What many borrowers don’t know early on is how mortgage lenders “fund” a home loan. Funding essentially means providing the money needed to create a new mortgage. It’s probably easy to think that when someone applies for a mortgage, the lender reaches back into its bank vault and sends the money over to the settlement agent. But it doesn’t exactly work that way.
Think about that process for a moment. Let’s say a company wants to get into the home loan business. The newly created mortgage company has $10 million in the bank. That might sound like a lot of money but in areas where homes are above the median sales price, that could work out to 10 $1 million dollar homes. Each time someone buys a property and requests a $1 million dollar loan, the lender would deliver the funds to the settlement agent and closes the deal. The first sale would drop the amount of money in the vault from 10 to 9 million. The next would drop it to 8 million and so on. Pretty soon, the lender would have an equity interest in 10 homes and collects the interest payments each month but the lender is effectively no longer a lender. It ran out of money. But what if that lender didn’t have to raid its vault? What if the lender operated differently that keeps it in the lending business?
That’s where selling loans comes into play. The mortgage market operates much differently than it did several years ago. Instead of pulling money out of a bank account to fund a loan, it tapped into a line of credit. Someone applies for a mortgage, the lender approves it, and funds the mortgage by using its line of credit. You might be thinking, “Okay, but after funding 10 loans from its line of credit, something’s going to have to give. The lender will need a bigger line of credit to continue.” Not if the lender is able to sell the loan.
Selling the loan replenishes the line of credit which keeps the lender in the mortgage business. Without the ability to sell loans into the “secondary” market, lending would soon come to a halt. Who buys these loans? Other lenders can buy them, but most conventional mortgages end up at Fannie Mae or Freddie Mac. Nearly two out of every three mortgages end up at either. Fannie and Freddie both set approval guidelines that lenders follow. Fannie and Freddie want to know what they’re buying and by establishing their own guidelines, they know just that.
It’s not uncommon for a new homeowner to soon receive a letter in the mail stating their loan is being sold. The industry calls it a “goodbye” letter. Conversely, the new lender sends a “hello” letter shortly thereafter. This buying and selling in the secondary market creates a positive cash flow that keeps the mortgage industry afloat. And with the exception of certain “portfolio” loans, it’s almost a given a new mortgage will soon be sold. Portfolio loans are those that are not sold, but held by the lender in its “portfolio.”
When borrowers apply for a mortgage, there is a fair share of paperwork involved. There’s the application and supporting documents along with different loan disclosures that describe in more detail the type of loan they’re applying for, costs and interest rate among other things. One of these disclosures details the percentage of loans the lender sells. Most lenders will show they sell the bulk of their mortgages. The form is called the Mortgage Servicing Disclosure Statement and provides information regarding whether or not the lender will keep the loan and collect the monthly payments to transfer it to another lender.
Selling a mortgage doesn’t affect the borrower at all. The original note and terms of the loan remain intact. The only difference is where the payments end up.