Mortgage The Process and Industry An Overview

Srikanth G

Mortgage The Process and Industry An Overview

Srikanth G

Mortgage The Process and Industry An Overview

Mortgage Dead Pledge (in Law French)

In simple terms - A method of using property as security for the payment of debt Mostly associated with Real Estate, in some cases Ships and Land as well

Parties involved
Creditor/Mortgagee/Lender The nancial Institution which funds the Loans Debtor/Mortgagor/Borrower The individual who borrows the loan Other Participants such as Financial advisor, Mortgage broker, Solicitor, etc..

Legal Aspects
Two kinds of Mortgages:
Mortgage by demise where creditor becomes the owner of property under mortgage

until loan is repaid

Mortgage by Legal charge where creditor gains sufcient rights over property in

case of irregularities

Repayment of Capital
Basically four types depending on locality, tax laws and prevailing culture
Capital and Interest No Capital, Only interest Interest Only Interest and Partial Capital

Mortgage Loan Types in United States of America

Basically two types of amortized Loans
Fixed Rate Mortgage (FRM) Adjustable Rate Mortgage (ARM) Other types include Bridge, Blanket, Budget, Commercial, Equity, Hard Money, Package

Loans, etc..

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Mortgage The Process and Industry An Overview

United States Mortgage Process

The Life Cycle of a Loan
Origination involves the application and documentation (related to nancial history)

submission by the borrower

Underwriting Decision process where the terms and conditions of loans are decided

based on borrowers credit history

Funding Payment made by the Lender after the loan is approved Post Closing Refers to tracking of Legal docs to make sure that the loan can be

sold to secondary market like FNMA (Fannie Mae), GNMA (Ginnie Mae) and FHLMC (Freddie Mac)
Selling The loans are pooled together based on certain criteria and then sold in the

secondary market to GNMA, FNMA, FHLMC or private investors

Servicing This includes the payment processing such as monthly mortgage state-

ments, receiving payments from the borrower, Escrow analysis, etc.

HMDA Home Mortgage Disclosure Act

An act passed in 1975, designed by Federal Reserve Board Requires nancial institutions to maintain and annually disclose data about home

purchases, home purchase pre-approvals, home improvement, and renance applications

Identify whether there are discriminatory lending practices Discover if nancial institutions are serving housing needs of communities

United States Mortgage Finance Industry

Mortgage Lending is a major category of business The Federal Govt. has many programs/sponsored entities that encourage home

ownership
The Govt. agencies such as Ginnie Mae, Fannie Mae and Freddie Mac buy a large

number of mortgages from banks and issue them to investors as MBS

This allows banks/nancial institutions to re-lend money to other borrowers and thereby

create more mortgages. The public in turn use these mortgages to purchase home

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Mortgage The Process and Industry An Overview

Amortization and Negative Amortization

Amortization is distribution of single lump-sum cash ow into many smaller cash ow

installments as determined by an Amortization Schedule

Amortization Calculator formula:

A = P [i(1+i)n]/[(1+i)n -1] A = Periodic payment, P= Principal Amount borrowed, i = Interest Rate, n = Number of periods
Negative Amortization is a method in which the borrower pays back less than the full

amount of interest to the lender. The shorted Amount is then added to the total amount owed to the lender along with the interest

Mortgage-Backed Securities (MBS)

Similar to bonds whose cash ows are backed by Mortgage payments Asset backed securities where assets are mortgages As the Mortgage loans may usually be prepaid in whole or in part at any time, the

duration of cash ows is unknown which makes an MBS more interesting than regular bonds

Risks and Facts of MBS

MBS has a third risk Early Redemption (prepayment) apart from two risks of ordinary

bonds like Credit Risk and IR exposure

The number of Home owners who pre-pay the loans goes up when Interest Rate falls

as they can Renance the loans at a lower Fixed Interest Rate

Market value of all outstanding MBS (at end of 2005) is over $2.75 trillion much larger

than Asset backed securites

Lock In
A lenders promise to hold a certain Interest rates and certain Number of Points for a

specic period of time while Loan Application is being processed

Point is an additional charge imposed by Lender and is equal to 1% of the Loan

Amount
Also called Rate-Lock/Rate Commitment

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Mortgage The Process and Industry An Overview Protects against increases while application is being processed Amount of fee charged depends on the duration of Lock-In Period

Different Options Available for Lock-Ins

Locked-In Interest Rates, Locked-In Points (True Lock-In) Locked-In Interest Rates, Floating Points Floating Interest Rates, Floating Points

Trivial but Interesting facts

The nations (USA) median current median current interest rate was 6.7% down from

7.5% in 2001
The US Government Sponsored Enterprises (GSEs) namely Ginnie Mae, Fannie Mae

and Freddie Mae have a debt to the tune of $1 trillion

The median value of owner occupied homes was $140000 About 3.8 Million homeowners had lump-sum home equity mortgages, down nearly

20% from 2001, when there were 4.7 Million such loans
Homeowners occupied more than 72 Million homes. Overall in US, there were 106

Million occupied housing units

Renters occupied 33.6 Million housing units On a scale of 1 10 with 10 being the best, 75% homeowners rated their neighborhood

an 8 or higher

References
http://en.wikipedia.org http://www.federalreserve.com

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Copyright 2007 by Tata Consultancy Services. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means electronic, mechanical, photocopying, recording, or otherwise without the permission of Tata Consultancy Services.