July 13, 2015

With millions of mortgage loans originated every year, it is not surprising that now and then lenders make a mistake in calculating the monthly mortgage payment. On a fixed-rate mortgage, the payment is calculated only once, when the loan is originated, so any such mistake occurs then. On an adjustable rate mortgage, a mistake can occur when the loan is originated, or on any subsequent rate adjustment date when the payment is recalculated.

I once had occasion to deal with two letters from readers that came in on the same day, both involving lender mistakes in the calculation of the payment. In the first, the payment was set too high but the borrower didn’t know it and completely misunderstood the consequences.

“I recently read your column on various schemes for repaying loans early, and need to inform you of a truly remarkable discovery I made. In 1999 I took out a 25-year loan, and in just 15 years the loan was completely discharged. During this entire period, I never made a single extra payment. The only thing I did differently was that I made absolutely sure that the payment was received by the lender one day before the due date. I was incredulous myself and checked with the lender to make sure there had been no mistake but they assured me that my debt was fully discharged. That one day of saved interest compounded month after month knocked 10 years off the term. Truly amazing! When you have investigated this incident and are satisfied it is correct, I hope you will inform your readers.”

I told this reader that she was a little old to still believe in the tooth fairy, and that there was no possible way that paying a day early would shorten the term. On a standard mortgage which she had, paying a day early or a day late has no effect on the amortization schedule because all payments are credited as of the first day of the month. The only logical explanation for what happened was that her payment had been miscalculated and she was making an extra payment every month without realizing it.

My subsequent investigation confirmed that this is indeed what happened. The loan officer who originally calculated the payment mistakenly used a 15-year rather than a 25-year term. Neither the processor or the underwriter who dealt with her file caught the error – 15 year terms are much more common than 25 year terms – so it persisted through the life of the loan. If the payment is calculated at 15 years, the loan will pay off in 15 years, even though the note says that it is a 25-year loan.

This was a major disappointment to my reader who thought she had made a momentous discovery. She was also chagrined to realize that she overpaid for her loan because 15-years mortgages are priced lower than 25s.

The second letter involved a mistake in the opposite direction, with more serious consequences.

“15 years ago I took out a 20-year adjustable rate mortgage (ARM). The note says that the last payment will be due approximately 5 years from now. I recently discovered, however, that on the first rate adjustment 14 years ago, the payment was miscalculated. It assumed the loan had another 29 years to run instead of 19, understating the new payment. 5 years from now, when I expected to be out of debt and planned to retire, I will still owe $40,000…Do I have a legal claim against the lender?”

I am not a lawyer but my guess is that you would find it difficult to demonstrate that the lender’s mistake caused you financial loss. Your loan balance is higher than you anticipated because your monthly payment was lower.

The moral I draw from this case is that anyone with an ARM should check the new payment amount whenever the interest rate is adjusted. This can be done easily with a financial calculator such as the HP10B series which are very inexpensive.

Another possible moral is that borrowers with atypical terms may be the most vulnerable to mistakes. The great majority of home loans today are for 15 or 30 years. The two cases discussed above pertained to a 25-year loan converted by mistake into a 15, and a 20-year loan converted by mistake into a 30.