You cannot close a mortgage loan without locking in an
interest rate. There are four components to a rate lock:
- Loan program.
- Interest rate.
- Points.
- Length of the lock.
The longer the length of the lock, the higher the points or
the interest rate. This is because the longer the lock, the
greater the risk for the lender offering that lock.
Let's say you lock in a 30-year fixed loan at 8% for 2 points
for 15 days on March 2. This lock will expire on March 17 (if
March 17 is a holiday then the lock is typically extended to the
first working day after the 17th). The lender must disburse
funds by March 17th, otherwise your rate lock expires, and your
original rate-lock commitment is invalid.
The same lock might cost 2.25 points for a 30-day lock or 2.5
points for a 60-day lock. If you need a longer lock and do not
want to pay the higher points, you may instead pay a higher
rate.
After a lock expires, most lenders will let you re-lock at
the higher of the prevailing market rates/points, or the
originally locked rates/points. In most cases you will not get a
lower rate if rates drop. In some cases, prior to the rate lock
expiration date, the lender may allow you to negotiate a rate
lock extension at the original rate/points. An additional fee
may be charged for this extension.
Lenders can lose money if your lock expires. This is because
they are taking a risk by letting you lock in advance. If rates
move higher, they are forced to give you the original rate at
which you locked. Lenders often protect themselves against rate
fluctuations by hedging.
Some lenders do offer free float-downs––i.e. you may lock the
rate initially and if the rates drop while your loan is in
process, you will get the better rate. However, there is no free
lunch––the free float-down is costly for the lender and you pay
for this option indirectly, because the lender has to build the
price of this option into the rate.For example: the float-down
rate may be 0.125% to 0.25% higher than the prevailing current
market rate
What happens if rates drop after you lock?
Most lenders will not budge unless rates drop substantially
(3/8% or more). This is because it is expensive for them to lock
in interest rates. If lenders let borrowers improve their rate
every time rates improved, they'd spend a lot of time relocking
interest rates, since rates fluctuate daily. Also, they would
have to factor this option into their rates, and borrowers would
wind up paying a higher rate. If rates drop, one option is to go
to a different lender. In this case, you would be starting the
loan process from the beginning. If you have your loan with a
mortgage broker, however, they'll probably be able to move your
loan package (including application) to a new lender offering
lower rates. Before applying with a different lender, inform
your original lender that you are aware that rates have dropped.
You may be pleasantly surprised to find that they will work with
you rather than lose you to a competitor.
Lock-and-shop programs.
Most lenders will let you lock in an interest rate only on a
specific property, which means, if you are shopping for a home,
you cannot lock in an interest rate until after you sign a
purchase contract for a specific property. If you are shopping
for a home, some lenders offer a lock-and-shop program that lets
you lock in a rate before you find the home. This program is
very useful when rates are rising. However, lock-and-shop rates
are usually higher than the prevailing market rate. Also, the
lender may charge a non-refundable fee or deposit towards
closing costs.
New-construction rate locks.
Most lenders offer long-term locks for new construction.
These locks do cost more and may require an up-front deposit.
For example, a lender might offer a 180-day lock for 1 point
over the cost of a 30-day lock, with 0.5 points being paid
up-front, as a non-refundable deposit. Most long-term
new-construction locks do offer a float-down––i.e. if rates drop
prior to closing, you get the better rate.
