Best time to take out mortgage when buying home

Paying cash, refinancing later has its benefits
By: Jack Guttentag: Inman News
Q: I have enough cash to swing an all-cash purchase if I want to, but I don't want all of my money tied up in the house; I want to get some of it back in a mortgage. What is the downside of paying cash and taking out the mortgage later versus taking out the mortgage at the time of purchase?

A: The downside of taking the mortgage after you have purchased the house is that the mortgage will then be classified as a "cash-out refinance" as opposed to a "purchase mortgage." Why does that matter? Cash-out refinance loans are viewed as riskier than purchase loans, and therefore are priced higher. On prime loans, the rate difference is about 0.125 percent.

Only a small proportion of those who take cash-out refinances have houses that don't already have a mortgage, as in your case. Most have a mortgage and want to raise cash, and some of those are in financial distress and end up in default. That's why cash-out refinances have higher loss rates than purchase mortgages, and are charged a higher price.

The other side of the coin is that it is more difficult to shop effectively for a purchase mortgage than for a refinance. Borrowers purchasing a house are faced with a closing date on which they must provide funding to complete the purchase. This means that at some point in the process there is not enough time for the purchaser to back out of a deal and start anew with another loan provider. Once past that point, they are vulnerable to a variety of tricks by unscrupulous loan providers that can cost more than 0.125 percent

In contrast, the refinancing borrower who feels badly treated by a loan provider can opt out of the deal at any point and start again with another loan provider. Usually, timing is not critical on a refinance.

Even after a loan closes, a borrower refinancing with any lender other than his current lender, has three days to rescind it. The lender must then return all fees and remove any liens on their property. This right is not granted to loans used to purchase or construct a house.

I think if it were me, I would pay cash and mortgage later, despite the price difference. With a refinance, I'm in charge.

Q: "Is there a limit on the number of mortgage payments one can make in a given year?"

A: This question turns out to be a little more complicated than you may have imagined. The reason is that lenders may accept a payment without necessarily crediting it to the borrower's account at that time. That means that your question is really two questions. One, how many times a year will a lender accept the borrower's payment? Two, how many times a year will a lender credit the borrower's account?

To illustrate the distinction, some lenders have weekly payment programs under which they accept payments every week. However,they credit the payments to the borrower's mortgage monthly. They thus accept 52 payments a year but they only credit 12.

In effect, the borrower paying weekly is making his monthly payment early, which gives the lender the use of his money until month-end. It doesn't amount to a lot but it certainly compensates the bank for the additional processing expense.

The same distinction applies to biweekly payments. On biweekly programs that are run by third parties, the borrower pays biweekly but the lender credits the payments monthly. The interest earnings on the borrower's money, which is held by the third party until the monthly payment is due, is part of the income of the third party. Most of them also charge the borrower a fee.

A biweekly program offered by a lender may go either way. Some lenders credit the biweekly payments biweekly, some monthly. On a $100,000 loan at 6 percent for 30 years, the biweekly that credits payments monthly pays off in 297 months and total interest payments are $92,193. The same loan with payments applied biweekly pays off in the equivalent of 294 months, and total interest is $91,022. These numbers are derived from calculators 2b and 2bi on my Web site.

The writer is Professor of Finance Emeritus at the Wharton School of the University of Pennsylvania. Comments and questions can be left at http://www.mtgprofessor.com.