14 Hour Mortgage Broker 2007

Mortgage Brokering/Lending
14-Hour Continuing Education Course
2 0 0 7 E d i t i o n
ATTENTION! Our mortgage brokering/lending course is expiring 9-30-2007!

vi Bert Rodgers Schools of Real Estate, Inc.
Acknowledgements
Bert Rodgers Schools of Real Estate, Inc. expresses our gratitude and appreciation to the
thousands of Mortgage Professionals who have completed our 14-hour course to fulfill
their continuing education requirements.
We would like to thank the author of this edition, Janine Spiegelman. We recognize her
expertise and appreciate her participation.
We also want the Student Services Department—both the customer contact employees
and those “behind the scenes” processing all the paperwork—to know how much we
appreciate their hard work, day after day, making sure our valued students are satisfied
customers.
And we certainly are grateful to our Publications Department staff. No matter what obsta-
cles you encounter in putting together these editions, you always create a product that,
year after year, our customers say is by far the best in the industry.
Finally, Bert Rodgers Schools would like to thank Julie Wild of Wild Dezign for her typeset-
ting expertise and patience, and Mark Mazzuki of Digital Ink Design Group for his cover
design of this edition and his design of all our marketing materials.
Lori J. Rodgers, President

Table of Contents
Founder
Bert Rodgers
President
Lori J. Rodgers
Administrative Vice
President
William E. Giffard
Director of Operations
Tom Harner
Director of
Information Systems
Alison M. Harner
Director of Finance
Aaron Pulone
Project managers
Valerie Churchillo
Lisa Lacey
Instructor
Janine Spiegelman
Project Coordinators
Michelle Headley
Jerry Schmitt
Product Support Manager
Kelli Finnigan
Student Services
supervisor
Patti Pasquini
Student Services
representatives
Barbara Dolnick
Anthony Fasciano
Colletta Finnigan
Mark Forsman
Jenncie Grove
Laraine Jansen
Mary Killoran
Shirley Samson
Kayla Smillie
Christopher Smith
Roman Vizvary
Typesetting
Wild Dezign
Printing
Action Printing
14-Hour MORTGAGE BROKERING/LENDING
Continuing Education Course
w MODULE 1
Florida Mortgage Brokerage and
Lending Act Rules and Regulations | 1
w MODULE 2
Credit Scores and Credit Scoring | 17
w MODULE 3
Exotic and Nontraditional Mortgages | 23
w MODULE 4
Subprime Loans and Prepayment
Penalties | 31
w MODULE 5
Lack of Credit Documentation
Promotes Mortgage Fraud | 39
w MODULE 6
Updates on Flood and Hazard Insurance | 45
w MODULE 7
Affordable Housing | 55
w MODULE 8
New and Updated Fannie Mae/Freddie Mac
Appraisal and Property Report Forms | 61
Registration/Affidavit Form

viii Bert Rodgers Schools of Real Estate, Inc.
Janine Spiegelman has been a licensed Florida Mortgage Broker since
1987 and has taught the mortgage pre-licensure course since 1999. She
has worked for the State of Florida, Department of Banking and Finance
as a Financial Examiner/Analyst II. In the mortgage field, she has held
every position possible–processor, closer, underwriter, post closer, mort-
gage broker, and wholesale account executive. She has her own real
estate brokerage and enjoys working with first-time home buyers. Janine is our continuing
education instructor for real estate and mortgage brokering/lending.
Bert Rodgers Schools of Real Estate, Inc. ©2007
All rights reserved, including the right to reproduce this manual or any portion of this manual in any form, or to use it for
teaching purposes without the express written consent of the copyright holder.
This publication is designed to provide accurate and authoritative information in regard to the subject matter covered. It is
provided with the understanding that the publisher is not engaged in rendering legal, accounting, or other professional service.
If legal advice or other expert assistance is required, the services of a competent professional person should be sought.
Bert Rodgers Schools of Real Estate, Inc. shall not be liable in any way for failure to receive and/or process your
Registration/Affidavit Form within any specific time period. It is your responsibility to ensure that you have complied with
your license renewal requirements in a timely manner.
Bert Rodgers Schools of Real Estate, Inc. recognizes and respects its students’ privacy. Course records are confidential,
and the School does not sell or rent students’ names or other information to any company or organization.
Cover design: Digital Ink Design Group
ISBN: 1-891753-40-1
Printed in the United States of America
Author Biography

© 2007 Bert Rodgers Schools of Real Estate, Inc.
Learning Objectives
After completing this module, you should be able to:
Florida Mortgage Brokerage and
Lending Act Rules and Regulations
M O D U L E 1
1.
Summarize the changes made to Chapter 494
F.S. effective October 1, 2006.
2.
List the changes to Chapter 69V-40 Florida
Administrative Code made through 2004.
3.
Summarize the organizational structure of
the Florida Department of Financial Services,
including the Financial Services Commission
and the Office of Financial Regulation.
4.
Explain the powers and duties of the Financial
Services Commission and the Office of
Financial Regulation.
5.
Explain the penalties, which could be imposed
for a violation of Chapter 494, F.S.
6.
Identify the prohibited practices pursuant to
Chapter 494.
7.
Explain the purpose for the enactment of the
Florida Fair Lending Act.
8.
Identify the types of transactions covered by
the Florida Fair Lending Act.
9.
Define a high-cost home loan.

10.
Identify the acts prohibited by the Florida Fair
Lending Act.

11.
Identify the disclosure requirements of the
Florida Fair Lending Act.

12.
Explain the enforcement and penalties of any
violation of the Florida Fair Lending Act.
The Department of Financial Services regulates
mortgage broker individuals (MB), mortgage broker-
age businesses (MBB), mortgage lenders (ML), and
correspondent mortgage lenders (CL) by the use of
Florida Statutes (F.S.) and the Florida Administrative
Code (F.A.C.). Chapter 494, F.S., is known as the
Florida Mortgage Brokerage and Mortgage Lending
Act Rules and Regulations. Chapter 494 originally
became effective in October 1991, and several sig-
nificant amendments have been made since 1991.
Chapter 69V-40 of the Florida Administrative
Code (formerly Chapter 3D-40 F.A.C.) is called
Rules Regulation Mortgage Brokers. Certain minor
changes to Chapter 69V-40 were made effective on
August 2, 2002, and a few minor amendments were
made between 2003 and 2004. The purpose of this
module is to review Florida mortgage brokerage rules
and regulations including changes effective October
1, 2006.
In 2002, legislation placed the regulation of bank-
ing, securities, and insurance under two appointed
officials who are selected by the Financial Services
Commission. The Financial Services Commission
serves as agency head for the Office of Financial
Regulation (OFR or Office) and the Office of
Insurance Regulation (OIR). The commission is
composed of the governor and Cabinet. The com-
mission appoints the commissioner of the OFR and
the commissioner of the OIR. Although both offices
are administratively housed within the Department
of Financial Services, they report directly to the
Financial Services Commission, headed by the newly
elected Chief Financial Officer, Alex Sink. The Office
of Financial Regulation has offices located in Miami,
Fort Lauderdale, West Palm Beach, Tampa, Orlando,
Jacksonville, Pensacola, and Fort Myers. The regional
offices are primarily responsible for conducting exam-
inations to ensure regulatory compliance by financial
institutions and financial service companies.
The Office is dedicated to safeguarding the private
financial interests of the public by licensing, char-
tering, examining, and regulating financial institu-
tions and financial service companies in the State
of Florida. The Office strives to protect consumers
from financial fraud while preserving the integrity
of Florida’s markets and financial service industries.
INTRODUCTION

Module 1
This is the Office’s mission statement found at
www.flofr.com/Director/abouttheoffice.htm
Within the Office are 2 Divisions. The first is the
Division of Financial Institutions. This division
licenses, examines, and regulates all state-authorized
or state-chartered financial institutions to ensure they
operate in a safe and sound manner and in compliance
with applicable statutes and rules. Those institutions
include commercial banks, credit card banks, credit
unions, non-deposit trust companies, savings banks,
savings and loans, and international bank offices.
The second division within the Office is the Division
of Securities and Finance. Within this division are
three Bureaus— the Bureau of Financial Regulation;
the Bureau of Securities Regulation; and the Bureau
of Regulatory Review. The Bureau of Finance
Regulation regulates retail installment sales busi-
nesses, consumer finance companies, mortgage bro-
kers and lenders, collection agencies, and money
transmitters. The bureau provides consumer protec-
tion from illegal or improper activities performed by
these companies. The Bureau of Securities Regulation
protects the public from investment and securities
fraud. The Bureau of Regulatory Review reviews all
applications for a financial services firm or a securi-
ties firm, reviews individual applications, and either
approves, places licensing restrictions, or denies licen-
sure based upon its findings (See Figure 1.1).
RECENT CHANGES IN FLORIDA STATUTES
REGULATING MORTGAGE BROKERAGE
AND MORTGAGE LENDING
This section discusses the more significant changes in
the Florida Statute Chapter 494 regulating mortgage
brokerage and mortgage lending effective October 1,
2006.
N E W
Definition
Control person means an individual, partnership,
corporation, trust, or other organization that possesses
the power, directly or indirectly, to direct the man-
agement or policies of a company, whether through
ownership of securities, by contract, or otherwise.
A person is presumed to control a company if, with
respect to a particular company, that person:
(a)
Is a director, general partner, or officer exercising
executive responsibility or having similar status or
functions;
(b)
Directly or indirectly may vote 10 percent or more
of a class of voting securities or sell or direct the
sale of 10 percent or more of a class of voting secu-
rities; or
(c)
In the case of a partnership, may receive upon dis-
solution or has contributed 10 percent or more of
the capital (Chapter 494.001(9)(a-c), F.S.).
Commissioner
Financial Regulation
Deputy Commissioner
Financial Regulation
Chief, Financial
Investigations
General Counsel Inspector General
Director
Division of Financial
Institutions
Director
Division of Securities
Office of Financial Regulation
Chief, Bank
Regulation District I
Chief, Credit Union
Regulation
Chief, Securities
Regulation
Chief, Finance
Regulation
Chief, Regulatory
Review
Chief, Money
Transmitter
Director, Cabinet
Legislative Affairs
Director
Division of Finance
Chief, Bank
Regulation District II
Chief, Regulatory
Review
Director of
Auditing
Figure 1.1 Source: www.flofr.com/Director/OFRorgchart.pdf
Office of Financial Regulation Flow Chart

