission for their services.

Buy-down
When the lender and/or the home builder subsidized the mortgage by lowering the interest rate during the first few years of the loan. While the payments are initially low, they will increase when the subsidy expires.

Cash Flow
The amount of cash derived over a certain period of time from an income-producing property. The cash flow should be large enough to pay the expenses of the income producing property (mortgage payment, maintenance, utilities, etc.).

Caps (interest)
Consumer safeguards which limit the amount the interest rate on an adjustable rate mortgage which may change per year and/or the life of the loan.

Caps (payment)
Consumer safeguards which limit the amount monthly payments on an adjustable rate mortgage may change.

Certificate of Eligibility
The document given to qualified veterans which entitles them to VA guaranteed loans for homes, business and mobile homes. Certificates of eligibility may be obtained by sending form DD-214 (Separation Paper) to the local VA office with VA form 1880 (request for Certificate of Eligibility)

Certificate of Reasonable Value (CRV)
An appraisal issued by the Veterans Administration showing the property's current market value.

Certificate of veteran status
The document given to veterans or reservists who have served 90 days of continuous active duty (including training time) It may be obtained by sending DD 214 to the local VA office with form 26-8261a (request for certificate of veteran status. This document enables veterans to obtain lower down payments on certain FHA insured loans).

Change Frequency
The frequency (in months) of payment and/or interest rate changes in an adjustable-rate mortgage (ARM).

Closing
The meeting between the buyer, seller and lender or their agents where the property and funds legally change hands, also called settlement. Closing costs usually include an origination fee, discount points, appraisal fee, title search and insurance, survey, taxes, deed recording fee, credit report charge and other costs assessed at settlement. The cost of closing usually are about 3 percent to 6 percent of the mortgage amount.

Closing Costs
These are expenses - over and above the price of the property - that are incurred by buyers and sellers when transferring ownership of a property. Closing costs normally include an origination fee, property taxes, charges for title insurance and escrow costs, appraisal fees, etc. Closing costs will vary according to the area country and the lenders used.

COFI
Adjustable-rate mortgage with rate that adjusts based on a cost-of-funds index, often the 11th District Cost of Funds.

Construction loan
A short term interim loan to pay for the construction of buildings or homes. These are usually designed to provide periodic disbursements to the builder as he or she progresses.

Consumer Reporting Agency (or Bureau)
An organization that handles the preparation of reports used by lenders to determine a potential borrower's credit history. The agency gets data for these reports from a credit repository and from other sources.

Contract sale or deed:
A contract between purchaser and a seller of real estate to convey title after certain conditions have been met. It is a form of installment sale.

Conversion Clause
A provision in an ARM allowing the loan to be converted to a fixed-rate at some point during the term. Usually conversion is allowed at the end of the first adjustment period. The conversion feature may cost extra.

Credit Report
A report documenting the credit history and current status of a borrower's credit standing.

Credit Risk Score
A credit risk score is a statistical summary of the information contained in a consumer's credit report. The most well known type of credit risk score is the Fair Isaac or FICO score. This form of credit scoring is a mathematical summary calculation that assigns numerical values to various pieces of information in the credit report. The overall credit risk score is highly relative in the credit underwriting process for a mortgage loan.

Debt-to-Income Ratio
The ratio, expressed as a percentage, which results when a borrower's monthly payment obligation on long-term debts is divided by his or her gross monthly income. See housing expenses-to-income ratio.

Deed of trust
In many states, this document is used in place of a mortgage to secure the payment of a note.

Default
Failure to meet legal obligations in a contract, specifically, failure to make the monthly payments on a mortgage.

Deferred interest
When a mortgage is written with a monthly payment that is less than required to satisfy the note rate, the unpaid interest is deferred by adding it to the loan balance. See negative amortization.

Department of Veterans Affairs (VA)
An independent agency of the federal government which guarantees long-term, low-or no-down payment mortgages to eligible veterans.

Down Payment
Money paid to make up the difference between the purchase price and the mortgage amount.

Due-on-Sale-Clause
A provision in a mortgage or deed of trust that allows the lender to demand immediate payment of the balance of the mortgage if the mortgage holder sells the home.

Earnest Money
Money given by a buyer to a seller as part of the purchase price to bind a transaction or assure payment.

Entitlement
The VA home loan benefit is called an entitlement (i.e. entitlement for a VA guaranteed home loan). This is also known as eligibility.

Equal Credit Opportunity Act (ECOA)
Is a federal law that requires lenders and other creditors to make credit equally available without discrimination based on race, color, religion, national origin, age, sex, marital status or receipt of income from public assistance programs.

