Mortgage closing costs must be estimated accurately under federal guidelines that went into effect at the beginning of 2010.
The new rule caps a 17-year effort to help consumers save money on closing costs. The regulation meets other goals, too: It forces brokers and lenders to provide accurate estimates of closing costs, makes it easier for consumers to compare loan offers, and prevents lenders from pulling switcheroos shortly before closing.
Among the highlights:
- The good faith estimate of closing costs, known as the GFE, is now a standardized, three-page form.
- The GFE has an easy-to-understand summary of the loan’s terms.
- The lender has to stand by the good faith estimate for 10 days, giving you a week and a half to shop around.
- The lender has to stick with the estimate of its own fees.
- The final costs for third-party charges (such as appraisal, title insurance and pest inspection) have to bear a close resemblance to the figures on the estimate, although there is some wiggle room.
- The GFE has two charts to help you compare loan offers. One tackles three loan scenarios from one lender (the one that prepared the GFE). The other chart helps you compare loan offers from a variety of lenders.
- Finally, the GFE and the final summary of costs that you get at closing have been designed with the intention of helping you compare them side-by-side. The goal is to allow you to see whether the lender lowballed fees on the estimate and jacked them up later.
Regulators have fielded plenty of criticism for the new GFE they cooked up. It subtly narrows your choices of service providers, it doesn’t spell out exactly how much money you need to bring to closing, and it makes it impossible to get a loan preapproval (although you can still get a prequalification). The form also does not tell you whether you can afford the loan.
Wrangling with RESPA
Changes in the GFE come courtesy of a revision of rules implementing the Real Estate Settlement Procedures Act, or RESPA. For three decades, consumer advocates have complained that the regulations didn’t offer enough protection: Lenders could bait and switch with impunity. The Clinton administration was stymied in attempts to revise the rules; ditto with George W. Bush’s first term. But the Bush administration wrangled these consumer-friendly revisions shortly after the 2008 election and the Obama administration allowed them to go into effect.
One fundamental change is the standardized GFE. Although the 35-year-old RESPA law encouraged lenders to provide good faith estimates, there was no steadfast requirement that they do so, and each lender could come up with its own version of the GFE. Now, a lender is required to give you a GFE within three days of applying for a loan, and the document is standardized by the Department of Housing and Urban Development.
The three-page document has several sections. A section on the first page summarizes the loan, explaining in clear language the loan amount, interest rate, whether the rate is adjustable, whether the loan allows negative amortization and whether it has a prepayment penalty or balloon payment.
The second page looks sort of like an IRS form and allows the lender to summarize various categories of fees and taxes: origination fees charged by the lender, fees for services (such as appraisal) where the lender selects the provider, title insurance and title services, third-party services that you can shop for (such as pest inspection and flood certification), government taxes and fees, and property taxes and homeowner insurance. Each fee category has its own box: Box 1 to Box 11.
The lender’s estimate of its own fees has to be right on the nose. With other fee categories, the lender can be off by up to 10 percent in each category. For example, one category (Box 4) is “title services and lender’s title insurance.” If the lender estimates these services at $2,000, the final cost can’t exceed that amount by more than 10 percent, meaning that those services can’t cost more than $2,200.
The third page of the GFE has a “tradeoff table,” which encourages the lender to quote three scenarios: the loan described on the first two pages of the GFE, a loan with lower closing costs (but a higher interest rate) and a loan with higher closing costs (but a lower interest rate).
Below that is the “shopping chart,” which encourages you to “compare GFEs from different loan originators.”
“The new GFE unquestionably encourages consumers to shop for closing services,” says Tim Dwyer, founder of EntitleDirect.com (a provider of title services) and CEO of Entitle Direct Group. He expects his company to benefit because “when people shop for title insurance, they will find us.”
Alan Doran, EntitleDirect.com’s vice president of closing services, expects consumers to comparison-shop using the figures on the second page of the document. That’s the page that summarizes various categories of fees in Boxes 1 through 11.
Before now, lenders had leeway in deciding which fees belonged in which categories. “Now it specifically states that you put these charges in Box 4, put these charges in Box 5, so there truly is a comparison between the different subsets within the group,” he says. “That wasn’t the case before.”
When devising the GFE, regulators wanted to encourage consumers to shop around — not only among mortgage lenders, but for service providers such as title companies and pest inspectors. But this goal might not quite turn out as regulators intended.
Remember that 10 percent “tolerance” for various categories of fees? The lender has to abide by that 10 percent limit as long as the consumer chooses from the lender’s list of approved service providers. If a consumer chooses a provider off the menu, the lender doesn’t have to stand by the estimated fee.
“One of the effects of that is, if you’re a lender, the shorter the list, the lower the liability,” says Tony Farwell, chief executive of Closing.com, an online real estate closing services marketplace.
The upshot, Farwell says, is that a lender’s list of approved pest inspectors might have just one or two names on it. Regulators intended consumers to have a lot of choices of service providers, but lenders have an incentive to narrow those choices.
Still, consumers do have the option of ordering off the menu, and Farwell considers that a good thing. “This enlightens the consumer to the notion that they can shop for these services,” he says. “Consumers should take a proactive role and research these services. They are expensive.”
After you use the GFE’s charts to choose the best loan, and after you’ve gone through the rest of the underwriting rigamarole, the day of closing approaches. A day or so before closing, you’re supposed to get a document called the HUD-1 settlement statement. This document itemizes in detail the charges that are summarized in the GFE.
Regulators intended for you to be able to put the GFE and the HUD-1 side by side and compare them for discrepancies. But the HUD-1 looks nothing like the GFE. It’s an itemization of each fee, whereas the GFE summarizes costs by category. Comparing the GFE and the HUD-1 is like comparing a car’s window sticker with the papers you sign in the sales manager’s office at the auto dealership. You can do it, but people around you are going to be impatiently tapping their feet.