Florida Mortgage Brokerage and Lending Act Rules and Regulations
N E W
Powers and Duties of the Commission and
Office
Allows the Office to require the electronic filing
of applications, renewals, and fees, unless granted
a waiver by OFR due to a hardship. Prior to this
change, the only license type that could file an
application online was a mortgage broker (Chapter
494.0011(2)(6), F.S.).
N E W
Books, Accounts, and Records; Maintenance;
Examinations by the Office
Authorizes the commission to adopt rules for the
requirements for the destruction of records main-
tained by licensees after the retention period has
expired ( Chapter 494.0016(4), F.S.).
N E W
Mortgage Business Schools
Requires permitted mortgage business schools to
electronically report to the Office the names of pupils
who have successfully completed required training
courses (Chapter 494.0029(4), F.S.).
N E W
Licensure as a Mortgage Brokerage Business;
Mortgage Broker’s License
Provides that applications are not deemed received
until all required fees are received (Chapters
494.0031(2)(a); 494.0033(2)(c), F.S.).
N E W
Renewal of Mortgage Brokerage Business
License or Branch Office License
The license for a branch office must be renewed in
conjunction with the renewal of the mortgage broker-
age business license (Chapter 494.0032(1)).
N E W
Mortgage Broker’s License
Allows the Office to contract with a third party ven-
dor to administer the mortgage broker test. This will
allow the test to be conducted electronically at mul-
tiple locations several times a week versus the old
once a month process at limited locations (Chapter
494.0033(2)(b), F.S.).
N E W
Mortgage Brokerage Business Branch Offices;
Principal Place of Business Requirements
Deleted Chapter 494.0036(3), F.S. and Chapter
494.0039(3), F.S. Eliminated from the statute the
requirement to display main office, branch office, and
individual licenses.
N E W
Requirements of Licensees
Provides that each licensee shall report any change
in the principal broker, principal representative, offi-
cers, partners, members, joint venturers, directors,
control persons or any individual who is the ultimate
equitable owner of 10% or greater interest (Chapter
494.004(6). F.S.).
Provides that a change of control whether through
the power to direct management, ownership or oth-
erwise shall require an application to be submitted to
the OFR unless a waiver has been granted (Chapter
494.004(6)(a-d), F.S.).
N E W
Administrative Penalties and Fines; License
Violations
Authorizes disciplinary action if fees are paid with a bad
check. (Chapters 494.0041(2)(s) and 494.0072(2)(s), F.S.).
Provides grounds for disciplinary action when a final
judgment is entered against an applicant or licensee in
a civil action upon grounds of fraud, embezzlement,
misrepresentation, or deceit (Chapters 494.0041(2)(t)
and 494.0072(2)(t), F.S.).
Provides grounds for disciplinary action when action
is taken by other federal and state regulatory organiza-
tions located in or outside the State of Florida involving
securities, insurance, real estate, mortgage brokers and
lenders, or other related or similar industries (Chapters
494.0041(2)(u)1.2. and 494.0072(2)(u)1.2.,F.S.).
N E W
Mortgage Lender’s License Requirements;
Correspondent Mortgage Lender’s License
Requirements; Savings Clause; Branch Offices
until all required fees are received (Chapters
494.0061(2)(b), 494.0062(2)(b), 494.0065(3)(5)(b) and
494.0066(2), F.S.).
Audited financial statements of all licensed lend-
ers have to be in accordance with United States

Module 1
generally accepted accounting principles (Chapters
494.0061(2)(c), 494.0062(2)(c) and 494.0065(2)(5)(c),
F.S.).
Provides under certain conditions that existing
principal representatives can be grandfathered in
without class or testing requirements (Chapters
494.0061(2)(f)(8-9) and 494.0062(2)(f)(11-12) and
494.0065(4)(c)1.2.(10), F.S.).
N E W
Renewal of Mortgage Lender’s License;
Branch Office License Renewal
Chapter 494.0064(1)(b), F.S. deleted. Eliminated the
requirement to report the continuing education of
loan associates when renewing a lender’s license.
N E W
Requirements of Licensees Under Chapters
494.006-.0077
Chapter 494.0067(1), F.S. deleted. Eliminated from
the statute the requirement to display main and
branch office licenses.
Provides that each licensee shall report any change in
the officers, partners, members, joint venturers, direc-
tors, or control persons. (Chapter 494.0067(4), F.S).
erwise shall require an application to be submitted to
the OFR unless a waiver has been granted. (Chapter
494.0067(4)(a-d),F.S).
Changes between 2002 and 2004 to the Rules
of the Florida Administrative Code
The most significant changes were that the Rules
Regulation Mortgage Brokers were moved from 3D-
40 F.A.C. to a new chapter 69V-40 F.A.C. and all ref-
erences to the Department of Banking and Finance
were replaced with the Financial Services Commission
and the Office of Financial Regulation, depending
upon the specific division of responsibility between
the departments. See Table 1.1
To access any of the required forms, go to website and
select the appropriate form.

www.flofr.com/licensing/MBlist.htm

To access Chapter 494 online, go to www.
leg.state.fl.us/Statutes/index.cfm?App_
mode=Display_StatuteURL=Ch0494/
titl0494.htmStatuteYear=2006Title=-
2006-Chapter%20494

To access the Florida Administrative Code,
Rules69V-40,gotowww.flofr.com/licensing/
RulesStatutes/Rule69V-40.htm
Table 1.1 Updates to the Rules of the Florida Administrative Code between 2002 and 2004
Books and Records 69V-40.170 Amended to substitute the Office of Financial Regulation for
all references to the Department of Banking and Finance.
Application Procedure for Mortgage
Broker License
69V-49.031(1) Provides that all applications for licensure as a mortgage bro-
ker must be filed with the OFR. The address is:
Office of Financial Regulation
200 East Gaines Street
Tallahassee, Florida 32399-0375
69V-40.031(1)(a) The application form for Licensure as a Mortgage Broker
changed to OFR-MB-101, and is available by mail from the
OFR.
69V-40.031(1)(c) The fee which must accompany the applicant’s fingerprint
card changed from $15.00 to $23.00. In the remainder of
this section, all references to the Department of Banking and
Finance changed to the Office of Financial Regulation.
Brokerage Business License
69V-40.051 All applications for licensure as a mortgage brokerage busi-
ness must now be filed with the OFR. The form that must be
used for this application is OFR-MB-201, and can be obtained
by mail from the OFR or accessed online at http://www.flofr.
com/licensing/Forms/MBBapp.pdf

Table 1.1 Updates to the Rules of the Florida Administrative Code between 2002 and 2004
69V-40.051(2) Regarding the fingerprint cards and Biographical Summary, now
provides as follows:
Each ultimate equitable owner of 10% or greater inter-
est, the chief executive officer and each director of an
entity applying for licensure as a mortgage brokerage
business, shall submit a completed fingerprint card
and Biographical Summary, Form OFR-MBB-BIO-1
(revised 10/99), to the Office of Financial Regulation
along with a $23 nonrefundable processing fee. Form
OFR-MBB-BIO-1 is hereby incorporated by reference
and available by mail from the Office of Financial
Regulation, 200 East Gaines Street, Tallahassee, Florida
32399-0375.
All former references to the Department of Banking and Finance
have been changed in this section to the Office of Financial
Regulation.
Application Procedure for Change
in Ownership or Control of Saving
Clause Mortgage Lending
69V-40.100 All references to the Department of Banking and Finance have
been changed to the Office of Financial Regulation. The ap-
plication for Change in Ownership or Control of Saving Clause
Mortgage Lending must use the form OFR-MLST. The form must
be mailed to the Office at the address.
The same changes to the fingerprint card filing and Biographical
Summary that were made to the other license application regula-
tions, (i.e. form OFR-ML-BIO-1 and the fee of $23), were also
made to this section.
Lender License
69V-40.200 The application form for licensure as a mortgage lender changed
to OFR-ML-222 and is to be mailed to the Office at the address.
Further, the surety bond must be submitted on form OFR-ML-444,
Mortgage Brokerage and Mortgage Lending Act Surety Bond. The
completed fingerprint card and Biographical Summary form OFR-
ML-BIO-1, and the nonrefundable, processing fee of $23 must
be submitted to the Office. All references to the Department of
Banking and Finance have been changed to the Office of Finan-
cial Regulation.
Mortgage Lender License, Mortgage
Lender License Pursuant to Saving
Clause, and Branch Office License
Renewal and Reactivation
69V-40.205 The form for renewal and reactivation of a mortgage lender
license is OFR-ML-R, and the form for renewal and reactivation of
a mortgage lender license pursuant to saving clause is OFR-ML-
RS. The form for branch office renewal is OFR-ML-RB, Mort-
gage Lender and Correspondent Mortgage Lender Branch Office
License Renewal and Reactivation Form. All forms must be filed
with the Office.
Application Procedure for Correspon-
dent Mortgage Lender License
69V-40.220 Changed the applicable forms, processing fees, and references
to the Office of Financial Regulation. The application form for
licensure as a correspondent mortgage lender is OFR-CL-333.
The surety bond form is OFR-ML-444. The fingerprint card and
Biographical Summary form is OFR-CL-BIO-1, and the processing
fee is now $23. All forms must be filed with the Office.
Correspondent Mortgage Lender
License and Branch Office License
Renewal and Reactivation
69V-40.225 Changed the applicable forms and references to the Office of
Financial Regulation. The renewal and reactivation form for
correspondent mortgage lender license is form OFR-CL-R. The
surety bond form is OFR-ML-444. The Mortgage Lender and Cor-
respondent Mortgage Lender Branch Office License Renewal and
Reactivation form is OFR-ML-RB. All forms must be filed with the
Office.
Lender or Correspondent Mortgage
Lender Branch Office License
69V-40.240 Changed the application form and references to the Office of
Financial Regulation. The application form for mortgage lender
branch office or correspondent mortgage lender branch office
license is OFR-ML-222B. All forms must be filed with the Office.
Principal Representative 69V-40.242 Changed the applicable form and references to the Office of
Financial Regulation. The Principal Representative Designation
form is OFR-ML/CL-PR. All forms must be filed with the Office.
Source: Compiled by author.