Equity
The difference between the fair market value and current indebtedness, also referred to as the owner's interest. The value an owner has in real estate over and above the obligation against the property.

Escrow
An account held by the lender into which the home buyer pays money for tax or insurance payments. Also earnest deposits held pending loan closing.

Escrow Disbursements
The use of escrow funds to pay real estate taxes, hazard insurance, mortgage insurance, and other property expenses as they become due.

Escrow Payment
The part of a mortgagor’s monthly payment that is held by the servicer to pay for taxes, hazard insurance, mortgage insurance, lease payments, and other items as they become due.

Farmers Home Administration (FmHA)
Provides financing to farmers and other qualified borrowers who are unable to obtain loans elsewhere.

Federal Home Loan Bank Board (FHLBB)
The former name for the regulatory and supervisory agency for federally chartered savings institutions. Agency is now called the Office of Thrift Supervision

Federal Home Loan Mortgage Corporation (FHLMC) also called "Freddie Mac"
Is a quasi-governmental agency that purchases conventional mortgage from insured depository institutions and HUD-approved mortgage bankers.

Federal Housing Administration (FHA)
A division of the Department of Housing and Urban Development. Its main activity is the insuring of residential mortgage loans made by private lenders. FHA also sets standards for underwriting mortgages.

Federal National Mortgage Association (FNMA) also know as "Fannie Mae"
A tax-paying corporation created by Congress that purchases and sells conventional residential mortgages as well as those insured by FHA or guaranteed by VA. This institution, which provides funds for one in seven mortgages, makes mortgage money more available and more affordable.

FHA loan
A loan insured by the Federal Housing Administration open to all qualified home purchasers. While there are limits to the size of FHA loans ($155,250 as of 1/1/96), they are generous enough to handle moderately-priced homes almost anywhere in the country.

FHA mortgage insurance
Requires a fee (up to 2.25 percent of the loan amount) paid at closing to insure the loan with FHA. In addition, FHA mortgage insurance requires an annual fee of up to 0.5 percent of the current loan amount, paid in monthly installments. The lower the down payment, the more years the fee must be paid.

FHLMC
The Federal Home Loan Mortgage Corporation provides a secondary market for savings and loans by purchasing their conventional loans. Also known as "Freddie Mac."

Firm Commitment
A promise by FHA to insure a mortgage loan for a specified property and borrower. A promise from a lender to make a mortgage loan.

Fixed Installment
The monthly payment due on a mortgage loan including payment of both principal and interest.

Fixed Rate Mortgage
The mortgage interest rate will remain the same on these mortgages throughout the term of the mortgage for the original borrower.

Fully Amortized ARM
An adjustable-rate mortgage (ARM) with a monthly payment that is sufficient to amortize the remaining balance, at the interest accrual rate, over the amortization term.

FNMA
The Federal National Mortgage Association is a secondary mortgage institution which is the largest single holder of home mortgages in the United States. FNMA buys VA, FHA, and conventional mortgages from primary lenders. Also known as "Fannie Mae."

Foreclosure
A legal process by which the lender or the seller forces a sale of a mortgaged property because the borrower has not met the terms of the mortgage. Also known as a repossession of property.

Government National Mortgage Association (GNMA)
Also known as "Ginnie Mae," provides sources of funds for residential mortgages, insured or guaranteed by FHA or VA.

Graduated Payment Mortgage (GPM)
A type of flexible-payment mortgage where the payments increase for a specified period of time and then level off. This type of mortgage has negative amortization built into it.

Growing-Equity Mortgage (GEM)
A fixed-rate mortgage that provides scheduled payment increases over an established period of time. The increased amount of the monthly payment is applied directly toward reducing the remaining balance of the mortgage.

Guaranty
A promise by one party to pay a debt or perform an obligation contracted by another if the original party fails to pay or perform according to a contract.

Hazard Insurance
A form of insurance in which the insurance company protects the insured from specified losses, such as fire, windstorm and the like.

Housing Expenses-to-Income Ratio
The ratio, expressed as a percentage, which results when a borrower's housing expenses are divided by his/her gross monthly income. See debt-to-income ratio

HUD-1 statement
A document that provides an itemized listing of the funds that are payable at closing. Items that appear on the statement include real estate commissions, loan fees, points, and initial escrow amounts. Each item on the statement is represented by a separate number within a standardized numbering system. The totals at the bottom of the HUD-1 statement define the seller's net proceeds and the buyer's net payment at closing.

Impound
That portion of a borrower's monthly payments held by the lender or servicer to pay for taxes, hazard insurance, mortgage insurance, lease payments, and other items as they become due. Also known as reserves.

