It used to be axiomatic that it was cheaper for a lender to refinance a homeowner's mortgage than to originate a purchase loan. Now it's debatable.
Broadly speaking, costs to produce either kind of mortgage are higher today than a few years ago, mostly because of increased regulation. And the common belief is still that it is more expensive to acquire a customer for a purchase loan than a refi, since purchase loans require more marketing. But when it comes to the costs to produce a loan from start to close, the cost differential between the two is less clear. Many believe it is just as expensive — if not more — to originate a refi as a purchase loan today.
"It's always been seen as, 'Oh you can make a lot of money during a refinance market because of the cost,' " said Brian Koss, managing partner of the Danvers, Mass., lender Mortgage Network Inc. Now, "it takes so much more to create that product."
The costs are "almost identical," said Richard Booth, the owner of the independent mortgage company Mortgage Planning Group in Ocean, N.J. "A purchase and a refinance [are] the same amount of time and the same amount of headaches."
Mark A. Jones, the president of the Portage, Mich., lender AmeriFirst Financial Corp., agreed, saying, "there is no discernable difference between the two in terms of cost."
Recent market statistics seem to back up these sentiments.
In its third-quarter performance report, the Mortgage Bankers Association said: "Historically, higher origination volume translates into a lower cost to originate per loan. This has been particularly true during refinancing waves. However, with stricter lending standards in place, higher volume did not result in lower origination costs in the third quarter 2010."
The average origination volume per company rose 20%, to $237 million in the third quarter from $197 million in the second quarter. However, loan production expenses also rose, to $4,539 per loan from $4,438 per loan in the second quarter.
There are many reasons refis have become much more costly to produce than a few years ago. Additional requirements imposed by Fannie Mae, Freddie Mac and private investors have increased the amount of time and effort it takes to complete a refinance.
"Streamlined refinances don't exist like they used to," said Scott Stern, the chief executive of Lenders One, a cooperative of independent mortgage banks. "You have to do full appraisals and collect tax forms and stuff, where you didn't have to do that in the recent past. … At the end of the day," purchase loans and refis "are both full documentation loans. They both require full processing, careful underwriting.
"Previously a refinance could be originated, processed, underwritten and closed in five hours, maybe even three hours," Stern went on. "And a purchase might be 15 hours of total work time. Now that gap has closed. If a purchase takes 15 hours, a refinance might take 10 hours of total time."
And with home values falling, it's become much more difficult to appraise properties in a refinance transaction.
"With a refinance, there is even more scrutiny over the collateral value, over the appraisal of the property," said Rick Seehausen, the chief executive of LenderLive Network Inc., a Denver company that provides outsourcing services to the mortgage industry. "With a purchase, you've got a buyer. Things are worth what the last person is willing to write a check for."
Depressed home values have also made it tough to refinance mortgages with second liens.
"The difference now is the value of the home has depreciated from the last time you got your first and second mortgage," Koss said. "I can refinance your $200,000 mortgage from 5% to 4% but I need your second-lien holder to stay right where they are. But then to do that there is a process," because the second-lien holder must approve the refi. "It's pure extra process to secure the loan … like doing two loans in one."
What's more, a borrower looking to refinance does not have the same sense of immediacy as a homebuyer, lenders said.
"The purchase borrower is a captive audience and less likely to be shopping like the refi borrower who is going for the no cost/cheapest lowest rate," Bodhi Kraus, a vice president at Priority Lending Mortgage Corp. in Santa Rosa, Calif., said by e-mail.
Still, others believe that though the gap in costs to produce a refi and a purchase loan has narrowed, purchases are more unpredictable, and therefore more costly.
"There are a lot more things that can go wrong in a purchase transaction than a refinance transaction," said John Walsh, the president of Total Mortgage Services LLC, a Milford, Conn., lender.
For instance, a seller may not be willing to meet a buyer's demand for a certain repair or upgrade before purchasing the property, which could kill the deal, he said.
"From our perspective, all things being equal, it will be less costly for us to do a refi," Walsh said.
Really, it comes down to a lender's business model, he said. Walsh generally encourages his clients to lock into a rate early in the process. But some lenders allow borrowers to "float," or wait to lock in a rate, which can be detrimental.
"If your pipeline is 75% floating and rates spiked like they did a month ago, then you're going to lose some of that," Walsh said.
With the MBA forecasting that purchase loans will make up a bigger portion of a shrinking origination pie this year than last, it's not quite clear what the impact will be on mortgage companies' costs.
"Our cost to produce will be better in 2011, but because you have less business there will be revenue compression," Koss said. "Your costs are better and more predictable and you can staff for it and hedge correctly, but there's going to be more of a price war. I don't know what the net will be in 2011 versus 2010."
Walsh, on the other hand, believes that as purchase loans make up a bigger portion of his overall business, costs may go up, but not significantly. "We're going to deal with it either way," Walsh said. "It may be a little bit more costly. But that is just something we'll have to work with in 2011. It's been a good run in the refinance market, so we can handle the purchase market even if our costs are a little bit more."