Module 1
PART I: GENERAL PROVISIONS
(494.001-494.00295)
The Financial Services Commission
As introduced at the beginning of this module, the
Financial Services Commission serves as agency head
for the Office of Financial Regulation (OFR or Office)
andtheOfficeofInsuranceRegulation(OIR).OFRand
OIR are administratively housed within the Depart-
ment of Financial Services, headed by the Chief
Financial Officer. The Office is responsible for con-
ducting financial investigations into allegations of sus-
pected illegal financial activities within its jurisdiction.
Powers and Duties of the Commission and
Office
The Office of Financial Regulation is responsible
for the administration and enforcement of Chapter
494.001-494.0077, F.S. The Financial Services
Commission may adopt rules pursuant to Chapters
120.563(1), F.S and 120.54, F.S to implement
Chapters 494.001-494.0077, F.S. The Commission
may adopt rules requiring electronic submission of
any forms, documents, or fees required by this act if
such rules reasonably accommodate technological or
financial hardship. The Commission may prescribe
by rule requirements and procedures for obtaining
an exemption due to a technological hardship. The
Commission may also adopt rules to accept certifica-
tion of compliance with requirements of Chapter 494,
F.S. in lieu of requiring submission of documents.
The grant or denial of any license under this chapter
must be in accordance with Chapter 120.60, F.S.
The Office:
has the power to issue and to serve subpoenas and
subpoenas duces tecum to compel the attendance of
witnesses and the production of all books, accounts,
records, and other documents and materials rel-
evant to an examination or investigation.
or its duly authorized representative, has the power
to administer oaths and affirmations to any person.
may conduct an investigation of any person when-
ever the Office has reason to believe, either upon
complaint or otherwise, that any violation of
494.001-494.0077 F.S. has been committed or is
about to be committed.
•
•
•
may, at intermittent periods, conduct examinations
of any licensee or other person under the provi-
sions of 494.001-494.0077 F.S.
may bring action through its own counsel in the
name and on behalf of the state against any person
who has violated or is about to violate any provi-
sion of 494.001-494.0077 F.S. or any rule of the
commission or order of the Office issued under
494.001-494.0077 F.S. to enjoin the person from
continuing in or engaging in any act in furtherance
of the violation.
has the power to issue and serve upon any person
an order to cease and desist and to take corrective
action whenever it has reason to believe the per-
son is violating, has violated, or is about to violate
any provision of 494.001-494.0077 F.S., any rule
or order issued under 494.001-494.0077 F.S., or
any written agreement between the person and the
Office. All procedural matters relating to issuance
and enforcement of such a cease and desist order
are governed by the Administrative Procedure Act.
has the power to order the refund of any fee
directly or indirectly assessed and charged on a
mortgage loan transaction which is unauthorized
or exceeds the maximum fee specifically authorized
in 494.001-494.0077 F.S.

may prohibit the association by a mortgage broker
business, or the employment by a mortgage lender
or correspondent mortgage lender, of any person
who has engaged in a pattern of misconduct while
an associate of a mortgage brokerage business or an
employee of a mortgage lender or correspondent
mortgage lender. For the purpose of this subsec-
tion, the term “pattern of misconduct” means
the commission of three or more violations of ss.
494.001-494.0077 or the provisions of Chapter 494
in effect prior to October 1, 1991, during any one
year period or any criminal conviction for violating
ss. 494.001-494.0077 or the provisions of Chapter
494 in effect prior to October 1, 1991.
Penalties
Chapter 494.0018 provides whoever knowingly vio-
•
•
•
•
•
MORTGAGE BROKERAGE LICENSE LAW
Chapter 494, F.S., is divided into five parts: Part I, General Provisions (494.001-494.00295); Part II, Mortgage
Brokers (494.003-494.0043); Part III, Mortgage Lenders (494.006-494.0077); Part IV, Florida Fair Lending Act
(494.0078-494.00797); and Part V, Loans Under the Florida Uniform Land Sales Practices Law (494.008).

lates any provision of Chapters 494.0041(2)(e), (f), or
(g); 494.0072 (2)(e), (f), or (g); or 494.0025 (1), (2),
(3), (4), or (5), is guilty of a felony of the third degree,
except that any person convicted of a violation of any
provision of 494.001-494.0077 F.S., in which viola-
tion the total value of money and property unlawfully
obtained exceeded $50,000 and there were five or more
victims, is guilty of a felony of the first degree. All the
violations are punishable as provided in Chapters
775.082 F.S., 775.083 F.S., or 775.084 F.S. Each such
violation constitutes a separate offense. In addition, if
a mortgage transaction is made in violation of any pro-
vision of Chapters 494.001-494.0077 F.S., the person
making the transaction and every licensee, director,
or officer who participated in making the transaction
are jointly and severally liable to every party to the
transaction in an action for damages incurred by the
party or parties. However, a person is not liable under
this section upon showing that such person’s licens-
ees, officers, and directors who participated in making
the transaction, if any, acted in good faith and with-
out knowledge and, with the exercise of due diligence,
could not have known of the act committed in viola-
tion of Chapters 494.001-494.0077, F.S.
Prohibited Practices
Chapter 494.0025 F.S. provides that it is unlawful for
any person:
(1) To act as a mortgage lender in this state without
a current, active license issued by the Office pur-
suant to 494.006-494.0077, F.S.
(2) To act as a correspondent mortgage lender in
this state without a current, active license issued
by the Office pursuant to 494.006-494.0077,
F.S.
(3) To act as a mortgage broker in this state without
a current, active license issued by the Office pur-
suant to 494.003-494.0043, F.S.
(4) In any practice or transaction or course of busi-
ness relating to the sale, purchase, negotiation,
promotion, advertisement, or hypothecation of
mortgage transactions, directly or indirectly:
(a) To knowingly or willingly employ any device,
scheme, or artifice to defraud;
(b) To engage in any transaction, practice, or
course of business which operates as a fraud
upon any person in connection with the pur-
chase or sale of any mortgage loan; or
(c) To obtain property by fraud, willful misrep-
resentation of a future act, or false promise.
(5) In any matter within the jurisdiction of the
Office, to knowingly and willfully falsify, con-
ceal, or cover up by a trick, scheme, or device a
material fact, make any false or fraudulent state-
ment or representation, or make or use any false
writing or document, knowing the same to con-
tain any false or fraudulent statement or entry.
(6) To violate 655.922(2) F.S., subject to 494.001-
494.0077 F.S.
(7) Who is required to be licensed under ss. 494.006
- 494.0077, to fail to report to the Office the
failure to meet the net worth requirements of
494.0061 F.S., 494.0062 F.S., or 494.0065 F.S.
within 48 hours after the person’s knowledge of
such failure or within 48 hours after the person
should have known of such failure.
(8) To pay a fee or commission in any mortgage loan
transaction to any person or entity other than a
mortgage brokerage business, mortgage lender,
or correspondent mortgage lender, operating
under an active license, or a person exempt from
licensure under this chapter.
(9) To record a mortgage brokerage agreement or
any other document, not rendered by a court
of competent jurisdiction, which purports to
enforce the terms of the mortgage brokerage
agreement.

(10) To use the name or logo of a financial institution,
as defined in 655.005(1), F.S., or its affiliates or
subsidiaries when marketing or soliciting exist-
ing or prospective customers if such marketing
materials are used without the written consent
of the financial institution and in a manner that
would lead a reasonable person to believe that
the material or solicitation originated from, was
endorsed by, or is related to or the responsibility
of the financial institution or its affiliates or sub-
sidiaries.

Module 1
PART II AND III: MORTGAGE BROKERS
AND MORTGAGE LENDERS
All the relevant changes made to Chapter 494, F.S. were discussed at the beginning of this module. Included here
is a brief recap of the changes to Chapter 494.003-494.0077, F.S.
PART IV: FLORIDA FAIR LENDING ACT
ABUSIVE MORTGAGE LENDING
In 494.0078, F.S. the Florida Legislature found that:
“abusive mortgage lending has become a problem
in this state even though most high-cost home loans
do not involve abusive mortgage practices. One of
the most common forms of abusive lending is the
making of loans that are equity-based rather than
income-based. The financing of points and fees
in these loans provides immediate income to the
originator and encourages creditors to repeatedly
refinance home loans. As long as there is sufficient
equity in the home, an abusive creditor benefits even
if the borrower is unable to make the payments and
is forced to refinance. The financing of high points
and fees causes the loss of equity in each refinanc-
ing and often leads to foreclosure.
Abusive lending has threatened the viability of
many communities and caused decreases in home
ownership. While the marketplace appears to oper-
ate effectively for conventional mortgages, too many
homeowners find themselves victims of overreach-
ing creditors who provide loans with unnecessarily
high costs and terms that are unnecessary to secure
repayment of the loan. The Legislature finds that as
competition and self-regulation have not eliminated
the abusive terms from home-secured loans, the
consumer protection provisions of this act are nec-
essary to encourage fair lending.”
DEFINITIONS
Chapter 494.0079, F.S. sets forth the following defi-
nitions.
Affliate: Any company that controls, is controlled by,
or is in common control with another company, as set
forth in 12 U.S.C. 1841 et seq. and the regulations
adopted thereunder.
Allows the Office to contract with a third party ven-
dor to administer the mortgage broker test.
until all required fees are received. Authorizes dis-
ciplinary action if fees are paid with a bad check.
Provides that each licensee shall report any change
in the principal broker, principal representative,
officers, partners, members, joint venturers, direc-
tors, control persons or any individual who is the
ultimate equitable owner of 10% or greater inter-
est.
erwise shall require an application to be submitted
to OFR unless a waiver has been granted.
Audited financial statements of all licensed lend-
ers have to be in accordance with U.S. generally
accepted accounting principles.
Provides under certain conditions that existing
•
•
•
•
•
•
principal representatives can be grandfathered in
without class or testing requirements.
Eliminates the requirement to display main and
branch office licenses.
Eliminates the requirement to display individual
mortgage broker licenses.
Eliminates the requirement to report the continu-
ing education of loan “Associates” when renewing
a lender’s license.
Provides grounds for disciplinary action when a
final judgment is entered against an applicant or
licensee in a civil action upon grounds of fraud,
embezzlement, misrepresentation, or deceit.
Provides grounds for disciplinary action when
action is taken by other federal and state regula-
tory organizations located in or outside the State of
Florida involving securities, insurance, real estate,
and lending activities.
•
•
•
•
•

Annual percentage rate (APR): The annual percent-
age rate for the loan calculated according to the provi-
sions of 15 U.S.C. 1606 and the regulations adopted
thereunder by the Federal Reserve Board.
Borrower: Any natural person obligated to repay a
loan, including, but not limited to, a co-borrower, co-
signor, or guarantor.
Bridge loan: A loan with a maturity of less than 18
months that only requires the payment of interest
until such time as the entire unpaid balance is due and
payable.
Commission: The Financial Services Commission.
Office: The Office of Financial Regulation of the
commission.
Lender: Any person who makes a high-cost home
loan or acts as a mortgage broker or lender, finance
company, or retail installment seller with respect to a
high-cost home loan, but shall not include any entity
chartered by the United States Congress when engag-
ing in secondary market mortgage transactions as an
assignee or otherwise.
Residential mortgage transaction: A transaction
in which a mortgage, deed of trust, purchase money
security interest arising under an installment sales
contract, or equivalent consensual security interest is
created or retained against the consumer’s dwelling to
finance the acquisition or initial construction of such
dwelling. (15 U.S.C.) 1602(w)
HIGH-COST HOME LOANS
Definition
The provisions of the Florida Fair Lending Act deal
primarily with high-cost home loans.
High-cost home loans are defined by 15 U.S.C.
1602(aa), which provides in pertinent part as follows:
(1)
A mortgage referred to in this subsection means a
consumer credit transaction that is secured by the
consumer’s principal dwelling, other than a resi-
dential mortgage transaction, a reverse mortgage
transaction, or a transaction under an open end
credit plan, if—
(A)
the annual percentage rate at consummation
of the transaction will exceed by more than 10
percentage points the yield on Treasury secu-
rities having comparable periods of maturity
on the fifteenth day of the month immediately
preceding the month in which the application
for the extension of credit is received by the
creditor; or
(B)
the total points and fees payable by the con-
sumer at or before closing will exceed the
greater of—
(i)
8 percent of the total loan amount; or
(ii) $547.00, for the year 2007.
(2)
(A)
After the 2-year period beginning on the
effective date of the regulations promulgated
under section 155 of the Riegle Community
Development and Regulatory Improvement
Act of 1994, and no more frequently than bien-
nially after the first increase or decrease under
this subparagraph, the Board may by regula-
tion increase or decrease the number of per-
centage points specified in paragraph (1)(A),
if the Board determines that the increase or
decrease is—
(i)
consistent with the consumer protections
against abusive lending provided by the
amendments made by subtitle B of title I
of the Riegle Community Development
and Regulatory Improvement Act of 1994;
and
(ii)
warranted by the need for credit.
(B)
An increase or decrease under subparagraph
(A) may not result in the number of percent-
age points referred to in subparagraph (A)
being—
(i)
less that 8 percentage points; or
(ii) greater than 12 percentage points.
(C)
In determining whether to increase or decrease
the number of percentage points referred to
in subparagraph (A), the Board shall consult
with representatives of consumers, including
low-income consumers, and lenders.
(3)
The amount specified in paragraph (1)(B)(ii) shall
be adjusted annually on January 1 by the annual
percentage change in the Consumer Price Index,
as reported on June 1 of the year preceding such
adjustment.
(4)
For purposes of paragraph (1)(B), points and fees
shall include—
(A)
all items included in the finance charge, except
interest or the time-price differential;
(B)
all compensation paid to mortgage brokers;
(C)
each of the charges listed in section1605(e) of
this title (except an escrow for future payment
of taxes), unless—
(i)
the charge is reasonable;
(ii)
the creditor receives no direct or indirect
compensation; and
(iii)
the charge is paid to a third party unaffili-
ated with the creditor; and
(D)
such other charges as the Board determines to
be appropriate.

