When you're about to buy a new home, you want to be absolutely clear about the terms to which you're agreeing.
It is within your right to enter the buying process with some apprehension.
You might wonder whether you’re able to afford a mortgage payment and other costs that come with a home purchase.
Or, maybe you’ve heard horror stories of people getting hit with surprise terms and costs at closing, and fear this might happen to you.
These scenarios aren’t as common today, thanks to the Loan Estimate and Closing Disclosure forms.
Lenders are required to be as transparent as possible with regard to mortgage-related costs and terms.
When you find a property and approach a lender for a mortgage, the lender must provide a Loan Estimate within three days of receipt of your application.
Additionally, you’ll receive the Closing Disclosure within three business days of closing.
But two questions remain:
What is the Loan Estimate and Closing Disclosure, and how do these forms differ?
What Is the Loan Estimate?
A Loan Estimate is a three-page document that replaced the Good Faith Estimate (GFE) in 2015.
When shopping for a mortgage, it’s important that you contact multiple lenders to compare rates and terms — at least three.
The Loan Estimate makes comparison shopping easier because it includes important details about a mortgage you’ve requested.
Keep in mind:
The Loan Estimate isn’t the same as a mortgage pre-approval.
If you’re thinking about buying a home but haven’t found a property yet, a lender may issue a pre-approval based on information you provide. This includes your income, tax returns, and bank statements.
The bank will even take a cursory look at your credit report.
A pre-approval says that you’re a good candidate for a mortgage. You’re likely to be approved for the loan as long as the information you provide is accurate.
A Loan Estimate, on the other hand, doesn’t come until “after” you’ve found a property.
A lender cannot provide this form until there is a property address and a sale price. This is the only way to provide an accurate estimation of your mortgage terms.
The Loan Estimate is a helpful tool because you know what to expect from the mortgage in the beginning stage.
You can assess whether the property is affordable, and whether this is the right mortgage for you.
Details of a Loan Estimate include:
Loan term, loan type, and loan product
The Loan Estimate will state whether you’ve chosen a 15-year or a 30-year mortgage, or another term. This section also states the purpose of the loan, such as a purchase loan or a refinance
Additionally, you’ll find information about the type of loan.
Is it a fixed-rate or an adjustable-rate?
Loan estimates also explain the type of loan: conventional, FHA, VA, or another product.
An important feature of the Loan Estimate is the interest rate. This is the rate assigned by the mortgage lender. It is based on many factors such as your credit history, type of loan, and size of your down payment.
You’ll need to pay close attention to this section when comparing Loan Estimates from different lenders.
The form will also include information on rate locks. If you locked your rate, the expiration date appears on the form, too.
If you chose a rate lock, you’ll need to close before this date to receive the rate on your Loan Estimate. Your rate might be higher if you close after this date.
Interest rates can fluctuate daily.
Payment penalty/balloon payment
You’ll also find information about prepayment penalties and any balloon payment. These are features of some home loans.
If you have a prepayment penalty, the lender may charge a fee if you refinance the house within the first two years of getting the mortgage.
If there’s a balloon payment, your last payment on the house will be a lump sum that’s greater than the other payments. These loans often have shorter terms and lower monthly payments.
Balloon payments are more common with investment and commercial properties.
But they can be a feature of a residential mortgage.
This option may appeal to homeowners who plan to move before the lump sum payment is due.
Projected monthly payment
To ensure you understand exactly what you’re getting into, Loan Estimates also feature your projected monthly payment.
This is based on the loan amount after your down payment, and the mortgage interest rate. This projected monthly payment includes repayment of principal and interest, mortgage insurance, and estimated escrow amounts.
You’ll also receive information on the amount you’ll need to bring to closing for your down payment and closing costs.
Closing costs details
Loan Estimates also come in handy as you compare costs charged by different lenders. The second page of the form lists lender and third-party fees.
Study this section carefully as you compare Loan Estimates. Typical costs include:
- the loan origination fee
- application fee
- appraisal fee
- attorney fees
- title search fee
- prepaid and other expenses
Other details about the mortgage
The final page of the Loan Estimate has more details about the loan.
This includes information on the amount of principal and interest you would have paid after five years, as well as information about late payments.
There’s also a section explaining whether you’re allowed to transfer the property to another person.
And whether the lender intends to service or transfer your loan.
How to Proceed With a Mortgage Loan?
Once you’ve compared Loan Estimates and selected a lender, you need to sign the form.
Next, contact the lender and express your intent to proceed. At this point, the lender moves forward with your loan application.
Even though you’ve decided to proceed, nothing is guaranteed until closing.
The next 30 to 45 days
Your lender’s underwriter prepares your mortgage file.
This includes requesting an appraisal of the property and conducting a title search.
You’ll also need to schedule a termite and moisture inspection and a home inspection, which might be required by your loan program.
The appraisal is important because the lender will not loan more than a property’s value.
As long as the property appraises at or below the sale price, you are given the green light to proceed.
If the property appraises less than the sale price, the seller must lower the asking price, or you’ll need to provide a larger down payment to make up the difference.
What Is the Closing Disclosure?
While the Loan Estimate provides an estimation of projected home loan terms, the Closing Disclosure form has your official loan terms.
This form is nearly identical to the Loan Estimate.
The primary difference is that you receive this form once you are cleared to close. You’ll get it within three days of your closing day.
It is important to examine the Closing Disclosure closely. It will have your actual interest rate, actual loan terms, actual monthly payment, and the exact amount you need to bring to closing.
Make sure you compare the details of the original Loan Estimate with the Closing Disclosure.
You should expect some minor variations, but many of the details should remain the same. These include the sale price, the loan amount, the loan term, and the type of loan.
You should also read the document to make sure your name is spelled correctly, and that it has the right property address.
Loan terms that could be different on the Closing Disclosure include:
- Prepaid interest amount
- Interest rate
- Monthly payment
- Escrow amounts (homeowner’s insurance premiums, mortgage insurance premiums, property taxes)
- Third-party fees (recording fee, appraisal fee, attorney fees, etc.)
- Fees paid to the lender (discount points, loan origination)
Cash to close
If you notice any major discrepancies between the Loan Estimate and the Closing Disclosure, talk to your lender as soon as possible.
Note: You can cancel the mortgage at any time if you’re not comfortable with the loan terms.
Thoroughly reviewing this final document is critical in the home buying process because it eliminates surprises at closing.
Prior to this form, some homebuyers would arrive to the closing table and get hit with a different interest rate and additional out-of-pocket costs.
Now, everything is out in the open, allowing that buyers to plan accordingly and make informed decisions.
This helps alleviate some of the stress that comes with a home purchase.
Are You Ready to Buy?
Buying a home can be intimidating and exciting at the same time.
This is especially true if you are a first-time homebuyer. Fears about affordability are common.
But with the Loan Estimate and a Closing Disclosure form, there are no hidden loan terms or costs.
You are given ample time to review both documents to ensure you are comfortable with a particular home mortgage before signing on the dotted line.
A mortgage is a long-term commitment. So it is important that you are confident in your ability to manage this responsibility.