Index
A published interest rate against which lenders measure the difference between the current interest rate on an adjustable rate mortgage and that earned by other investments (such as one, three, and five-year U.S. Treasury security yields, the monthly average interest rate on loans closed by savings and loan institutions, and the monthly average costs-of-funds incurred by savings and loans), which is then used to adjust the interest rate on an adjustable mortgage up or down.

Indexed rate
The sum of the published index plus the margin. For example if the index were 9% and the margin 2.75%, the indexed rate would be 11.75%. Often, lenders charge less than the indexed rate the first year of an adjustable-rate mortgage.

Initial Interest Rate
This refers to the original interest rate of the mortgage at the time of closing. This rate changes for an adjustable-rate mortgage (ARM). It's also known as "start rate" or "teaser."

Installment
The regular periodic payment that a borrower agrees to make to a lender.

Insured Mortgage
A mortgage that is protected by the Federal Housing Administration (FHA) or by private mortgage insurance (MI).

Interest Accrual Rate
The percentage rate at which interest accrues on the mortgage. In most cases, it is also the rate used to calculate the monthly payments.

Interest Rate Buydown Plan
An arrangement that allows the property seller to deposit money to an account. That money is then released each month to reduce the mortgagor's monthly payments during the early years of a mortgage.

Interest Rate Ceiling
For an adjustable-rate mortgage (ARM), the maximum interest rate, as specified in the mortgage note.

Interest Rate Floor
For an adjustable-rate mortgage (ARM), the minimum interest rate, as specified in the mortgage note.

Interim Financing
A construction loan made during completion of a building or a project. A permanent loan usually replaces this loan after completion.

Jumbo Loan
A loan which is larger (more than $322,700 as of 1/1/03) than the limits set by the Federal National Mortgage Association and the Federal Home Loan Mortgage Corporation. Because jumbo loans cannot be funded by these two agencies, they usually carry a higher interest rate.

Late Charge
The penalty a borrower must pay when a payment is made a stated number of days (usually 15) after the due date.

Lease-Purchase Mortgage Loan
An alternative financing option that allows low- and moderate-income home buyers to lease a home with an option to buy. Each month's rent payment consists of principal, interest, taxes and insurance (PITI) payments on the first mortgage plus an extra amount that accumulates in a savings account for a down payment.

Liabilities
A person's financial obligations. Liabilities include long-term and short-term debt.

Lien
A claim upon a piece of property for the payment or satisfaction of a debt or obligation.

Lifetime Payment Cap
For an adjustable-rate mortgage (ARM), a limit on the amount that payments can increase or decrease over the life of the mortgage.

Lifetime Rate Cap
For an adjustable-rate mortgage (ARM), a limit on the amount that the interest rate can increase or decrease over the life of the loan. See cap.

Loan
A sum of borrowed money (principal) that is generally repaid with interest.

Loan-to-Value Ratio
The relationship between the amount of the mortgage loan and the appraised value of the property expressed as a percentage.

Lock
Lender's guarantee that the mortgage rate quoted will be good for a specific number of days from day of application.

Margin
The amount a lender adds to the index on an adjustable rate mortgage to establish the adjusted interest rate.

Market Value
The highest price that a buyer would pay and the lowest price a seller would accept on a property. Market value may be different from the price a property could actually be sold for at a given time.

Maturity
The date on which the principal balance of a loan becomes due and payable.

MIP (Mortgage Insurance Premium)
It is insurance from FHA to the lender against incurring a loss on account of the borrower's default.

Monthly Fixed Installment
That portion of the total monthly payment that is applied toward principal and interest. When a mortgage negatively amortizes, the monthly fixed installment does not include any amount for principal reduction and doesn't cover all of the interest. The loan balance therefore increases instead of decreasing.

Mortgage
A legal document that pledges a property to the lender as security for payment of a debt.

Mortgage Banker
A company that originates mortgages exclusively for resale in the secondary mortgage market.

Mortgage Broker
An individual or company that charges a service fee to bring borrowers and lenders together for the purpose of loan origination.

Mortgage Insurance
Money paid to insure the mortgage when the down payment is less than 20 percent. See private mortgage insurance, FHA mortgage insurance.

Mortgage Life Insurance
A type of term life insurance In the event that the borrower dies while the policy is in force, the debt is automatically paid by insurance proceeds.

Negative Amortization
Occurs when your monthly payments are not large enough to pay all the interest due on the loan. This unpaid interest is added to the unpaid balance of the loan. The danger of negative amortization is that the home buyer ends up owing more than the original amount of the loan.

Non Assumption Clause
A statement in a mortgage contract forbidding the assumption of the mortgage without the prior approval of the lender. Note: The signed obligation to pay a debt, as a mortgage note.