10 Module 1
PROHIBITED ACTS
Chapter 494.00791,F.S. provides for prohibited acts
involving high-cost loans.
(1) Prepayment Penalties
(a)
A high-cost home loan may not contain
terms that require a borrower to pay a pre-
payment penalty for paying all or part of the
loan principal before the date on which the
payment is due.
(b)
Notwithstanding paragraph (a), a lender
making a high-cost home loan may include
in the loan contract a prepayment fee or
penalty, for up to the first 36 months after
the date of consummation of the loan, if:
1.
The borrower has also been offered a
choice of another product without a pre-
payment penalty.
2.
The borrower has been given, at least 3
business days prior to the loan consum-
mation, a written disclosure of the terms
of the prepayment fee or penalty by the
lender, including the benefit the bor-
rower will receive for accepting the pre-
payment fee or penalty through either
a reduced interest rate on the loan or
reduced points or fees.
(2) Default Interest Rate

A high-cost home loan may not provide for a
higher interest rate after default on the loan.
However, this prohibition does not apply to
interest rate changes in a variable rate loan oth-
erwise consistent with the provisions of the loan
documents, provided the change in interest rate
is not triggered by a default or the acceleration
of the interest rate.
(3) Balloon Payments

A high-cost home loan having a term of less than
10 years may not contain terms under which the
aggregate amount of the regular periodic pay-
ments would not fully amortize the outstanding
principal balance. However, this prohibition
does not apply when the payment schedule is
adjusted to account for the seasonal or irregular
income of the borrower or if the loan is a bridge
loan.
(4) Negative Amortization

A high-cost home loan may not contain terms
under which the outstanding principal balance
will increase at any time over the course of the
loan because the regular periodic payments do
not cover the full amount of the interest due.
(5) Prepaid Payments

A high-cost home loan may not include terms
under which more than two periodic payments
required under the loan are consolidated and
paid in advance from the loan proceeds provided
to the borrower.
(6)
Extending Credit Without Regard To The
Payment Ability Of The Borrower

A lender making a high-cost home loan shall not
engage in any pattern or practice of extending
high-cost home loans to borrowers based upon
the borrowers’ collateral without regard to the
borrowers’ ability to repay the loan, including
the borrowers’ current and expected income,
current obligations, and employment.
(7) Payments To A Home Contractor

A lender shall not make any payments to a con-
tractor under a home improvement contract
from amounts of a high-cost home loan other
than:
(a)
In the form of an instrument that is payable
to the borrower or jointly to the borrower
and the contractor; or
(b)
At the election of the borrower by a third-
party escrow agent in accordance with terms
established in a written agreement signed by
the borrower, the lender, and the contractor
prior to the date of payment.
(8) Due-On-Demand Clause

A high-cost home loan may not contain a provi-
sion that permits the lender, in its sole discre-
tion, to call or accelerate the indebtedness. This
provision does not prohibit acceleration of the
loan due to the borrower’s failure to abide by
the terms of the loan, or due to fraud or material
misrepresentation by the consumer in connec-
tion with the loan.
(9) Refinancing Within an 18-Month Period
(a)
A lender, its affiliate, or an assignee shall not
refinance any high-cost home loan to the
same borrower within the first 18 months
of the loan when the refinancing does not
have a reasonable benefit to the borrower
considering all of the circumstances, includ-
ing, but not limited to, the terms of both the
new and refinanced loans, the cost of the
new loan, and the borrower’s circumstances.
(b)
A lender or assignee shall not engage in
acts or practices to evade this requirement,
including a pattern or practice of arrang-
ing for the refinancing of the lender’s or
assignee’s own loans by affiliated or unaffili-
ated lenders or modifying a loan agreement,
whether or not the existing loan is satisfied
and replaced by the new loan, and charging
a fee.

(10) Open-Ended Loans

A lender shall not make any loan as an open-

Florida Mortgage Brokerage and Lending Act Rules and Regulations 11
ended loan in order to evade the provisions of
this act unless such open-ended loans meet the
definition in 12 C.F.R. s. 226.2(a)(20).

(11) Recommendation of Default

A lender shall not recommend or encourage
default on an existing loan or other debt prior
to and in connection with the closing or planned
closing of a high-cost home loan that refinances
all or any portion of such existing loan or debt.

(12) Prohibited Door-To-Door Loans

A high-cost home loan may not be made as a
direct result of a potential or future lender or
its representative offering or selling a high-cost
home loan at the residence of a potential bor-
rower without a prearranged appointment with
the potential borrower or the expressed invita-
tion of the potential borrower. This subsection
does not apply to mail solicitations that may be
received by the potential borrower.

(13) Late Payment Fees

A lender may not charge a late payment fee for
a high-cost home loan except as provided in this
subsection. A late payment fee:
(a)
may not be in excess of 5 percent of the
amount of the payment past due.
(b)
may only be assessed for a payment past due
for 15 days or more.
(c)
may not be charged more than once with
respect to a single late payment. If a late
payment fee is deducted from a payment
made on the loan and such deduction causes
a subsequent default on a subsequent pay-
ment, no late payment fee may be imposed
for such default. If a late payment fee has
been imposed once with respect to a par-
ticular late payment, no such fee shall be
imposed with respect to any future payment
which would have been timely and suffi-
cient, but for the previous default.

(14) Modification or Deferral Fees

A lender may not charge a borrower any fees
or other charges to modify, renew, extend, or
amend a high-cost home loan or to defer any
payment due under the terms of a high-cost
home loan on a minimum of one modifica-
tion, renewal, extension, or deferral per each 12
months of the length of the loan.
HIGH-COST LOAN DISCLOSURES
Chapter 494.00792 F. S. provides:
(1)
In addition to other disclosures required by law
and in conspicuous type:
(a)
Notice to borrower. A lender making a
high-cost home loan shall provide a notice
to a borrower in substantially the following
form:
If you obtain this high-cost home loan,
the lender will have a mortgage on your
home. You could lose your home and any
money you have put into it if you do not
meet your obligations under the loan.
Mortgage loan rates and closing costs and
fees vary based on many factors, includ-
ing your particular credit and financial
circumstances, your employment history,
the loan-to-value requested, and the type
of property that will secure your loan. The
loan rate and fees could also vary based
upon which lender or broker you select.
As a borrower, you should shop around
and compare loan rates and fees. You
should also consider consulting a quali-
fied independent credit counselor or other
experienced financial adviser regarding
the rates, fees, and provisions of this mort-
gage loan before you proceed. You should
contact the United States Department of
Housing and Urban Development for a
list of credit counselors available in your
area. You are not required to complete
this agreement merely because you have
received these disclosures or have signed
a loan application. Borrowing for the
purpose of debt consolidation can be an
appropriate financial management tool.
However, if you continue to incur sig-
nificant new credit card charges or other
debts after this high-cost home loan is
closed and then experience financial dif-
ficulties, you could lose your home and
any equity you have in it if you do not
meet your mortgage loan obligations.
Remember that property taxes and home-
owners’ insurance are your responsibility.
Not all lenders provide escrow services
for these payments. You should ask your
lender about these services. Also, your
payments on existing debts contribute to
your credit rating. You should not accept
any advice to ignore your regular pay-
ments to your existing creditors.
(b) Annual percentage rate

A lender making a high-cost home loan shall
disclose:
1.
In the case of a fixed mortgage, the
annual percentage rate and the amount
of the regular monthly payment.
2.
In the case of any other credit transac-
tion, the annual percentage rate, the
amount of the regular monthly payment
and the amount of any balloon payment
permitted under this section, a statement
that the interest rate and monthly pay-
ment may increase, and the amount of
the maximum monthly payment based
upon the maximum interest rate allowed
pursuant to law.

