4.4 Rate Locks and Pricing

Understanding rate locks and loan pricing is essential for MLOs. These concepts directly impact the borrower's final interest rate and closing costs, and misunderstanding them can lead to compliance issues and unhappy customers.

What is a Rate Lock?

A rate lock (also called a rate commitment or lock-in) is an agreement between the lender and borrower that guarantees a specific interest rate for a specified period of time.

Key Components of a Rate Lock

Common Lock Periods

Important: Longer lock periods generally come with higher interest rates because the lender assumes more market risk.

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Lock Period Pricing

Lenders use a tiered pricing structure based on lock period length. This reflects the lender's risk that rates may change during the lock period.

Example Rate Sheet Pricing

Or equivalently, longer locks may show higher rates for zero points:

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Lock Fees

Some lenders charge lock fees to secure a rate. Understanding lock fee policies is important:

Types of Lock Fees

Refundability

• Refundable lock fees are returned if the loan closes within the lock period
• Non-refundable lock fees are kept by the lender regardless of outcome
• Many lenders do not charge lock fees for standard lock periods

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Float-Down Options

A float-down (or float-down option) allows a borrower who has locked a rate to reduce that rate if market rates decline significantly before closing.

How Float-Downs Work

1. Borrower locks rate at 6.500%
2. Market rates drop to 6.125%
3. Borrower exercises float-down
4. New locked rate is 6.250% (typically splits the difference)

Float-Down Rules

Float-Down vs. Floating

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Rate Sheets and Pricing

MLOs work with rate sheets that show available rates and their associated costs or credits.

Reading a Rate Sheet

A typical rate sheet shows:

Interest Rates: Listed vertically (e.g., 6.000%, 6.125%, 6.250%, etc.) Lock Periods: Listed horizontally (e.g., 15-day, 30-day, 45-day) Pricing: Shown as positive numbers (points paid) or negative numbers (credits received)

Example Rate Sheet

Reading the example:

• At 6.000% with 30-day lock: Borrower pays 1.625 points
• At 6.375% with 30-day lock: Borrower pays 0.125 points (essentially par)
• At 6.500% with 30-day lock: Borrower receives 0.375 points as credit (negative = credit to borrower)

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Discount Points and Lender Credits

Discount points and lender credits allow borrowers to customize their rate and closing cost structure.

Discount Points

Discount points are prepaid interest paid at closing to reduce the interest rate.

Key facts about discount points:

• 1 point = 1% of the loan amount
• How much each point reduces the rate is set by the lender's pricing
• Points are tax-deductible interest (consult tax advisor)
• Best for borrowers who will keep the loan long-term

Example:

• Loan amount: $400,000
• 1 discount point = $4,000
• Rate reduction quoted by the lender: 6.500% to 6.250% (30-year fixed)
• Monthly principal and interest savings: approximately $65
• Break-even: approximately 61 months (about 5 years)

Lender Credits

Lender credits are the opposite of discount points. The borrower accepts a higher rate in exchange for reduced closing costs.

Key facts about lender credits:

• Higher rate = lender provides credit toward closing costs
• Good for borrowers who want to minimize cash to close
• Good for borrowers who plan to refinance or move within a few years
• Credit cannot exceed actual closing costs (no cash back to borrower)

Example:

• At 6.500%: Borrower receives $1,500 credit toward closing costs
• At 6.375%: No points, no credits (par pricing)
• At 6.250%: Borrower pays $1,500 in discount points

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Yield Spread Premium (YSP) - Historical Context

Yield Spread Premium (YSP) was compensation paid by lenders to mortgage brokers for delivering loans above the par rate. Under current regulations, YSP is now disclosed as lender credits on the Loan Estimate and Closing Disclosure.

How YSP Worked

1. Par rate (lender's base rate): 6.000%
2. Broker delivers loan at 6.500%
3. Lender pays broker YSP (percentage of loan amount)
4. This compensated broker instead of borrower paying direct fees

Current Disclosure

Under TRID, lender compensation to brokers appears in Section A (Origination Charges) of the Loan Estimate and Closing Disclosure. The total compensation must be disclosed, and brokers cannot receive compensation from both borrower and lender on the same transaction.

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Lock Policies and Procedures

When to Lock

As an MLO, you should discuss lock timing with borrowers:

Lock Confirmation

When a rate is locked, the lender should provide:

• Lock confirmation in writing
• Locked rate and points clearly stated
• Lock expiration date
• Conditions that must be met

Lock Expiration

If a lock expires before closing:

• Borrower may need to relock at current rates
• Extension fees may apply
• Lender is not obligated to honor expired lock
• Document the reason for delay in loan file

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Compliance Considerations

Accurate Rate Quotes

MLOs must:

• Quote rates accurately from current rate sheets
• Disclose lock costs and fees
• Explain float vs. lock trade-offs
• Not guarantee rates that cannot be delivered

Anti-Steering Provisions

Under the Loan Originator Compensation Rule:

• MLO compensation cannot vary based on loan terms
• Must present loan options that are in borrower's interest
• Cannot steer borrowers to loans that benefit MLO at borrower's expense

Lock Documentation

All lock agreements should be documented:

• Lock request and confirmation
• Any changes or extensions
• Borrower acknowledgment of lock terms
• Float-down elections (if applicable)

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Exam Tips for Rate Locks

For the SAFE MLO Test, remember:

• Rate lock = agreement guaranteeing rate for specific period
• Longer locks = higher rates or more points
• Float-down = option to lower locked rate if market drops
• Discount points = pay upfront to lower rate (1 point = 1% of loan)
• Lender credits = higher rate in exchange for reduced closing costs
• YSP is now disclosed as broker compensation on LE and CD
• MLO compensation cannot vary based on loan terms
• Lock must be in writing with clear terms