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What Is Mortgage Lock In And What Can You Do With It?
Locking a loan refers to the use of a mechanism to “lock in” a price at the time of application so that this price, consisting of interest rate and points, will be what a borrower is charged at closing.
A lock is basically a commitment by a lender to price the mortgage at a certain price for a given amount of time.
For example, a $100,000 home loan at 5% and 1 point, expiring in 30 days.
Why locking is needed
It is generally understood that interest rates and costs of credit fluctuate unpredictably. And their volatility can be a daily affair.
When we consider that it is an almost certainty that the loan assessment process can take days or weeks to finally be approved, then the possibility of a different price at closing is very high, if not inevitable.
So it is unfair for borrowers who were quoted a certain price at the point of applying for a mortgage, and then forced to agree to another price when closing the loan.
Moreover, a borrower who can afford the monthly installment payments at the quoted price might find the payments unaffordable when new higher interest rates supersedes the quoted price.
This is because an increase in interest rates will also increase the monthly payment amount.
In some part, locks also help protect lenders from complaints of unethical business practices.
But this magnanimous gesture from lenders can only go so far. This is because it would be to them to commit to a specified price towards a borrower forever.
So there will always be a time period when the lock on the loan active.
If the cost of credit don’t change frequently, and mortgage applications can be approved in minutes, then the lock becomes somewhat redundant.
As we know that is not the case, locking the loan becomes an essential part of underwriting new home loans.
When interest rates increase or decrease
While locks protect lenders to some extent, it overwhelmingly is a feature that protects a borrower from rising rates rather than a lender from falling rates.
For example, should interest rates truly rise considerably between the time of loan application and closing, then a borrower would find comfort that he had the foresight to lock activate a lock at an earlier stage.
But should interest rates fall and the borrower has a lock in place that is higher priced than prevailing market rates, he can simply refuse to officially sign up for the loan facility and get a loan from a competing lender offering current market rates.
This is assuming there is enough time before closing to get new financing in place.
In this scenario, the lender is likely to relent, remove the lock, and offer new terms reflecting prevailing market rates.
Or else, they risk a fallout.
To counter fallouts, lenders these days can offer to reduce interest rates or points in exchange for shorter locking periods.
For example, a reduction of 0.25% in interest rate for reducing the lock period from 30 days to 15 days.
A shorter period will then encourage borrowers to close faster, minimizing the risk of volatile interest rate from wrecking the deal.
Another lender tactic is to refuse to lock until borrowers attain certain milestones like reaching a certain phase of the underwriting process. Or only do it when there is a specific request made by the borrower.
Then there is a variation of the lock that is the float down.
A float down incorporates the interest rate spike protection that typical locks provide to consumers, but allows the rate to fall should market rate decline.
It basically brings the best of both world together. But borrowers should expect lender to charge more points for such a feature.
For example, a loan with a regular lock with 1 point might increase to 1.5 point with a float-down.
As you can see, locking the mortgage price is beneficial to borrowers.
This is especially so for borrowers with borderline income that barely meet the requirements for the loan amount they are seeking.
In this case, borrowers should lock as soon as possible as a slight rise in interest rates can put their home buying dream into jeopardy.
What happens when the lock in period expires?
In an ideal world, if the whole real estate value chain works as one the lock period would coincide with the real estate closing date enabling the home buyer cum borrower to be more efficient in the tedious process of buying a home.
But the real world can be stranger than fiction… on purpose.
When the lock period expire before the closing date, a lender will have to make the decision of whether to extend the lock period.
If interest rates have risen since the first lock, a new lock will now be based on the prevailing higher rates. If rates have fallen or remains the same, the active period will be extended with little fanfare.
This is the same for refinancing as it is for new loans.
Lock period expiry
On most occasions, going past the lock period without closing is not a conscious choice made by borrowers.
It is usually caused by delays in the loan process.
In order to minimize the potential of delays, borrowers can:
- Clarify from the onset how many days is the lock period and ask for more if necessary
- Prepare and submit all required documentation as soon as possible
- Be contactabe so that can officers can easily follow up with questions and extra documentation
- Follow up with brokers for progress
Third party services providers are usually very prompt with the delivery of their essential services.
They are smaller players in the value chain and wouldn’t risk service levels that would compromise their credibility. Words spread fast in this industry.
Large organizations like banks are who you should be concerned with regarding delays.
Thus the above recommended suggestions.
Finally, it goes without saying that borrowers should use locks on home loans to protect their own interest.
If a lender does not make you aware of locks during application, remember to make a request for it.