The term "no-cost" mortgage can be misleading. There are always fees associated with mortgage loans. Which fees apply will depend on whether your mortgage is a purchase loan or a mortgage refinance. The following are examples of some of the costs that may apply to your mortgage loan:
A variation to the "no-cost" loan is the No Points loan, or the No Points, No Lender Fees loan, where the borrower pays all the costs associated with buying or refinancing a home, but does not pay any lender fees or points. How does the lender generate profit from this arrangement? In understanding how loans are priced, you will have a better understanding of how the "No-Cost" or "No Points" mortgage options really work.
Take the time to ask questions, and do your homework, to ensure that you get the best mortgage price. Be aware that shopping based solely on what fees are charged upfront is not necessarily going to get you the best price. If you select a mortgage because you are paying lower fees, you might end up spending more money in the long-term in interest.
As mortgage rates are not static, meaning they can change constantly from day to day, every morning mortgage companies generate rate sheets for their loan officers. The rate sheet lists many different programs, with one column listing several different interest rates and another column listing the costs for the particular rates, as illustrated in the following example:
| Rate | Cost (Points) |
| 6.250% | 2.000 |
| 6.375% | 1.500 |
| 6.500% | 1.000 |
| 6.625% | 0.500 |
| 6.750% | 0.000 |
| 6.875% | (0.500) |
| 7.000% | (1.000) |
| 7.125% | (1.500) |
| 7.250% | (2.000) |
In the example, the rate of 6.75% has a "par" price, meaning there is no cost associated with the loan. If you decide that you require a lower rate, you will pay a higher cost or more "points". A point is equivalent to one per cent of the loan amount being borrowed. If you are willing to take on a higher interest rate, the lender is often willing to offer rebates or premiums, meaning the lender will pay out money to the borrower for accepting the higher rate.
The parentheses around the costs in the above columns, for the higher interest rates, indicate a negative number. For example, (2.000) for an interest rate of 7.250% is equal to -2.000, meaning the lender pays money to you, the borrower, instead of you paying an associated cost for the loan.
Mortgage companies and mortgage officers do not share their daily rate sheets with clients or the public. The sheet is meant for in-house company use only. The cost column on the sheet refers to the loan officer's costs for loans, not the cost to you, the borrower. When a loan officer gives a client an interest rate quote, he or she usually adds one, to one and a half, points to the quote. Most companies leave the add-on cost to the discretion of the loan offer, but the company usually requires a minimum addition of one point.
How much commission a loan officer makes depends on the add-on and the "split" with his or her company. The loan officer receives a portion of the add-on and the company receives a portion. For example, if you want a "no-points" mortgage loan, based on the example above, your rate would be 7%. The loan officer and the mortgage company would split the one point rebate as listed on the rate sheet.
Lenders usually charge other various fees in addition to the costs noted on their rate sheet. These can include processing and underwriting fees, tax service fees, document fees, etc. As a borrower, you should be aware that some of these are legitimate costs to the lenders while others are simply designed to generate additional income for the mortgage company. The cost of these additional fees can range from $600 to $1,300 in today's mortgage market. In addition, you may be charged an appraisal fee and a credit report fee. These fees are often contracted to independent companies, but are still considered lender fees.
If refinancing your home, your current lender will charge a demand and a reconveyance fee. The demand fee is charged simply for providing payoff information, while the reconveyance fee is charged to prepare a document releasing your property as collateral for the current outstanding loan.
These additional fees can add another point to how much must be collected in premium pricing to cover the costs associated with your purchase or refinance. For a "no-cost" loan, the loan officer must collect approximately two and a half points to cover all of the associated costs.
Not all fees associated with your home purchase, or refinance, are charged by your lender. The escrow, or settlement, company involved in the transaction will also charge a fee, as wlll the title insurance company that provides your required title insurance policy. If your property requires your membership in a homeowner's association, the association may charge a fee to provide required documentation to the lender.
Points are a percentage of your entire loan amount, and because most of the costs are fixed, it takes fewer points for lenders to offer a "no-cost" loan on higher loan amounts. If the loan amount is small, it will take more points to get the "no-cost" loan. For example, one percent of $200,000 is $2,000, whereas one percent of $90,000 is $900. It is easier for the lender to cover the costs on a larger loan where one point earns a substancial sum.
Individual circumstances will determine whether or not it is in your best interest to acquire a "no-cost" loan. If you plan to stay in the home for a long period of time, it does not make sense. Over a 30-year amortization you will end up paying more than $30,000 extra in interest payments.
If you only intend to keep a property for five years, the "no-cost" option is viable. However, if you knew you were only going to keep the property for five years, why would you take on a 30-year fixed rate mortgage? It makes more sense to take a loan that has a fixed payment for the first five years, with the option to convert to an adjustable or fixed-rate after this term. This type of loan has an interest rate of almost half a percent lower than the 30-year fixed-rate "no-cost" loan.
"No-cost" loans make great advertisements. They are effective for capturing people's interest in the lender, but for most home buyers, they will not be of benefit over the long-term.