12 Module 1
(c) Notice to purchasers and assignees

All high-cost home loans shall contain the
following notice:
Notice: This is a mortgage subject to the
provisions of the Florida Fair Lending Act.
Purchasers and assignees of this mortgage
could be liable for all claims and defenses
with respect to the mortgage which the
borrower could assert against the creditor.
(2) Timing of Disclosure
(a)
The disclosure required by this subsection
shall be given not less than 3 business days
prior to the consummation of the high-cost
home loan.
(b)
New disclosures are required when, after
disclosure is made, the lender making the
high-cost home loan changes the terms of
the extension of credit, including if such
changes make the original disclosures inac-
curate, unless new disclosures are provided
that meet the requirements of this section.
(c)
A lender may provide new disclosures pur-
suant to paragraph (b) by telephone, if:
1.
The change is initiated by the borrower.
2.
At the consummation of the high-cost
home loan:
a.
The lender provides the disclosures in
writing to the borrower.
b.
The lender and the borrower cer-
tify in writing that the new disclosures
were provided by telephone no later
than 3 days prior to the consumma-
tion of the high-cost home loan.
(d)
A creditor must disclose to any high-cost
home loan borrower the rights of the bor-
rower to rescind the high-cost home loan
within 3 business days pursuant to 15 U.S.C.
s. 1635(a) and shall provide appropriate
forms for the borrower to exercise his or
her right to rescission. The notice, forms,
and provisions thereof must be in accor-
dance with the requirements of 15 U.S.C. s.
1635(a).
REGULATION OF THE FLORIDA FAIR
LENDING ACT
The Office of Financial Regulation and the Financial
Services Commission are responsible for the adminis-
tration and enforcement of The Florida Fair Lending
Act. Duties include investigations, examinations,
injunctions, and orders.
Powers and Duties of the Commission
and Office; Investigations; Examinations;
Injunctions; Orders
Chapter 494.00795, F.S. provides that the Commission
and Office are responsible for the administration and
enforcement of this act. The Commission may adopt
rules pursuant to ss. 120.536(1) and 120.54 to imple-
ment this act. The Commission may adopt rules to
allow electronic submission of any forms, documents,
or fees required by this act.
The Office:
may conduct an investigation of any person when-
ever the Office has reason to believe, upon com-
plaint or otherwise, that any violation of the act has
occurred.
any person having reason to believe that a provision
of this act has been violated may file a written com-
plaint with the Office setting forth the details of the
alleged violation.
may conduct examinations of any person to deter-
mine compliance with this act.
may bring action through its own counsel in the
name and on behalf of the state against any person
who has violated or is about to violate any provision
of this act or any rule or order issued under the act
to enjoin the person from continuing in or engag-
ing in any act in furtherance of the violation.
in any injunctive proceeding, the court may issue
a subpoena or subpoenas duces tecum, requiring the
attendance of any witnesses and the production of
any books, accounts, records, and other documents
and materials that appear necessary to the expedi-
tious resolution of the application for injunction.
may issue and serve upon any person an order to
cease and desist and to take corrective action when-
ever it has reason to believe the person is violating,
has violated, or is about to violate any provision
of this act, or any written agreement between the
person and the Office. All procedural matters relat-
ing to issuance and enforcement of such cease and
desist orders are governed by the Administrative
Procedure Act.
whenever the Office finds a person in violation of
this act, it may enter an order imposing a fine in
an amount not exceeding $5,000 for each count or
separate offense, provided that the aggregate fine
for all violations of this act that could have been
asserted at the time of the order imposing the fine
shall not exceed $500,000.
Any violation of this act shall also be deemed to be a
violation of Chapter 494, Chapter 516, Chapter 520,
Chapter 655, Chapter 657, Chapter 658, Chapter 660,
Chapter 663, Chapter 665, or Chapter 667. The com-
mission may adopt rules to enforce this subsection.
Enforcement of the Florida Fair Lending Act
Chapter 494.00796, F.S. provides:
•
•
•
•
•
•
•

(1)
Any person or the agent, officer, or other repre-
sentative of any person committing a material vio-
lation of the provisions of this act shall forfeit the
entire interest charged in the high-cost home loan
or contracted to be charged or received, and only
the principal sum of such high-cost home loan
can be enforced in any court in this state, either at
law or in equity.
(2)
A creditor in a home loan who, when acting in
good faith, fails to comply with the provisions of
this act shall not be deemed to have violated this
act if the creditor establishes that within 60 days
after receiving any notice from the borrower of
the compliance failure, which compliance failure
was not intentional and resulted from a bona fide
error notwithstanding the maintenance of proce-
dures reasonably adapted to avoid such errors, the
borrower has been notified of the compliance fail-
ure, appropriate restitution has been made to the
borrower, and appropriate adjustments are made
to the loan. Bona fide errors shall include, but not
be limited to, clerical, calculation, computer mal-
function and programming, and printing errors.
An error of legal judgment with respect to a per-
son’s obligations under this section is not a bona
fide error.
(3)
The remedies provided in this section are cumu-
lative.
CONCLUSION
In conclusion, it is important to be aware of current
rules and regulations governing the mortgage lend-
ing business and the extent to which they affect daily
practice. These rules and regulations apply to a wide
range of topics, including licensure requirements,
continuing education requirements, and penalties for
violations of the rules. The Department of Financial
Services is responsible for regulating the activities of
mortgage brokers, mortgage brokerage businesses,
mortgage lenders, and correspondent mortgage lend-
ers by the use of Florida Statutes and the Florida
Administrative Code and, when necessary, for impos-
ing penalties on licensees found to be in violation.
RESOURCES
To access any of the required forms, go to www.flofr.
com/licensing/MBlist.htm and select the appropri-
ate license type.
To access Chapter 494 online, go to
www.leg.state.fl.us/Statutes/index.cfm?App_
mode=Display_StatuteURL=Ch0494/titl0494.
htmStatuteYear=2006Title=-2006-
Chapter%20494
To access the Florida Administrative Code, Rules
69V-40, go to www.flofr.com/licensing/Rules
Statutes/Rule69V-40.htm

14 Module 1
Transfer your answers to the space provided on the Answer Sheet.
1. In Chapter 494, an individual, partnership, corporation, trust, or other organization that possesses the
power to direct the management or policies of a company is referred to as a:
a. joint venturer.
b. control person.
c. principal broker.
d. principal representative.
2. The most significant change to the Rules Regulation Mortgage Brokers by 2004 was the creation of
which new Chapters?
a. 40-69V F.A.C.
b. 96V-40 F.A.C.
c. 69V-40 F.A.C.
d. 3D-40 F.A.C.
3. Which of the following is not a relevant change to Chapter 494 that became effective October 1, 2006?
a. Elimination of the need to display individual, main and branch office licenses.
b. Provision that applications are not deemed received until all required fees are received and authorizes disci-
plinary action if fees are paid with a bad check.
c. Provision that grounds for no disciplinary action when action is taken by other federal and state regulatory
organizations located in or outside the State of Florida involving securities, insurance, real estate, and lending
activities.
d. Allows the Office to contract with a third party vendor to administer the mortgage broker test.
4. Which of the following is not a prohibited act per Chapter 494?
a. To act as a mortgage lender in this state without a current, active license issued by the Office pursuant to
494.006-494.0077, F.S.
b. To record a mortgage brokerage agreement or any other document, rendered by a court of competent jurisdic-
tion, which purports to enforce the terms of the mortgage brokerage agreement.
c. To pay a fee or commission in any mortgage loan transaction to any person or entity other than a mortgage
brokerage business, mortgage lender, or correspondent mortgage lender, operating under an active license, or
a person exempt from licensure under this chapter.
d. In any matter within the jurisdiction of the Office, to knowingly and willfully falsify, conceal, or cover up by a
trick, scheme, or device a material fact, make any false or fraudulent statement or representation, or make or
use any false writing or document, knowing the same to contain any false or fraudulent statement or entry.
5. Audited financial statements of lenders must be prepared according to:
a. U.S. generally accepted accounting principles.
b. U.S. generally accepted auditing principles.
c. U.S. generally accounted accepted principles.
d. audited financials are not required by lenders once licensed.
6. Electronic filing of applications, renewals, and fees can be done by:
a. mortgage brokers.
b. mortgage brokerage businesses.
c. mortgage lenders.
d. all of the above.
M O D U L E REVIE W E X ERCISES
Use the exercise questions to review the module material. The answers are found on the bottom of the next page.

Transfer your answers to the space provided on the Answer Sheet.
7. A person is presumed to control a company if, with respect to a particular company, that person:
a. is a director, general partner, or officer exercising executive responsibility or having similar status or functions.
b. directly or indirectly may vote 10 percent or more of a class of voting securities or sell or direct the sale of 10
percent or more of a class of voting securities.
c. in the case of a partnership, may receive upon dissolution or has contributed 10 percent or more of the capital.
d. any of the above.
ANSWERS:
1)
b
2)
c
3)
c
4)
b
5)
a
6)
d
7)
d

© 2007 Bert Rodgers Schools of Real Estate, Inc. 17
Learning Objectives
Credit Scores and
Credit Scoring
M O D U L E 2
1.
Define the terms credit score and credit

scoring.
2.
List the consumer’s rights under the Fair Credit
Reporting Act (FCRA) and the Fair and Accurate
Credit Transaction Act (FACT ACT).
3.
Discuss what counts in a credit score, what
can be done to raise a credit score, and how
to create one through the use of nontraditional
credit.
4.
List the entities that use credit scores as a tool
to evaluate a borrower’s credit worthiness and
how the credit score affects the terms offered.
INTRODUCTION
Making payments on time creates a solid credit rat-
ing, but it takes time to build. However, getting into
a bad credit situation can happen very quickly by pay-
ing accounts late or not at all. If one of the accounts
is a mortgage loan, the lender can foreclose on the
property to recover their loss, and the consumer will
no longer have a home.
Who Uses Credit Scores?
The 3 national consumer reporting companies sell
the information in the report to creditors, insurers,
employers, and other businesses that use it to evalu-
ate applications for credit, insurance, employment,
or renting a home. Since a credit report includes
information on where the applicant has lived, how
they pay their bills, and whether they have been sued,
arrested, or filed for bankruptcy, all types of creditors
pull credit reports and use credit scoring.
Mortgage lenders use credit scores to help them
evaluate a borrower’s request quickly and efficiently
through automated means. Higher scores normally
mean better interest rate and terms. In fact, the inter-
est rate offered is normally directly related to the
credit score.
Insurance companies use credit scores to determine
auto and home owner policy premiums. Car dealers,
furniture stores, cell phone service companies, credit
card companies, and landlords use credit scores.
CREDIT SCORES
When consumers apply for a mortgage loan today,
the lender is looking for a certain minimum credit
score to make an automated underwriting decision. A
credit score is determined by a complex mathematical
equation that evaluates the information contained in
a consumer’s credit file. Myfico.com defines a credit
score as:
…a number generated by a statistical model which is
used to objectively evaluate information that pertains to
making a credit decision.
Credit Bureaus
Equifax, Experían, and TransUnion, are national
credit reporting agencies that maintain credit reports
in the United States and work independently of each
other to gather information from businesses and
update consumer credit profiles. Each bureau has
a name for the score model they use. Experían uses
the FICO score, created by Fair Isaac and Company.
Equifax uses the Beacon score model. TransUnion
uses the Empirica score model.
Until 2005, the 3 major credit bureaus only provided
these scores to lenders. That changed when the Fair
and Accurate Credit and Transaction Act (FACT
ACT), effective September 1, 2005 allowed con-
sumers to receive once a year, upon request, a free
copy of their credit report. Consumers can always
receive a free copy of their credit report if they have
been denied credit due to information contained in a

18 Module 2
credit bureau within 60 days of being denied credit.
The Equal Credit Opportunity Act (ECOA) requires
that the creditor provide a notice disclosing the rea-
son the loan was rejected. The Fair Credit Reporting
Act (FRCA) requires the creditor to give the name,
address, and phone number of the consumer report-
ing company that supplied the information.

