Getting a mortgage can be a trying experience, especially when you’re unfamiliar with the process.
In the past, the Good Faith Estimate (GFE) form was used to inform borrowers of the nuanced differences in the terms and closing costs associated with each lender. However, the U.S. government found that most borrowers weren’t shopping around before choosing a mortgage, because they didn’t know how to compare lenders’ services.
In 2015, the Consumer Financial Protection Bureau (CFPB) launched the Know Before You Owe mortgage initiative to ensure that all consumers have the information they need in order to make informed decisions. As part of the initiative, CFPB retired the Good Faith Estimate and replaced it with the Loan Estimate form. Although the federal mandate has made mortgage details clearer, it’s still important to understand the basic concepts behind these forms so you’re better prepared to read them.
What Is A Good Faith Estimate?
Until October 2015, the Good Faith Estimate was the standard form that the Real Estate Settlement Procedures Act required all lenders to use to inform borrowers of mortgage terms. The Good Faith Estimate is still used for reverse mortgages and lists basic terms about the mortgage offer and estimated costs for the loan. GFEs itemize the payments you have to make so that you know what to expect, which makes it easier to understand the lender and third-party mortgage fees.
Because GFEs are standardized, the government assumed consumers could use the form to compare the costs of various lenders and determine which lender to use when financing. However, it was discovered that these comparisons were not as easy for borrowers as expected.
Why Was The Good Faith Estimate Replaced?
Although the GFE was intended to clarify the interest rates and closing costs associated with consumers’ loans, many found the information to be far more confusing than illuminating.
Borrowers have always been encouraged to shop around for mortgages, but the GFE and its precursors allowed lenders to choose the language they used to describe terms and fees. The inconsistent language used by lenders left borrowers scratching their heads. Without familiarity with the mortgage process, they couldn’t distinguish the actual differences between loans.
In the interest of protecting consumers, the CFPB eliminated GFEs and replaced them with Loan Estimates, which simplified the information and made it more user friendly by consolidating four forms into two:
- The Loan Estimate
- The Closing Disclosure
What Is A Loan Estimate?
A Loan Estimate is a three-page document that borrowers now receive from lenders after submitting a mortgage application. It presents you with the estimated loan terms, projected payments, and closing costs for your potential mortgage. Loan estimates also provide you with insight into whether rates and payments can change and, if so, by how much.
Loan estimates are more transparent than GFEs because they require lenders to use a universal format when presenting information about the terms and costs involved. This may sound like the GFE, but the main difference is that Loan Estimates also standardize inclusions and the language used for rates and costs in a universally used, easy-to-understand table.
The Loan Estimate form even includes a section that specifies which closing costs are fixed so you know which services you can shop around for. To help you select these services, lenders will provide a list of preferred service providers. With the differences between lenders more apparent, you’ll be more aware of the options and can make better-educated decisions when choosing the best lender and service providers for your circumstances.
Not only do Loan Estimates protect you against surprise fees, they also guard against last-minute changes. Since the costs listed in the form are merely estimates, there can be some adjustments to fee amounts. However, the law holds lenders accountable for providing estimates in good faith. To ensure that estimates are made in good faith, the fees disclosed on Loan Estimates are compared to the actual amount you pay at consummation (the point when you become legally obligated to a specific lender).
To ensure that you aren’t paying more than you should, the disclosure law sets tolerance levels for different fees. If the disparity between the amount estimated and the amount paid is too high, the lender must make up the difference.
Page 2 of the Loan Estimate form details the closing costs, which are broken down into two categories:
- Loan costs, including origination fees, services you cannot shop for and services you can shop for
- Other costs, including taxes and government recording fees, pre-paid fees, initial escrow payment and other fees that the lender is aware of
Each of these fees is subject to a different tolerance level. Fees that have zero tolerance cannot increase. If they increase by any amount, the lender is liable for the difference. The costs included in the zero tolerance category are any fees that the lender has oversight of. Fees with zero tolerance include origination charges, services that you cannot shop for and transfer taxes.
Fees in the 10% cumulative tolerance category are viewed as a whole. Although these fees may increase by more than 10% individually, the sum total of these fees may not increase by more than 10%. Costs included in this tolerance category are recording fees and any third-party service fees that you can shop for (assuming you chose a provider from your lender’s preferred list).
The final category is for fees that have no tolerance. No tolerance fees are ones that you must pay in full regardless of how much they increase. These fees can change without restriction because they are costs that the lender has no control over. They fall under the Other Costs section of the Loan Estimate and include prepaid fees (insurance premiums, prepaid interest and property taxes) and the initial escrow payment. Other fees that are included in this category are the costs of any services that you shopped for if you did not choose a provider from the lender’s list.
What Is A Closing Disclosure?
A Closing Disclosure is a 5-page form that lenders are required to give borrowers before the loan closing. The form describes the final terms and costs associated with your mortgage, as well as the amount of money you’ll need on hand at closing. The information on this form is presented in the same format, using the same language as the Loan Estimate. By simply reviewing the two forms next to each other, you’ll be readily able to compare the final details of your loan to the estimates that your lender provided.
Just as the Loan Estimate replaced the Good Faith Estimate, the Closing Disclosure replaced the HUD-1 Settlement Statement. Not only did the CFPB simplify the form, it also extended the time frame you have to review it. Although the HUD-1 Settlement Statement was given to borrowers on the day of closing, the Closing Disclosure must be provided to you at least 3 business days before you close on your loan. This 3-day window allows time to review and ask questions and ensures that there is no confusion on closing day.
How Does This Change Impact Your Mortgage?
By changing these forms, the CFPB has made the mortgage process easier and more accessible. As always, the more information you have, the more empowered you’ll be when choosing a lender and mortgage product appropriate for your situation.
Make sure to read your Loan Estimates carefully and ask your potential lenders any questions you have before you choose which loan and lender to proceed with. You also may find it helpful to review definitions of the terms present in these forms.