Warnings About Annual Percentage Rate Disclosures

To be totally accurate the Annual Percentage Rate can only be calculated based on your specific loan amount and the final closing statement.  Any change to closing costs or loan amount affects the APR.  Even if the lender fees are right on, the APR can be impacted depending on the choice of title companies and escrow companies.  Since all fees charged by independent companies vary and are not known until the closing, the APR will vary from both the initial APR disclosure and final APR sent out with loan documents.  The higher the loan amount the LOWER the APR.  Its really time for lawmakers to consider again if the APR is helping consumers make better choices.  It may be ok for credit cards or even home equity lines of credit, but not mortgages.  Too many unknown variables impact final Annual Percentage Rate.

We do not recommend making a final decision on any lender based on the APR quoted to you by phone.  It is a well-intentioned law but it is flawed and APR's on Truth In Lending Forms are often wrong.  Most web sites offer one APR based on a sample loan amount.  Unless your loan amount is exactly the same, your  APR will be different than the number quoted.  This is why Harp Financial currently discounts the practical importance of APR.  We are happy to provide a Good Faith Estimate and a Truth In Lending Disclosure including the APR for your requested loan amount and interest rate with no obligation to apply with us.  

Even after 24 plus years in the mortgage business we aren't positive that our APR calculations are always correct!

It is very easy to manipulate. 

Some loan originators intentionally lower the APR to satisfy smart, but unsuspecting shoppers.  If you are shopping for the best deal; ask for a list of all fees, rates, and points and ask for a written guarantee if it sounds unbelievable.  If a quote is a lot lower than the other quotes you get by more than .250% to .375% in rate --- It is probably not true.  Most lenders rates, fees, programs are very similar if the loans are based on Fannie Mae or Freddie Mac guidelines. The initial Truth-In-Lending estimate is often slightly different than the final APR.  The better the estimate the more accurate the APR.  The extreme examples are applying for the really low rate with 2.50 points or more,  the APR can be as much as 1.125% above the note rate.  On the other end, a rate at zero points is about one eighth of a percent higher than the note rate.  If you take a higher interest rate with a rebate to you to get a no closing cost type loan, the APR is usually lower than the note rate.

The current law requires the lender or broker to provide an estimate of third party fees, but with the wide price range for services quoted upfront and then seeing what is actually charged, the Annual Percentage Rate can never really be an accurate number.  When enacted the APR was a great idea to protect the consumer, but the current APR disclosure provided by the typical mortgage lender is no longer protecting or informing anyone. 

The following information is how it is supposed to work.  At least in theory:

The following is HUD's recommendation regarding shopping for a loan:

Comparing Loan Costs. Comparing APRs may be an effective way to shop for a loan.  However, you must compare similar loan products for the same loan amount.  For example, compare two 30-year fixed rate loans for $100,000.  Loan A with an APR of 8.35% is less costly than Loan B with an APR of 8.65% over the loan term.  However, before you decide on a loan, you should consider the up-front cash you will be required to pay for each of the two loans as well.

Another effective shopping technique is to compare identical loans with different up-front points and other fees.  For example, if you are offered two 30-year fixed rate loans for $100,000 and at 8%, the monthly payments are the same, but the up-front costs are different:

Loan A - 2 points ($2,000) and lender required costs of $1800 = $3800 in costs.

Loan B - 2 1/4 points ($2250) and lender required costs of $1200 = $3450 in costs.

A comparison of the up-front costs shows Loan B requires $350 less in up-front cash than Loan A. However, your individual situation (how long you plan to stay in your house) and your tax situation (points can usually be deducted for the tax year that you purchase a house) may affect your choice of loans.

Annual Percentage Rate (APR) Government Definition:

A measure of the cost of credit, expressed as a yearly rate.  It includes interest as well as other charges.  Because all lenders follow the same rules to ensure the accuracy of the annual percentage rate, it provides consumers with a good basis for comparing the cost of loans, including mortgage plans.

Truth in Lending Regulation Z

Regulation Z prescribes uniform methods of computing the cost of credit, disclosure of credit terms, and procedures for resolving errors on certain credit accounts.  The credit provisions of the regulation apply to all persons who extend consumer credit more than 25 times a year or, in the case of consumer credit secured by real estate, more than 5 times a year.  Consumer credit is generally defined as credit offered or extended to individuals for personal, family, or household purposes, where the credit is repayable in more than four installments or for which a finance charge is imposed.

The major provisions of the regulation require mortgage lenders to:

• Provide borrowers with meaningful, written information on essential credit terms, including the cost of credit expressed as an annual percentage rate (APR).

• Respond to consumer complaints of billing errors on certain credit accounts within a specific period.

• Identify credit transactions on periodic statements of open-end credit accounts.

• Provide certain rights regarding credit cards.

• Provide good faith estimations of disclosure information before consummation of certain residential mortgage transactions.

• Provide "early" disclosure of credit terms to consumers interested in adjustable rate mortgages (ARMs) and home equity lines of credit.

• Comply with special requirements when advertising credit.

The Five Categories On A Truth In Lending Disclosure

There are five terms, which are considered to be "material" disclosures required by TILA.  While other disclosures are required, these are deemed to be so important that a failure to give any one of them gives rise to the your right to rescind the loan transaction if your home is pledged as security. 

Regulation Z 226.23.   The terms are:

Finance Charge

The "finance charge" is defined as the cost of credit over the life of the loan, expressed as a dollar amount.  This includes, not only interest, but also any other charge, which is required as a condition of receiving credit. Examples include: "points,” document preparation fees and other fees, which are excessive, compared to their purpose (like excessive fees for notaries, appraisals, credit reports, title examinations, etc.). Regulation Z 226.4.
 

Annual Percentage Rate (APR)

The APR is the cost of credit expressed as a percentage.  For example, a loan with an interest rate of 17% may have an APR of 25% (all finance charges are rolled into the APR). Regulation Z 226.22.
 

Amount Financed

The "amount financed" is also expressed as a dollar amount.  It is calculated by taking the principal amount of the loan and subtracting those amounts, which are financed as part of the principal that are considered part of the finance charge.  For example: you take out a $100,000 note and deed of trust on your home. The 5 points ($5,000) charged on this loan are financed and are therefore included in the $100,000 principal on the note.  However, since the five points are defined as part of the finance charge, they are subtracted from the $100,000 in determining the amount financed ($100,000-$5,000 = $95,000). Regulation Z 226.18 (b).

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