One of the most common myths in the mortgage world is an oft-misunderstood aspect of refinancing when it comes to the first payment date of a newly originated/refinanced loan.  Many times consumers and loan officers alike are confused by the timeline of having one loan paid off and payments begin to take place on a new loan.  Due to this misunderstanding, the term “skipping a payment” or “skipping 2 payments” is often tossed around without any real explanation or understanding of how “skipping” a payment works.

The easiest place to start to understand how the process works is to understand that mortgage interest, unlike a lot of other types of financial interest, is paid in arrears.  That means that when a payment is made on a mortgage loan, the interest portion of the payment is actually the interest due for the month before the payment is made.  For example, a May mortgage payment includes a portion of principal, plus the interest accrued for April, the month prior to the payment due date.
In addition to interest being paid in arrears, the other piece to the puzzle is in the form of “per diem” interest that shows up on a borrower’s closing disclosure (CD).  On the CD, per diem interest is charged from the date a new loan funds through the end of that current month.  For example, if a new loan funds on the 15th of a 30 day month, one of the charges on the CD will be 15 days worth of interest.
Now let’s look at an example of calendar days, closing days, and how that magic “skipped” month happens.  We’ll use a loan closing June 15th as an example.  A loan funding June 15th will have a first payment due date of August 1.  Since there’s no payment in July, you skip a month, right?!  Not quite.  On the closing statement, per diem interest will be collected from June 15th through the end of the month.  On August 1, the payment made will cover interest for the entire month of July, since mortgage interest is paid in arrears.

In some instances, “you can skip 2 payments!” is pitched as a benefit of a refinance.  In reality, this is never the case.  This is typically done by closing a loan early in a month.  We’ll stick to our example of a refinance loan closing in June.  If a customer doesn’t pay their current lender for June’s payment, and we refinance their loan with a first payment date of August, technically no monthly payment is made for June OR July.  But does that mean 2 payments are “skipped”?  Not really.  Take our previous example into consideration, and we already know that July’s interest is paid with the August 1st payment.  The remainder of June’s interest is paid in “per diem” interest at closing, and the “extra month” is really just interest added to the current lender’s payoff – or in this case, just being transferred to the new loan.

So when it comes to “skipping payments”, refinancing doesn’t ever accomplish that.   That said, borrower’s do not have to physically make monthly payments the month following signing closing documents, but it’s important to remember that the interest is always paid one way or another.  All of the interest on the loan being refinanced is wrapped into the payoff and closing figures on the new loan, and the new loans interest is paid in full beginning with per diem interest on the closing documents, and continuing to be paid with payment #1.

This mortgage myth is one of the more complex issues, and for that reason, consumers AND many mortgage professionals are often confused when discussing “skipping payments”.  The correct wording to use for what’s really happening is “deferring interest” or “including more interest in a payoff”.   So the next time you see someone advertising or telling you you can “skip a payment!”, rest assured you know better – and then make the decision on when to close your refinance loan based on reality.

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The 2 biggest factors that go into mortgage rates are equity and credit scores.  For conventional loans especially, rates are largely driven by how much home equity your mortgage loan is tapping into.  Higher LTV loans (loans using a lot of home equity) tend to have higher rates than lower LTV loans.  Other aspects of equity come into play as well.  Have a 2nd mortgage?  Conventional mortgage loans have rate adjustments for that.  Using that home equity to take cash out of your home rather than just seeking out a reduced rate?  You guessed it – rate adjustments!

Many factors determine mortgage rates, but there are some things that can put you in the best position to get a great rate

On top of the amount of equity used, credit scores play a huge factor in many loan products, especially conventional loans.  A rate for a borrower with a 620 FICO score can be vastly different than a borrower with an 820 FICO, even with all other loan details being equal.  The highest rates for conventional products tend to be for borrowers seeking high LTV loans with low FICO scores.  The best rates tend to be offered to high FICO scores with large down payments or large amounts of equity.

On top of those 2 factors, there are various other things that determine rate – borrowers seeking alternative (nonQM) loans like bank statement products or investment property products that qualify on debt-service of a property will generally see higher rates.

Government loans (FHA, VA, USDA) are great programs that can offer competitive rates that are not as sensitive to LTV and rate.  While rates will vary depending on credit score, they don’t vary as much because many of the rate adjustments present on conventional loans do not exist in government lending.  So for someone with less than perfect credit, this type of loan product may still offer an extremely competitive rate.

Rates vary substantially from lender to lender and borrower to borrower, but in general – better credit, larger down payments, government loans (VA mortgage loans usually offer extremely competitive rates), and full doc (income derived from W2s and paystubs instead of alternative documentation) loans tend to offer the best rate.

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