Every day in my blog I quote an interest rate for a “no points” purchase money mortgage, and today is no exception (at the bottom of the blog).
This, however, sometimes fosters confusion when borrowers read my blog and then come to us for a refinance b/c the rates we (and all lenders) quote for refinances are usually higher.
WHY REFI RATES ARE HIGHER
Refis are associated with slightly more risk than purchases from both a default and a fallout (when borrowers leave in the middle of the transaction) perspective – so lenders sometimes charge slightly higher rates to account for the extra risk.
More significantly though, refis are often quoted as “no-cost-loans” while purchases are rarely quoted as “no-cost-loans” – and “no-cost” loans necessitate slightly higher rates.
As a reminder, a “no-cost-loan” usually refers to a loan for which the lender covers all of the nonrecurring closing costs, such as title insurance, escrow fees, appraisal costs and underwriting fees.
Purchases are rarely quoted as no-cost-loans because purchase closing costs tend to be much higher and because lenders have much less control over them.
For refinances, lenders typically control which third party vendors (escrow, title, appraiser, notary) they work with and thus know exactly how much closing costs will be.
For purchases though, the selling agent and sometimes the buyers choose the title and escrow company, and purchase closing costs tend to be much higher than refi closing costs in general.
This is b/c title and escrow fees are higher for purchases and b/c purchases often involve additional fees not required for a refi such as inspection fees, or additional appraisal fees.
Anyway – lenders often quote refinances as “no-cost” loans for several reasons: (1) refinancing closing costs are much lower; (2) lenders have far more control over refinancing closing costs; and (3) no-cost-refinances are often more enticing for borrowers.
Refinancing closing costs, however, can still easily approach $4,000 so lenders are forced to quote slightly higher rates in order to generate more “yield premium” or commission that they can then use to cover those closing costs.
If a well-qualified refi borrower wants to pay all of her closing costs (instead of opting for a no-cost loan), her interest rate would likely be closer to the prevailing purchase money mortgage interest rate.
NOTE: Many lenders quote “no points” refi rates in somewhat confusing terms in an effort to convince borrowers that they are getting a lower rate, but those borrowers are effectively paying for the lower rate b/c they have to cover closing costs out of pocket or with loan proceeds.
And finally – there is one more reason refinance rates are higher than purchase rates: Fannie’s and Freddie’s “adverse market fee.”
In December of 2020, Fannie Mae and Freddie Mac imposed a 0.5% “adverse market” fee on all refinances.
The extra fee is ostensibly in place to help Fannie Mae and Freddie Mac cover the extra risk associated with refis in an economy that was severely weakened by the COVID crisis.
Borrowers do not typically pay this fee directly but instead see it in the form of a slightly higher interest rate.
Jay Voorhees
Founder/Broker | JVM Lending
(855) 855-4491 | DRE# 1197176, NMLS# 310167
