OK, I went to college, took algebra, geometry, trigonometry, calculus, statistics, and passed them all. Math wasn’t a problem for me (history and literature were), alas, I’m pretty baffled at how broker/bankers, and lenders come up with a mortgages Annual Percentage Rate (APR).
This is a problem because APR is commonly referred to as the ‘value comparison barometer’ when shopping for a mortgage.
I feel like my 5th grade teacher telling his students to ’show me the math that goes along with your answer’ when a mortgage professional simply says ‘well it seems about right’. WTF? It seems about right?
During a common mortgage qualification process, you’ll typically find 3 different APR’s:
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Generated by the ‘in house’ broker/banker found on the Truth In Lending doc
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Mailed from the funding lender
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At the time of closing.
What’s more frustrating, is asking them to tell you how they came up with that APR, and you get a bunch of ‘uhhh’s’, calculator button punching, or baffle ‘em with bullsh*^ talk.
Determining APR is more creative art than science. Depending on the individual broker/banker, with so many independent variables that can be adjusted in the APR formula, it’s worthless at best and misleading at worst. It’s very common to give two lenders the exact same data for the exact same loan and come up with two different APR’s. Some lenders count certain closing costs as part of the APR, some don’t- There is NO prescribed method, only ’suggested’ formats.
Nobody can seem to, "Show Me The Math!" Why?
Mortgage pro’s, please don’t reply with a tutorial in how APR’s should be or are determined, you’re limited to the software program you’ve been provided with.
The actual equation looks like this:
LA - F = P1/(1 + i) + P2/(1 + i)2 +… (Pn + Bn)/(1 + i)n
i = IRR
LA = Loan Amount
F = All other fees (Points, lender, attorney, appraisal, etc)
P = Monthly payment
n = Month when the balance is paid in full
Bn = Balance in month n
Don’t bother getting out a pen and paper to solve your APR, it must be done by a computer or proper calculator, unless you’ve got a few days to spare and/or are a graduate level mathematician. In other words, any mortgage pro who says the APR is THE number to consider when comparing like mortgages without disclosing how they determine it, is blowing smoke.
Citing Wikipedia for those who think I’m just being sensational):
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Despite repeated attempts by regulators to establish usable and consistent standards, APR does not represent the total cost of borrowing nor does it really create a comparable standard.
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Regulators have been unable to completely define which one-time fees must be included and which excluded from the calculation. This leaves the lender with some discretion to determine which fees will be included (or not) in the calculation.
Leaving discretion to the lenders opens the doors to misinformation and manipulation towards the consumer.
Funny Jeff...
I wrote a post about the NO TRUTH IN LENDING FORM. I always laugh when someone calls me rate shopping and starts throwing how they are comparing APRs. The math is really flawed, but it ain't bad for government work.
The problem is too many consumers want to make a black and white decision with their mortgage. The lowest cost wins. Unfortunately, this is why so many consumers get into trouble. Instead of getting the overall best package of rate, cost, service, and expertise they attempt to make the largest financial decision of their lives on who is the cheapest.
Russ
wwww.smartmortgageadvice.com
Thank You Jeff. Now I know it's not just my denseness.
I have asked about it many times, and usually get an answer like this... "this is the interest rate when all the costs of the loan are figured."
So when I try to figure that out....I reach a number that isn't even close to the stated APR
X...Y here...
Waaaay off topic. I mean waaay off topic :)
I just stopped by to tell you I like your new picture. Wink. Wink. You tough guy you :)
TLW...ROAR!
Check your contact messages :)
I have my fingers crossed. Please join us. Pretty please? I'm buying :)
Jeff,
Sorry it took so long to comment here. I have been "away" a lot and I am trying to get caught up on all of the blogs I missed, which is taking me a lot of time as well.
Nonetheless, you are absoultely correct in the APR being worthless. In all honesty, I have not even gotten the "correct" answer from the legal system as they all offer suggestions as you mentioned, so it will never be a good comparison.
That being said, the main focus should not be on the APR, more the rate and ensuring the proper loan for your situation. Additionally, it never hurts to ask for full disclosure as to how much the Broker/Lender will make both on the fron and on the back (Yield Spread Premium).