A rate lock is a commitment by a mortgage lender to lend a stated amount to a specified borrower posting a specified property as collateral, at a stipulated interest rate and points. An important proviso is that the loan must be closed within a specified “lock period”, which is usually 15 to 60 days. The lock protects the applicant against the possibility of a rise in market rates during the lock period that would make the mortgage less attractive and possibly unaffordable.  With interest rates inching upward, questions about the reliability of locks will arise with increasing frequency in the months ahead.

Property Appraisals as a Lock Disrupter

The price of a mortgage varies with the ratio of loan amount to property value, or LTV. Since the price is often locked before the property has been appraised, the value used will be the sale price if it is a purchase transaction, or the owner’s estimate of value if it is a refinance. If the appraisal then comes in at an amount that is materially lower or higher than the value used in setting the lock price, it may invalidate the lock. This recent letter illustrates the problem. 

“I am refinancing my mortgage and locked at 4% with $1700 in total closing costs. But the appraisal came in at $411,000 instead of the $422,000 I had estimated, on the basis of which the rate was raised to 4.125%. Is this justified, or am I being taken advantage of?”

On the face of it, the answer to this borrower’s question was not obvious. The lower appraisal raised the LTV, which gave the lender an excuse for raising the rate. A closer look, however, reveals that the rationale was spurious because the low appraisal did not move the transaction into a new price category.

The LTV pricing categories are: 75.1-80.0; 80.1-85.0; 85.1-90.0; 90.1-95.0; and 95.1-97.00. Both the initial price based on an 88% ratio, and the new price based on a 90% ratio fell in the 85.1 – 90.0 pricing category, so the price should not have changed.

While the borrower in this case was certainly taken advantage of, more borrowers are exploited by appraisals that come in higher than the previous estimate. If the appraisal in the example had come in at $436,000 instead of $422,000, the LTV would have been 84.8, dropping it into the 80.1-85.0 pricing category, which should result in a lower price. Had this happened, the lender could have cheated by doing nothing, which is a temptation that is very hard to resist.

Bottom line, the borrower’s best defense against the possibility that the property appraisal will negate the rate lock is to compare the LTVs based on the original price estimate and on the appraisal to see if they fall into different pricing categories. 

Note that if borrowers rather than lenders ordered appraisals, they would do it before seeking a loan, so they would not have to guess the property value in shopping lenders or in negotiating a rate lock. The potential disruption caused by appraisals arriving late on the scene is just one of the costs of the dysfunctional practice of placing control of property appraisals with the lender rather than with the borrowers who pay for them.

Lock Expiration as a Disrupter

Probably the most important source of lock disruption is a failure to get the loan closed within the lock period. Such failure usually means that important information bearing on the acceptability of the property or the borrower was not received in time. Lenders will extend the lock without charge if they are responsible for the delay. They may have taken too long to process and underwrite the loan, or failed to identify missing information in a timely matter so that the borrower could provide it within the lock period.

In most cases, however,   the applicant is held responsible and the lender’s lock commitment expires. If the lock expires, any new lock will be at the prices prevailing at that time.

The applicant is presumed to be responsible for the failure to close on time because documenting the acceptability of the applicant’s finances and property is the responsibility of the applicant. When the loan application and supporting documents emerge from the office of the underwriter who has examined them, it is either approved, which makes it ready to close, or it may be approved subject to the provision of additional documents. The list of required documents is provided to the applicant.  

Needless to say, responsibility for failure to close can be a contentious issue. For that reason, the lenders who offer mortgages through my web site agree to accept my judgment as ombudsman if a disagreement arises on responsibility for a failure to close on time. I have delegated the function to my colleague Jack Pritchard, who was a mortgage banker for many years and knows all the tricks of the trade. Jack has adjudicated numerous disputes connected to lapsed locks.

Bottom line, borrowers with or without access to an ombudsman can best protect themselves by providing all documents requested by the underwriter ASAP, and by keeping a log showing the date on which each document was provided.