Note
A legal document that obligates a borrower to repay a mortgage loan at a stated interest rate during a specified period of time.

Office of Thrift Supervision (OTS)
The regulatory and supervisory agency for federally chartered savings institutions. Formally known as Federal Home Loan Bank Board

One-year adjustable
Mortgage whose annual rate changes yearly. The rate is usually based on movements of a published index plus a specified margin, chosen by the lender.

Origination Fee
The fee charged by a lender to prepare loan documents, make credit checks, inspect and sometimes appraise a property; usually computed as a percentage of the face value of the loan.

Owner Financing
A property purchase transaction in which the party selling the property provides all or part of the financing.

Payment Change Date
The date when a new monthly payment amount takes effect on an adjustable-rate mortgage (ARM) or a graduated-payment mortgage (GPM). Generally, the payment change date occurs in the month immediately after the adjustment date.

Periodic Payment Cap
A limit on the amount that payments can increase or decrease during any one adjustment period.

Periodic Rate Cap
A limit on the amount that the interest rate can increase or decrease during any one adjustment period, regardless of how high or low the index might be.

Permanent Loan
A long term mortgage, usually ten years or more. Also called an "end loan."

PITI
Principal, Interest, Taxes and Insurance. Also called monthly housing expense.

Pledged account Mortgage (PAM):
Money is placed in a pledged savings account and this fund plus earned interest is gradually used to reduce mortgage payments.

Points (loan discount points)
Prepaid interest assessed at closing by the lender. Each point is equal to 1 percent of the loan amount (e.g., two points on a $100,000 mortgage would cost $2,000).

Power of Attorney
A legal document authorizing one person to act on behalf of another.

Pre-Approval
The process of determining how much money you will be eligible to borrow before you apply for a loan.

Prepaid Expenses
Necessary to create an escrow account or to adjust the seller's existing escrow account. Can include taxes, hazard insurance, private mortgage insurance and special assessments.

Prepayment
A privilege in a mortgage permitting the borrower to make payments in advance of their due date.

Prepayment Penalty
Money charged for an early repayment of debt. Prepayment penalties are allowed in some form (but not necessarily imposed) in many states.

Primary Mortgage Market
Lenders, such as savings and loan associations, commercial banks, and mortgage companies, who make mortgage loans directly to borrowers. These lenders sometimes sell their mortgages to the secondary mortgage markets such as to FNMA or GNMA, etc.

Principal
The amount borrowed or remaining unpaid. The part of the monthly payment that reduces the remaining balance of a mortgage.

Principal Balance
The outstanding balance of principal on a mortgage not including interest or any other charges.

Principal, Interest, Taxes, and Insurance (PITI)
The four components of a monthly mortgage payment. Principal refers to the part of the monthly payment that reduces the remaining balance of the mortgage. Interest is the fee charged for borrowing money. Taxes and insurance refer to the monthly cost of property taxes and homeowners insurance, whether these amounts that are paid into an escrow account each month or not.

Private Mortgage Insurance (PMI)
In the event that you do not have a 20 percent down payment, lenders will allow a smaller down payment - as low as 3 percent in some cases. With the smaller down payment loans, however, borrowers are usually required to carry private mortgage insurance. Private mortgage insurance will usually require an initial premium payment and may require an additional monthly fee depending on your loan's structure.

Qualifying Ratios
Calculations used to determine if a borrower can qualify for a mortgage. They consist of two separate calculations: a housing expense as a percent of income ratio and total debt obligations as a percent of income ratio.

Rate Lock
A commitment issued by a lender to a borrower or other mortgage originator guaranteeing a specified interest rate and lender costs for a specified period of time.

Realtor®
A real estate broker or an associate holding active membership in a local real estate board affiliated with the National Association of Realtors.

Real Estate Agent
A person licensed to negotiate and transact the sale of real estate on behalf of the property owner.

Real Estate Settlement Procedures Act (RESPA)
A consumer protection law that requires lenders to give borrowers advance notice of closing costs.

Recission
The cancellation of a contract. With respect to mortgage refinancing, the law that gives the homeowner three days to cancel a contract in some cases once it is signed if the transaction uses equity in the home as security.

Recording Fees
Money paid to the lender for recording a home sale with the local authorities, thereby making it part of the public records.

Refinance
Obtaining a new mortgage loan on a property already owned. Often to replace existing loans on the property.

Renegotiable Rate Mortgage
A loan in which the interest rate is adjusted periodically. See adjustable rate mortgage.

RESPA
Short for the Real Estate Settlement Procedures Act. RESPA is a federal law that allows consumers to review information on known or estimated settlement cost once after application and once prior to or at a settlement. The law requires lenders to furnish the information after application only.

