December 11, 2000, Revised August 28, 2007

Negative Point Loans Are Available From Most Loan Providers

Yes, negative point loans (also called "rebates" and "yield spread premiums") are on the level, but they are not necessarily a good buy for a cash-short borrower like you. If you do elect to take a negative point loan, furthermore, you will be hard pressed to find one at reasonable terms in shopping conventional channels.

The best place to find them is from an Upfront Mortgage Lender (UML), because they display all the rate/point combinations they offer on the screen. For example, on August 28, 2007 Amerisave (a UML) displayed 12 rate/point combinations on 30-year fixed-rate mortgages covering single-family homes purchased for occupancy in California. Three were negative point offers.

Alternatively, you can request a negative point loan from an Upfront Mortgage Broker (UMB). Because UMBs set their fee in advance, they don't view negative point loans as an invitation to increase their own income from the deal, which many other brokers do.

Legitimate Uses of Negative Points

Negative points must be used to defray the borrower's settlement costs. They cannot be used to pay any part of the down payment. For this reason, you do not want to select a rate/point combination that has negative points in excess of your settlement costs. For example, if your total settlement costs on a $100,000 loan is $2,500, negative 2.5 points would just cover it. If you took a negative 3 point loan, you would be leaving $500 on the table.

Borrowers Who Should Select Negative Point Loans

Two categories of borrowers gravitate toward negative point loans. Borrowers with short time horizons like them because they will not be paying the high interest rate for very long. For such borrowers, negative point loans can be a good buy.

The second category, into which you fall, consists of borrowers who are short on cash. If they have a long time horizon, however, negative point loans are a bad buy because they are priced for borrowers with short horizons. In this situation, they are a costly necessity.

Getting a Fair Deal

The other problem is finding a negative point loan without being fleeced. The problem is that, off the web, lenders provide price information on negative point loans to independent mortgage brokers and to their own loan officer employees, but not to consumers.  Many loan officers and mortgage brokers view negative point loans as an opportunity for a larger markup or commission.

In a study I did a while ago, I found that the markups earned by mortgage brokers were persistently higher on negative point loans than on positive point loans. For example, on a loan on which the quote by the wholesale lender was 6% and 2 points, the deal to the borrower might be 6% and 3 points, or a markup of 1 point. On a loan on which the quote by the wholesale lender was 7% and -2.375 points, the price to the borrower might be 7% and zero points -- a markup of 2.375 points.

Why is this? Borrowers do not have the information they need to protect themselves, and their resistance to paying higher rates is lower than their resistance to paying more points.

Inadequate disclosure rules are a contributing factor. The mortgage broker in the first case above would record a Mortgage Broker Fee of 1 point on the Good Faith Estimate of Disclosure provided to the borrower, while in the second case the Mortgage Broker Fee would be shown as zero! The rationale for this rule, which is totally absurd, is that the fee in the second case is being paid by the lender rather than by the borrower.

But even if the disclosure rules applicable to mortgage brokers were fixed, it won't help consumers dealing directly with lenders because loan officer employees of lenders who overcharge for negative point loans leave no tracks. This is why mortgage brokers view having to disclose their charges as unfair.

The Government is not going to solve this problem anytime soon.  Meanwhile, borrowers can protect themselves by dealing with Upfront Mortgage Brokers, who charge a fee for their services and pass along the negative point quotes they get from lenders.