Buying a Home - Mortgage Contingency
Buying a home in Massachusetts is a 'two-step' process, and follows a different process from other states. First step is the Offer to Purchase, where a $1000 deposit is made and the second step is the Purchase and Sale where the balance of a 5% deposit is put down on the house. The Purchase and Sale step generally occurs within 2 weeks of the Offer to Purchase step, and has the Inspection Contingency step in the intervening period. After the Purchase and Sale agreement has been signed and the deposit paid, the next step in the process is the Mortgage Contingency.
A mortgage contingency means that the offer is contingent on the buyer obtaining a mortgage from a lender in order to buy the home. The mortgage contingency generally has 3 specifics associated with it. The amount of the mortgage that the buyer is going to be obtaining, the mortgage application date and the mortgage contingency date. If an offer includes a mortgage contingency in it, then for that mortgage contingency to have value it needs to have a beginning date - the mortgage application date. To satisfy the mortgage contingency we require a bank to provide a mortgage commitment to the buyer. A mortgage commitment is a banks way of saying that, given all of the information provided by the buyer to the bank and the associated research the bank has conducted with regard to the property and the buyer, that the bank will provide the funds to the buyer.
Bank & mortgage options
A quick refresher on banks and mortgage options may be valid at this point. There are two general types of banks that provide funds to residential property buyers. One type are the banks like Wells Fargo, Citibank and Bank of America who often sell their mortgages on the secondary mortgage market and these mortgages are governed, in part, by Fannie Mae and Freddie Mac guidelines. The other are banks who do not sell their loans on the secondary mortgage market and keep the mortgages they issue in-house. These type of banks are called Portfolio Lenders, and often the mortgages they fund have more flexible terms and requirements as they are not governed by the Fannie Mae/Freddie Mac requirements.
There are many different types of mortgages that are offered by banks or portfolio lenders, but commonly found mortgages are 30 year fixed, 15 year fixed, 7/1 ARM, 5/1 ARM, interest-only. A conversation with a mortgage broker is necessary to determine the best type of mortgage for your specific needs.
Another consideration when applying for a mortgage is whether you will pay discount points or not. Some mortgages are offered at a particular interest rate, but if the buyer pays 'a point' or more, at the beginning of the mortgage then the interest rate for the life of the term will be reduced (discounted) by an amount. A valid analysis to perform is when the 'break even' point for the payment of the discount point will be - for instance, how long will it take at the reduced interest rate savings to equal the amount that you paid as discount points. If you plan on refinancing or selling within a shortened time frame, within several years, then the benefit of paying discount points may not be significant.
Mortgage application date
When writing an offer on a home, ensuring that the mortgage application date is after the Purchase and Sale date is important. When you make a formal application for a mortgage the bank begins to spend money on your behalf - underwriters then begin working on the application, and an appraiser is engaged to make a physical visit to the home and prepare an appraisal on the home for the bank. For this reason we don't want you to make a formal application for a mortgage until we KNOW that you are moving forward with the purchase. We categorically know this the day after the Purchase and Sale agreement has been signed and the balance of the 5% deposit has been paid. This does not mean to say that you cannot make your application until the mortgage application date, but that for the purposes of exiting the contract based on your inability to obtain a mortgage you need to have applied for a mortgage by that date. If you have had the inspection and there are only minor items that you are negotiating with the seller about, but you know that you are moving forward, then you can apply for a mortgage as soon as you are comfortable applying, but again, it needs to be before the mortgage application date.
Once you have applied for a mortgage, by the mortgage application date, the bank then order an appraisal on the home. The appraisal industry has changed quite significantly since the real estate 'meltdown' with mortgage brokers/originators being unable to request an appraisal directly from an appraiser. Now a mortgage broker/originator needs to request an appraisal from an appraisal 'aggregrator' who 'farms' out the requests to different appraisers around the state. The impact of this is that often you have an appraiser appraising a home who has little knowledge of the specific real estate market dynamics that are occurring in that town. Real Estate markets are very localized and an appraiser who is specialized in one market is not necessarily specialized in the market they are doing the appraisal on. For this reason, more often than not, the listing agent will attend the appraisal visit to provide additional input to the appraiser about the specific market conditions in the town.
Dependent on the appraisal from the appraiser, the amount that the bank will fund is not necessarily the amount that you need, or requested. For example, you may be requesting a 90% mortgage based on your personal funds, but if the appraiser appraises the home for an amount that is less than the purchase price, then the bank will only fund 90% of the appraised price, not the purchase price.
Once the bank has reviewed the appraisal and the specifics of your application, they then will 'commit' to provide you a loan - often still with conditions associated with the commitment. The conditions might be as simple as providing the last months pay stub, or could be as significant as the requirement to sell a home. Once you have the commitment from the bank, then the mortgage contingency has been satisfied.
Mortgage contingency date
If the mortgage contingency date looms close and you have not obtained your mortgage commitment yet, then it is important to have your attorney request an extension to the mortgage contingency date. What you do not want to do is have your mortgage contingency date pass without having a mortgage commitment from the bank. The mortgage contingency is the last opportunity for you to exit the contract, based on your inability to obtain a mortgage, and still obtain your full deposit back.
If you have any questions about anything raised here then please don't hesitate to reach out to any one of the team. We would be more than happy to help.