Because of the current financial turmoil, re-finance boom is upon us and it has focused attention on no-cost mortgages or NCMs. NCMs have appealing characteristics to borrowers contemplating on-refinancing. How is this so? NCMs actually help borrowers fend off being overcharged and they do away with most of the uncertainty involved in determining whether a re-finance is justifiable or not. What is NCM in the first place? NCM is a mortgage on which the lender bears the settlement costs. However, the lender will not pay your tax escrows, homeowner’s insurance, or transaction taxes. You will also be stuck paying interest on two loans for a few overlapping days. All other costs, including the mortgage broker’s fee, are covered by the lender.

Compared to the interest rate increase borrowers must pay to avoid re-finance costs, the price of NCMs is unusually high in the prevailing market. The challenge is to obtain the benefits of NCMs without paying an extravagant price for them. You should not confuse no-cost with no-cash. No-cash means the settlement costs are added to your loan balance at closing. The borrower pays them, but over time and with interest. NCMs help borrowers avoid being overcharged by reducing multiple price dimensions to one: the interest rate. Typically, in selecting a loan provider, borrowers shop for rate and points, ignoring other settlement costs.  They usually find out about these costs after they submit an application, and then they receive “estimates” that are subject to change. This provides lenders with ample opportunity to pad their own fees and mark up those of third parties.  When responding to a borrower inquiring about an NCM, however, lenders do not have that lavishness because the borrower is shopping strictly for rate. The rate lenders quote on an NCM, hence, is likely to cover their true costs rather than a blew up cost.

Borrowers planning to borrow money quick and re-finance loan, can shop brokers and lenders. Brokers must include their own fee in the quoted interest rate, which they know is being shopped. This imposes a competitive constraint on broker fees. NCMs also eliminate most of the uncertainty involved in determining whether a refinance will pay. If there are refinance costs, the borrower must decide whether the costs are  offset by the lower rate. But if there are no costs, you do not need a calculator because any rate reduction is a winner.  The rate quoted by a lender on an NCM is one that, from the lender’s standpoint, justifies paying the costs. The lender willing to accept a rate of X percent on a loan where the borrower pays the costs will quote X + i on an NCM, where i is the rate increment needed to cover the cost.

They way things are going right now, market is more than twice as large as it was just a year ago. The reason is that lenders are assuming they will not have the rate increment for very long because market rates will decline further and many of the loans re-financed today will be re-financed again in the near future. This is the same reason why the best bargain in today’s market is buying down the interest rate by paying points. The effect is that people borrowing money quickly today for refinancing should bear their own settlement costs and, if they have the cash, pay points to reduce the rate, unless they expect to move out within a few years. To do this while retaining the strategic benefit of shopping for an NCM, you can either shop for the best rate on an NCM or shop for the lowest points. As an example, say three NCM quotes come in at 5.5 percent, 5.6 percent, and 5.7 percent. You then ask all three lenders how many points you would have to pay to reduce the rate to, say 5.15 percent, emphasizing that the loan otherwise stays no-cost. You are now shopping for an altered NCM on which the borrower pays the points required by a specified rate but the lender pays all other settlement costs. Win-win huh? In this case, you should select the lender quoting the lowest points for the 5.15 percent rate. You should not select the loan provider quoting the lowest rate on the NCM, then subsequently ask about buying down the rate. The loan provider who has already been selected may well give you a much less advantageous quote than one who is competing to earn your business.  Hope this helps.