www.annualcreditreport.com
www.equifax.com
www.experian.com
www.transunion.com
Credit Scoring
This process of evaluating past credit performance
to predict future credit performance is called credit
scoring. Credit scores for mortgage purposes range
from 300 – 850. Higher credit scores are indicative of
better credit performance and lower scores indicative
of possible default in the future. Since it is based on
statistics and real data, it is more reliable than sub-
jective methods as it treats each subject objectively.
Under the ECOA, a credit scoring system may not
use race, sex, marital status, national origin, or reli-
gion as factors. The ECOA states that a person cannot
be denied credit or have credit terminated because of
their age. However, creditors are allowed to use age in
a properly designed system but must give equal weight
to elderly applicants.
Consumer Credit Rights
The federal FCRA promotes the accuracy, fairness,
and privacy of information in the files of consumer
reporting agencies. Consumer reporting agen-
cies include credit bureaus and specialty agencies.
Specialty agencies include agencies that sell informa-
tion about check writing histories, medical records,
and rental history records. Consumers’ rights under
the FCRA include:
Consumers must be told if information in their
credit file has been used against them.
Consumers have the right to know what is in their
file.
Consumers have the right to ask for a credit score.
Consumers have the right to dispute incomplete or
inaccurate information.
Consumer reporting agencies must correct or
delete inaccurate, incomplete, or unverifiable infor-
mation.
Consumer reporting agencies may not report out-
dated negative information.
Access to the file is limited to people with a valid
need.
Written signed disclosure by the consumer autho-
•
•
•
•
•
•
•
•
rizing disclosure for an employer to access the file
is required.
Consumers can limit prescreened offers by opting
out.
Consumers can seek damages from violators.
Identity theft victims and active duty military per-
sonnel have additional rights.
The Federal Trade Commission (FTC) handles
consumer complaints. Their contact information is
below:
Phone: (877) -FTC-HELP (382-4357)
Mail:
Federal Trade Commission
CRC-240
Washington, D.C. 20580

Online complaint form: https://rn.ftc.gov/
pls/dod/wsolcq$.startup?Z_ORG_CODE=
PU01
What Counts in a Credit Score?
When a credit score is provided, 4 reason codes are
also provided to explain the scoring decision. It also
gives insight on how the score may be improved.
Each bureau places different weight on different fac-
tors. Some look more heavily upon installment loans
and others on collections. If a credit report is used
in making a decision to accept or reject a mortgage
loan, then the customer must be provided a National
Credit Score Disclosure. The National Credit Score
Disclosure provides the reason codes that were used
most heavily in determining the score. See a sample
disclosure in Exhibit I.
FICO Score. According to FICO, a consumer’s
credit score is composed of 5 factors each weighted
differently.
1. 35% of the FICO score is determined by how the
consumer pays their credit accounts. Late pay-
ments, bankruptcies, and other negative items con-
tribute negatively to the score.
2. 30% of the FICO score is determined by how much
is owed on all outstanding accounts, the number of
accounts, and how much available credit is being
utilized. The more owed, the lower the score.
3. 15% of the FICO score is determined by the length
of the credit history. However a short credit history
with successful financial management will reflect
positively in the score.
4. 10% of the FICO score is determined by open-
ing new accounts. Too many inquiries that do not
result in the extension of credit will reflect nega-
tively in the score. Interest rate shopping should be
done in a short period of time to minimize lower-
ing the score.
•
•
•

Credit Scores and Credit Scoring 19
Exhibit I: National Credit Score Disclosure Form
Source: Calyx

20 Module 2
5. 10% of the FICO score comes from having a mix of
credit like credit cards, a mortgage, and an install-
ment loan.
This chart shows how the Fair Isaac Corp. values the
various parts of your credit management to determine
your credit score.
Figure 2.1 What Counts in a Credit Score?
Source: Fair Isaac Corp., www.myfico.com
How Can a Credit Score be Improved?
Credit scores change as new information is reported
in the consumer’s credit file. In order to improve the
score, a consumer should consider:
paying bills on time.
keeping balances low on credit cards in relation to
available credit.
paying down revolving debt.
applying for new credit only when necessary.
if any payments have been missed, get current and
stay current.
The credit file should be checked periodically to be
certain there are no errors and to help guard against
identity theft. If an identity thief opens an account in
your name and does not pay the bill, the bad credit
could be reported under your name. If any of the
information is incorrect, then under the FCRA, both
the consumer reporting agency and the creditor are
responsible for correcting inaccurate or incomplete
information. Once the consumer sends written proof
of the mistake to the credit reporting agency, the
agency has 30 days to investigate the information.
The credit reporting agency must delete the con-
tested information when the agency does not receive a
response from the creditor or if the creditor is out of
business and the information cannot be verified.
Under the FCRA, consumer reporting agencies must
correct or delete unverifiable, inaccurate, or incom-
plete information within 30 days of notification by the
consumer. Negative information or bad credit will be
reported for 7 years. Bankruptcies and judgments will
be reported for 10 years.
Borrowers who do not have traditional credit accounts
•
•
•
•
•
like a credit card, a car loan, or mortgage are consid-
ered unscoreable at the bureaus. Because of the lack of
traditional credit reporting, the model cannot provide
a numerical determination. These borrowers may be
placed into subprime loans with higher rates and fees
because the lender cannot determine the risk associ-
ated with lending to this borrower.
Pay Rent Build Credit
Pay Rent Build Credit, Inc. (PRBC) is a consumer
reporting agency that collects, stores, scores, and
reports bill payment data for permissible purposes
under the FCRA. Their website is devoted to help-
ing people develop credit scores based on alterna-
tive credit. Their philosophy advocates that Payment
Reporting Builds Credit.SM
It is the first credit bureau
to give consumers and small businesses the tools to
demonstrate their creditworthiness without the need
to go into debt (www.prbc.com ).
In addition to receiving payment data from creditors
and financial institutions’ bill payment services, PRBC
has partnered with the National Credit Reporting
Association to verify trade line accounts and up to
3 years worth of prior payments that are reported
directly by consumers to PRBC.
Lenders can purchase a PRBC ReportSM
depicting a
consumer’s bill payment history either on a stand-
alone basis, or merged with Equifax, Experían, and
TransUnion credit reports. Each report is accompa-
nied by a PRBC Bill Payment ScoreSM
(BPSSM
). PRBC
Reports and the BPS are used in the absence of, or
as a supplement to a traditional credit report, to gain
a more complete and accurate risk assessment of an
applicant. A PRBC Report may also be used as a
nontraditional mortgage credit report which exceeds
secondary market standards for documenting cred-
itworthiness. PRBC does not charge consumers or
small businesses a fee to enroll in the service or to view
their own payment data at any time. The main objec-
tive is to automate the mortgage application process
for hard-to-score borrowers so they may qualify for
better loan products and pricing.
VantageScoreSM
In 2006, the 3 national repositories introduced the
jointly developed new credit score, VantageScoreSM
designed to simplify and enhance the credit process for
both consumers and credit grantors. VantageScoreSM
can provide consumers and businesses with a highly
predictive, consistent score that is easy to understand.
Scores range from 501 to 990. with higher scores
indicative of lower risk. A type of report card has been
created with grades A to F.

Credit Scores and Credit Scoring 21
A = 901 – 990
B = 801 – 900
C = 701 – 800
D = 601 – 700
F = 501 – 600
VantageScoreSM
is able to more effectively provide
predictive scores on thin-file consumers—those with
little consumer credit—which is useful in risk man-
agement.
The VantageScoreSM
is determined by:
Payment history 32%: Have you consistently paid
your accounts in a timely manner?
Utilization 23%: How much of the total credit
available to you are you currently using?
Balances 15%: What is the total of your current
and delinquent account balances?
Depth of credit 13%: How long is your credit his-
tory and do you have a mix of credit types?
Recent credit 10%: How many recently opened
credit accounts and credit inquiries do you have?
Available credit 7%: What is the total amount of
credit to which you currently have access?
Figure 2.2 Determining Your VantageScoreSM
Source: www.vantagescore.com/consumerinfo.html
PRESCREENING FOR MORTGAGE
PRODUCTS SOLICITATION
Prescreening is a tool used by institutions to solicit
pre-identified, potential customers for mortgage
products. The 3 national repositories compile lists of
new customers, sometimes called a trigger list, based
on specific criteria provided by the institution. Once
someone’s credit has been pulled, an inquiry appears.
Then, the bureau knows that the customer might be
looking for a mortgage. This trigger, or customer’s
name, is then sold to the institution be it a mortgage
broker, lender, or lead generation company. The insti-
tution then sends the customer a prescreened offer.
Although prescreening is allowed under the FCRA,
there is some concern about lead generation compa-
•
•
•
•
•
•
nies obtaining credit profiles. The intention of pre-
screening is supposed to be able to offer a firm offer
of credit. But, just having a credit score is not enough
to obtain a mortgage other factors to be considered
include income and property acceptability. Therefore,
lead generation companies cannot make offers of
credit and may contribute to identity theft if the credit
profiles wind up in the wrong hands.
Conclusion
Using credit wisely can enrich the consumer giv-
ing him or her more buying power at lower interest
rates, and having more offers of credit extended. For
those who do not pay their bills on time and have
negative items reported on their credit report, financ-
ing becomes increasingly more difficult. Just like in
school, good grades count. The better your grades,
the better your job opportunities. A higher credit
score brings better offers and terms.
RESOURCES
The Consumer Division of Fair Isaac
www.myfico.com
Order your free credit report from all three bureaus
each year at www.annualcreditreport.com
Equifax
www.equifax.com
1-800-685-1111
Experían
www.experian.com
888-397-3742
TransUnion
www.transunion.com
1-800-916-8800
Federal Trade Commission’s Consumer Complaint
Forms https://rn.ftc.gov/pls/dod/wsolcq$.startup?
Z_ORG_CODE=PU01
Help consumers develop credit scores based on alter-
native credit www.prbc.com
Obtain a tri-bureau generic credit scoring system
www.vantagescore.com/consumerinfo.html
The Federal Trade Commission (FTC) handles
consumer complaints. Their contact information is
below:
Phone: (877) -FTC-HELP (382-4357)
Mail:
Federal Trade Commission
CRC-240
Washington, D.C. 20580
Pay Rent Build Credit, Inc. (PRBC)
www.prbc.com
Calyx Software www.calyxsupport.com

22 Module 2
True or False
1. The best way to get a free copy of your credit report is to file a request with the FTC. T F
2. According to the FACT ACT, consumers are allowed to receive a free credit report once per year. T F
3. According to FICO, payment history is the most heavily weighted category in determining
a credit score. T F
4. According to VantageScoreSM
the most heavily weighted category that determines a
credit score is credit utilization. T F
5. Paying bills on time and keeping the balances low on credit cards contribute positively
to credit scores. T F
6. The 3 national credit reporting agencies compile trigger lists. T F
7. The Equal Credit Opportunity Act states an applicant can be denied credit based on age. T F
Multiple-Choice
1. __________ promotes the accuracy, fairness, and privacy of information in the files of consumer reporting
agencies.
a. ECOA
b. FCRA
c. FACT ACT
d. TILA
2. The process of evaluating past credit performance to predict future credit performance is called:
a. credit scaring.
b. credit rating.
c. credit scoring.
d. credit evaluation.
3. Consumers who have thin credit files can now build a credit profile and have a credit score developed by
which company?
a. Pay Rent Build Highway
b. Pay Rent Build Credit
c. Pick Rates Buy Cars
d. Pick Rates Better Credit
4. Which of the following creditors use credit scores?
a. mortgage lenders
b. cell phone providers
c. landlords
d. all of the above
5. Per the Fair Credit Reporting Act (FCRA), a credit bureau has _____ days to investigate an inquiry of
inaccurate or incomplete information.
a. 10
b. 15
c. 30
d. 60
ANSWERS:
True
or
False:
1)
F
2)
T
3)T
4)
F
5)
T
6)
T
7)
F
Multiple
Choice:
1)
b
2)
c
3)
b
4)
d
5)
c
M O D U L E REVIE W E X ERCISES
Use the exercise questions to review the module material. The answers are found on the bottom of the page.