Reverse Annuity Mortgage (RAM)
A form of mortgage in which the lender makes periodic payments to the borrower using the borrower's equity in the home as collateral for and repayment of the loan.

Revolving Liability
A credit arrangement, such as a credit card, that allows a customer to borrow against a pre-approved line of credit when purchasing goods and services.

Satisfaction of Mortgage
The document issued by the mortgagee when the mortgage loan is paid in full. Also called a "release of mortgage."

Second Mortgage
A mortgage made subsequent to another mortgage and subordinate to the first one.

Secondary Mortgage Market
The place where primary mortgage lenders sell the mortgages they make to obtain more funds to originate more new loans. It provides liquidity for the lenders.

Seller Carry-back
An agreement in which the owner of a property provides financing, often in combination with an assumable mortgage. See owner financing.

Servicer
An organization that collects principal and interest payments from borrowers and manages borrowers’ escrow accounts. The servicer often services mortgages that have been purchased by an investor in the secondary mortgage market.

Servicing
All the steps and operations a lender performs to keep a loan in good standing, such as collection of payments, payment of taxes, insurance, property inspections and the like.

Shared Appreciation Mortgage (SAM)
A mortgage in which a borrower receives a below-market interest rate in return for which the lender (or another investor such as a family member or other partner) receives a portion of the future appreciation in the value of the property. May also apply to mortgage where the borrowers shares the monthly principal and interest payments with another party in exchange for part of the appreciation.

Standard Payment Calculation
The method used to determine the monthly payment required to repay the remaining balance of a mortgage in substantially equal installments over the remaining term of the mortgage at the current interest rate.

Step-Rate Mortgage
A mortgage that allows for the interest rate to increase according to a specified schedule (i.e., seven years), resulting in increased payments as well. At the end of the specified period, the rate and payments will remain constant for the remainder of the loan.

Survey
A measurement of land, prepared by a registered land surveyor, showing the location of the land with reference to known points, its dimensions, and the location and dimensions of any buildings.

Sweat Equity
Equity created by a purchaser performing work on a property being purchased.

Third-party Origination
When a lender uses another party to completely or partially originate, process, underwrite, close, fund, or package the mortgages it plans to deliver to the secondary mortgage market.

Title
A document that gives evidence of an individual's ownership of property.

Title Insurance
A policy, usually issued by a title insurance company, which insures a home buyer against errors in the title search. The cost of the policy is usually a function of the value of the property, and is often borne by the purchaser and/or seller. Policies are also available to protect the lender's interests.

Title Search
An examination of municipal records to determine the legal ownership of property. Usually is performed by a title company.

Total Expense Ratio
Total obligations as a percentage of gross monthly income including monthly housing expenses plus other monthly debts.

Truth-In-Lending
A federal law requiring disclosure of the Annual Percentage Rate to home buyers shortly after they apply for the loan. Also known as Regulation Z.

Two-Step Mortgage
A mortgage in which the borrower receives a below-market interest rate for a specified number of years (most often seven or 10), and then receives a new interest rate adjusted (within certain limits) to market conditions at that time. the lender sometimes has the option to call the loan due with 30 days notice at the end of seven or 10 years. also called "Super Seven" or "Premier" mortgage.

Underwriting
The decision whether to make a loan to a potential home buyer based on credit, employment, assets, and other factors and the matching of this risk to an appropriate rate and term or loan amount.

VA Loan
A long-term, low- or no-down payment loan guaranteed by the Department of Veterans Affairs. Restricted to individuals qualified by military service or other entitlements.

VA Mortgage Funding Fee
A premium of up to 1-7/8 percent (depending on the size of the down payment) paid on a VA-backed loan. On a $75,000 fixed-rate mortgage with no down payment, this would amount to $1,406 either paid at closing or added to the amount financed.

Verification of Deposit (VOD)
A document signed by the borrower's financial institution verifying the status and balance of his/her financial accounts.

Verification of Employment (VOE)
A document signed by the borrower's employer verifying his/her position and salary.

Warehouse Fee
Many mortgage firms must borrow funds on a short term basis in order to originate loans which are to be sold later in the secondary mortgage market (or to investors). When the prime rate of interest is higher on short term loans than on mortgage loans, the mortgage firm has an economic loss which is offset by charging a warehouse fee.

Wraparound mortgage
Results when an existing assumable loan is combined with a new loan, resulting in an interest rate somewhere between the old rate and the current market rate. The payments are made to a second lender or the previous homeowner, who then forwards the payments to the first lender after taking the additional amount off the top.