© 2007 Bert Rodgers Schools of Real Estate, Inc. 23
Learning Objectives
Exotic and Nontraditional
Mortgages
M O D U L E 3
1. Define each of the terms in the glossary.
2.
Discuss the history of how these loans have
evolved.
3.
Identify the type of borrowers these products
should be marketed to.
4.
Explain why these products are often costly
and complex.
GLOSSARY AND ACRONYMS
1st adjustment cap: The percentage the interest rate
will change after its initial fixed period.
Adjustable rate mortgage (ARM): A mortgage in
which the interest rate is not fixed and is adjusted
periodically based on a predetermined index. This
results in changes to the monthly payment amount,
the outstanding mortgage balance, and/or the mort-
gage term.
Adjustment period: The number of months the
interest rate is fixed between each interest rate adjust-
ment for an adjustable rate mortgage.
Amortization: Repayment of a mortgage in periodic
installments of principal and interest that will pay off
the mortgage at the end of the mortgage term.
Deferred interest: The dollar amount that is added
to the original amount borrowed because the monthly
mortgage payment is insufficient to cover the inter-
est costs. This is a common feature in pay-option
ARM’s.
Equity: The difference between the property’s value
and the owner’s indebtedness.
Index: A rate set by market forces and published by a
neutral third party. The index fluctuates up and down
due to market factors. Lenders use the index to deter-
mine the interest rate on an adjustable rate mortgage
by adding it to the margin. Some examples of indexes
are the prime lending rate, 1-, 3-, or 5- year U.S.
Treasury security yields (CMT), the London Inter
Bank Offering Rate (LIBOR), Certificate of Savings
Index (COSI), 11th District Cost of Funds Index
(COFI), and 12-Month Treasury Average (MTA).
Indexed rate: The lender uses the published rate of
the index and adds it to a fixed margin to determine the
current interest rate on an adjustable rate mortgage.
Initial fixed period: The number of months the loan
will be fixed at the initial interest rate.
Interest-only mortgage (I/O): A mortgage where
the monthly payment does not include any repay-
ment of principal for a predetermined, fixed period
of time. The payment consists of interest only. The
payment can be fixed for the interest-only period or
the payment can adjust (increase) during the interest-
only period. During the interest-only period, the loan
balance remains unchanged.
Life cap: The maximum percentage that the initial
interest rate can increase or decrease during the life
of the loan.
Margin: The amount a lender adds to the index
on an adjustable rate mortgage to establish the new
adjusted interest rate. The margin when added to the
index equals the fully indexed note rate.
Negative amortization: When the monthly mort-
gage payments do not cover all of the interest. The
interest portion that is not covered is added to the
principal balance. The borrower owes more than
originally borrowed.
Nontraditional mortgage: A mortgage where the
borrower pays only the mortgage loan interest or
possibly an even lesser amount of the interest that
is due each month resulting in deferred interest and
negative amortization.

24 Module 3
Payment cap: The maximum percentage that the
interest rate can increase or decrease for each adjust-
ment period. Normally, it is 7.5% more than the
previous month’s payment. This keeps the payment
artificially lower than interest rate caps which limit
how high or low the interest rate can adjust.
Pay-option adjustable rate mortgage (pay-option
ARM): An adjustable rate mortgage with the flex-
ibility of making several different monthly mortgage
payments each month based on the borrower’s cash
flow. The borrower can pay the minimum payment,
the interest only payment, or the fully amortized note
rate payment.
Prepayment penalty: A charge the lender makes
when a mortgage is repaid before a certain period of
time elapses or when the borrower repays a certain
additional amount of principal before a certain period
of time elapses. With soft prepayment penalties, if
the borrower sells the home during the prepayment
period, then no penalty is assessed but if the borrower
refinances, a penalty is assessed. With hard prepay-
ment penalties, whether the house is sold or refinanced
during the penalty period, a penalty will be assessed.
The penalty also applies if the borrower repays more
than 20% of the principal in any 12-month period.
Principal: The amount of money borrowed or the
outstanding balance of a loan, not including interest.
The portion of the monthly payment that is used to
reduce the loan balance.
Recast: Increasing the monthly mortgage payment to
be computed on the fully indexed rate when the loan
balance reaches the maximum negative amortization.
The loan can be re-amortized several times through-
out the term. As this occurs, the increased monthly
payment overrides the monthly amount set by the
payment cap.
Traditional mortgage: Mortgages that require the
borrower to repay part of the principal, in addition to
paying interest on the money borrowed.
INTEREST-ONLY AND PAY-OPTION
ADJUSTABLE RATE MORTGAGES
Interest-Only Mortgage
Normal home appreciation is around 6% per year.
However, the past few years have seen appreciation at
20% levels or higher but incomes have not kept pace.
Interest-only mortgages (I/O) help people purchase
their first home because of the lower initial monthly
payment of interest only that allows consumers to
qualify with a lower monthly payment. I/O’s are for
borrowers who want a lower initial monthly pay-
ment, and have great confidence that they will be able
to make larger payments in the future when the I/O
period expires.
The I/O payment is normally fixed for a period of time
lasting anywhere from the first 3 years to 10 years.
After the fixed interest-only period, the monthly pay-
ment will increase even when the interest rate is fixed
for the life of the loan. For example, if the mortgage
is a 30-year fixed rate at 6.25% with interest only for
the first 10 years of the mortgage, then the borrower’s
monthly payment will be lower in the first 10 years
and increase in years 11–30. If the borrower pays
$200,000 for the home and puts $10,000 down, or a
5% down payment, then $190,000 will be financed.
The monthly mortgage payment in years 1–10 will
be $989.58 ($190,000 x 6.25% ÷ 12). At the end of
10 years, the borrower still owes the same $190,000
they borrowed. Then, for the remaining term of the
mortgage, the borrower’s monthly payment will be
increased to $1,388.76 so the mortgage will be paid
in full (principal and interest) at the end of 30 years.
See Table 3.1
Table 3.1: Payment Schedule for
10 Years Interest Only, 30 Years Fixed
# of
payments
Interest
rate
Monthly
payment
Mortgage
balance
120 6.25% $989.58 $190,000
240 6.25% $1,388.76 $0.00
Adjustable Rate Mortgage (ARM)
Let’s say that the interest rate in the above example
was not fixed but was a 5/1 adjustable rate mortgage
(ARM) with 5 years of interest only. With an ARM,
the interest rate fluctuates according to a predeter-
mined index plus basis points, called a margin. A
basis point is 1/100th of 1%. A standard margin is
275 basis points or 2.75%. The higher the margin is,
the greater the yield to the lender. The new interest
rate at adjustment is the current index plus the mar-
gin. For example, if the index is 5% and the margin
is 2.75%, then the new indexed rate is the sum of 5%
and 2.75% which equals 7.75%. Lenders use different
indexes to base the adjustments to the interest rate.
Some indexes move more slowly than others.
Some of the more common indexes used with these
products are the Prime Lending Rate, the London
Inter Bank Offering Rate (LIBOR), the Cost of Savings
Index (COSI), the Cost of Funds Index (COFI), and
the 12- Month Treasury Average (MTA). The MTA
is a relatively new index and is the 12-month average
of the monthly average yields of U.S. Treasury securi-
ties. The current rate of these indexes can be found
in the business section of the local newspaper, in the
Wall Street Journal, or online at www.wsj.com.

Exotic and Nontraditional Mortgages 25
Most ARMs have interest rate caps per adjustment
and life of loan caps. A cap limits the increase or
decrease per adjustment. For example, the standard
5/1 LIBOR ARM has 2/6 caps, meaning the inter-
est rate cannot increase or decrease more than 2%
per adjustment and no more than 6% for the life of
the loan. The 5/1 LIBOR ARM is fixed for the first 5
years of the loan and then adjusts once annually based
on the then going LIBOR index added to the fixed
margin that was determined at the onset of the mort-
gage. See Table 3.2, which assumes the worst case sce-
nario in the interest rate adjusting.
Some indexes move slower than others. A faster mov-
ing index will result in a higher payment at adjustment
time. Table 3.3 shows the interest rate comparison of
the different indexes used.
Traditional vs Nontraditional Mortgages
With traditional mortgages the borrower’s payment
includes principal and interest and at the end of the
loan term, the loan will be paid off or extinguished.
These are considered fully amortizing loans. Lenders
have put a spin on different amortization types and
have caused some confusion with detrimental conse-
quences for unsophisticated borrowers. Even some
mortgage brokers/originators do not fully understand
the product they are marketing. They know the lower
monthly payment helps them qualify more borrowers
for more loans, which translates into a higher income
for the mortgage broker/originator. For example, if
the borrower chose a 30-year fixed rate mortgage at
6.25%, then their monthly mortgage payment would
be $1,170.40 for all 360 payments (12 payments per
year x 30 years = 360 payments). The monthly pay-
ment can be calculated by using a financial calculator,
and can also be done online at www.fool.com/calcs/
calculators.htm or www.bankrate.com or by multi-
plying the loan amount by a numeric factor that pays
the loan off at the end of 30 years ($190,000 x 6.16
{30 year factor}). See Table 3.4. A fixed rate mortgage
is the best product for someone who wants certainty
in their payment or is on a fixed income, like a retired
borrower.
Nontraditional mortgages are normally ARM’s
paired with amortization, without amortization (I/O),
and with negative amortization. They allow borrowers
different amortization and different payment options.
A payment option adjustable rate mortgage (pay-
option ARM) is based on the MTA index and will
require the borrower’s first 3 months of payments to
be at a low, fixed rate or just for the first month at
a low, fixed rate. Then in the fourth month (if fixed
Table 3.2: Payment Schedule for 5 Years of Interest Only, 5/1 LIBOR Arm Index,
Start Rate = 6.00%, Margin = 2.75%
# of payments Interest rate Monthly
payment
Mortgage
balance
1st adjustment
cap
2.00%
60 6.00% $ 950.00 $ 190,000 1st change 60 months
12 8.00% $1,466.45 $187,512.70 Adjustment cap 2.00%
12 10.00% $1,720.22 $185,532.20 Adjustment
period
12 months
275 12% $1,982.53 $ 1,966.24 Life Cap 6.00%
1 12% $1,985.90 $ 0.00
Table 3.3: Comparison of Common Indexes
from Today, a Month Ago, And A Year Ago
Index Today as of
2/26/07
1 month
ago
1 year ago
1 year CMT 5.05% 5.06% 4.74%
3 year CMT 4.73% 4.79% 4.71%
5 year CMT 4.69% 4.75% 4.66%
6 month
LIBOR
5.39% 5.39% 4.94%
Prime lending
rate
8.25% 8.25% 7.50%
11th District
COFI
4.396% 4.396% 3.624%
12-MTA 4.983% 4.983% 4.011%
Table 3.4: PAYMENT SCHEDULE FOR 30 YEAR
FIXED RATE AT 6.25%
# of
Payments
Interest
Rate
Monthly
Payment
Mortgage
Balance
360 6.25% $1,170.40 $0.00

26 Module 3
Table 3.6: Partial Amortization Schedule through year 12 for Option 2
Year Total Payments Principal Paid Interest Paid
Ending Principal
Balance
$190,000.00
1 $14,724.96 $0.00 $14,724.96 $190,000.00
2 $14,724.96 $0.00 $14,724.96 $190,000.00
3 $14,724.96 $0.00 $14,724.96 $190,000.00
4 $14,724.96 $0.00 $14,724.96 $190,000.00
5 $14,724.96 $0.00 $14,724.96 $190,000.00
6 $14,724.96 $0.00 $14,724.96 $190,000.00
7 $14,724.96 $0.00 $14,724.96 $190,000.00
8 $14,724.96 $0.00 $14,724.96 $190,000.00
9 $14,724.96 $0.00 $14,724.96 $190,000.00
10 $14,724.96 $0.00 $14,724.96 $190,000.00
11 $18,717.60 $4,137.52 $14,580.08 $185,862.48
12 $18,717.60 $4,469.82 $14,247.78 $181,392.66
$190,000.00 x 7.1523 (30 year factor for 7.75%) = $1358.95 (loan amount times factor equals monthly payment
that will pay off the amount borrowed plus interest at the end of the term)
Notice how the balance owed does not decrease until year 11. This is just an example through year 12. Also,
notice that $14,724.96 ÷ 12 = $1227.08
for first 3 months) or the second month (if fixed for
only first month), the borrower can choose to make
different payment arrangements. The borrower has 3
options.
Option 1. Pay the principal and interest due that will
pay off the loan at the end of the term being 15, 30, or
40 years. This is considered a traditional mortgage pay-
ment where the principal balance decreases each month
after making a payment. Also called amortization.
Option 2. An interest-only (I/O) payment. This pay-
ment arrangement does not decrease the amount
owed but does allow the borrower to make a lower
monthly payment.
The interest only payment is calculated by multiplying
the mortgage amount by the fully amortizing interest
rate and dividing by 12. The minimum monthly pay-
ment is normally .55 multiplied by the fully amortiz-
ing payment or the payment is computed by using 3%
less than the fully amortizing note rate to determine
the payment.
Option 3. Pay a minimum payment which is less than
the amount of interest due for the month and does
not reduce the amount borrowed and the difference
will be added to the amount borrowed increasing the
principal balance and causing negative amortization.
Payment caps contribute to keeping the payment low,
adding more deferred interest to the amount owed.
Example: In our same illustration of financing
$190,000, the borrower chooses a one-month MTA
pay-option ARM with an introductory rate of 1%
and margin of 2.75%. The borrower chooses option
3 from above to make a minimum payment for the
first 12 months. The minimum payment is calculated
by amortizing the loan over 30 years at the start rate
and loan amount. The minimum monthly payment
would be only $611.12. The I/O payment would be
$1,227.08, which is calculated on the fully amortizing
note rate of 7.75%. The 30-year fully amortizing pay-
ment would be $1,358.95. See Table 3.5.
Table 3.5: Payment Options for Pay-option Arm
Minimum payment $611.12
OPTION CHOSEN
I/O payment $1,227.08
30 year fully amortizing
payment
$1,358.95
The monthly payment of $611.12 is computed by
amortizing the amount borrowed over the loan term
at the initial interest rate. The payment takes into
account the current index of the MTA and the fixed
margin of 2.75%. Assume that the MTA index is
4.98% in our example.
$190,000.00 x 7.75% ÷ 12 = $1227.08 (loan amount
times interest rate divided by 12 to determine monthly
interest portion). If the interest only period is for 10
years, then the amount borrowed remains the amount
owed for 10 years. See Table 3.6.

Exotic and Nontraditional Mortgages 27
The payment of $1,227.08 is fixed for 10 years while
your mortgage payments are interest only. After 10
years of interest only payments, your monthly payment
will increase to $1,559.80. This will pay off the loan
balance in full after a total of 30 years. See Table 3.7.
The worst-case scenario making minimum payments
with a monthly payment cap increase of 7.5% per year
is shown in Table 3.8.
Table 3.8: Making Minimum Payments
Worst-Case Scenario
Monthly Payment
Balance
owed
Year 1= $611.12 $197,500.00
Year 2= $656.95 = ($611.12 x 7.50%) $204,341.56
Year 3= $706.23 = ($656.95 x 7.50%) $209,000.00
Year 4= $759.19 = ($706.23 x 7.50%) $209,000.00
Year 5= $816.13 = ($759.19 x 7.50%) $209,000.00
During the first year of the mortgage, $615.96 per
month is the amount of negative amortization that
gets added to the principal balance. $615.96 is the dif-
ference between the I/O payment and the minimum
payment. $1,227.08 - $611.12 = $615.96. So, at the
end of the first year, the borrower’s principal unpaid
balance would be more than $197,500! With every
successive year of making only minimum monthly
payments, the principal unpaid balance goes up even
higher until the maximum limit specified in the mort-
gage. If it was 110%, then once the principal unpaid
balance reaches $209,000 ($190,000 x 110%), the
mortgage must be recast, that is re-amortized, and
the customer’s monthly payment will be increased to
be able to pay off the loan at the end of the term. This
increased payment can be higher than the payment
caps allow. This normally happens in increments
of every 5 years. If the borrower defers payment of
interest, then the outstanding mortgage amount
could exceed the value of the borrower’s home. This
may affect their ability to refinance their loan or sell
their home since they will owe more than what the
home is worth. This is exactly what the current real
estate market is experiencing this year. Home values
have remained flat and in some areas actually have
decreased. A borrower who took out a loan like this
who wants to sell right now might find that he or she
needs to bring money to the closing, depending upon
how much negative amortization has accrued.
Selling a Home with a Loss of Equity
In the previous example, at the end of the first year the
borrower now owes more than $197,500 and decides
he wants to sell. However, values have gone down and
the home is now only worth $195,000, although he
paid $200,000. He has stripped himself of his equity.
Equity is the difference between the indebtedness
on the property and what it is worth. With closing
costs and payment of a real estate sales commission,
this borrower would need over $10,000 to get it sold.
Borrowers who take out these types of loans are bank-
ing on the fact that they will be making more money
in the future and the home will appreciate in value,
thereby counteracting the amount of the negative
amortization that has accrued. If one or both of these
situations does not occur, the borrower will be in seri-
ous trouble if he or she can not make the monthly
payment. The home could be lost in foreclosure.
Also, these loans may come with 1, 2 or 3, year prepay-
ment penalties. A prepayment penalty is an additional
fee the lender charges if the loan is paid off or refi-
nanced within a predetermined period of time from
the loan’s inception. The penalty is sometimes equal
to 6 months of interest payments. In this example, the
penalty would equal $7,362.48 ($1227.08 x 6).
Note that in the examples above, the loan with the
Table 3.7: Interest Only Mortgage Summary for Option 2
Payments
120 monthly payments of $1,227.08
240 monthly payments of $1,559.80
Loan amount $190,000.00
Interest rate 7.750%
Interest only term 10 years
Total Term (Including interest only period) 30 years
Total payments $520,041.80
Total interest paid $331,602.81

28 Module 3
least amount of interest paid is the 30-year fixed rate
mortgage at 6.25%. See Table 3.9.
Table 3.9: Interest Cost Comparison of 30 Year
Fixed Rate 10 Year I/O
Monthly
payment
Interest paid
over life of
loan
Total paid over
life of loan
$1,170.40 $231,344.00 $421,344.00 30 yr fix
$989.58
(1st 10 yrs)
$262.052.00 $452,052.00 10 years
I/O
$1,170.40 x 360 =
$421,344 (total paid over life of loan)
- 190,000 (original loan amount)
$231,344 (interest paid)
10 year interest only 30 year fixed at 6.25%
$989.58 x 120 =
$118,749.60 (interest)
$1,388.76 x 240 =
$333,302.40 (principal and interest)
$190,000.00 (original loan amount)
$143,302.40 (interest)
$118,749.60 + $143,302.40 = $262,052.
There is $30,708 ($262,052.10 - $231,344) more paid
in interest charges when the borrower chooses the 10
year interest only option. If the borrower has the pay-
option ARM, then the additional interest costs are
even higher. We saw that with the negative amorti-
zation loan that allows for 110% negative amortiza-
tion. At the end of just 5 years, someone who borrows
$190,000 already owes over $209,000.
The Federal Reserve Board has prepared a pamphlet
entitled Interest-Only Mortgage Payments and Payment-
Option ARMs-Are They for You? There is a lot of infor-
mation on these products and what to ask about and
what to beware of. It is a great tool for you to pro-
vide your customers to help them better understand
these products. There is a mortgage shopping work-
sheet that can be used to compare products for your
customers. The pamphlet and the worksheet can be
downloaded in PDF format at

www.federalreserve.gov/pubs/mortgage_
interestonly/default.htm
Other brochures to help consumers include: Specialty
(Nontraditional) Mortgages: What Are the Risks and
Advantages?; and Traditional Mortgages: Understanding
Your Options. They can be downloaded at the follow-
ing site:

www.realtor.org/housopp.nsf/pages/
mortgages?OpenDocument
WHO SHOULD APPLY FOR AN INTEREST
ONLY MORTGAGE AND A PAY-OPTION
ARM?
Although these loans are risky to the unsophisticated
borrower, they can be marketed to the following types
of borrowers. Individuals:
whose income will increase in the future. Examples
include a doctor or lawyer who just finished school
and is still paying off student loans but in the future
their incomes should go up considerably, allow-
ing them to devote more of their income to an
increased mortgage payment.
who have a lot of equity in their home now and can
use the difference in the payment they are not mak-
ing to apply to another investment.
who are paid irregularly either through commis-
sions or seasonal earnings. They can devote more
of their earnings to the payment in higher-income
producing months or pay only the minimum in
lower-income producing months.
WHO SHOULD NOT APPLY FOR AN
INTEREST ONLY MORTGAGE OR A PAY-
OPTION ARM?
Borrowers who are not careful could wind up in a bad
financial situation in the later years of their life. The
following should not apply for these types of prod-
ucts. Individuals:
who will not be able to make increased payments in
the future. An example would be someone who will
be retiring in the next 10 years. Their income will
become fixed at a lower amount and they will not
be able to afford higher payments.
in a situation where the value of the home will not
keep pace with the escalating unpaid principal bal-
ance due to negative amortization caused by mak-
ing minimum monthly payments.
WHY ARE THESE LOANS COSTLY AND
COMPLEX?
We saw with the standard 30-year fixed rate mortgage
that the borrower pays back a little over the amount
borrowed at the end of the term. With the pay-option
ARM, the borrower owes more than 110% of what
was borrowed plus interest in just 5 years by making
the minimum monthly payment. Many borrowers do
not realize that by paying interest only, the balance on
the mortgage does not decrease or increase. The only
way the borrower may gain any equity in the home is
when values in the neighborhood appreciate.
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14 Hour Mortgage Broker 2007

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