Mortgage Rate Lock-In Can Shelter You From a Surprise at Settlement -- But Get It in Writing

By Benny L. Kass
Saturday, April 15, 2006

Q: We signed a contract to purchase our first home last week, and settlement is scheduled for mid-May. Before the contract was signed, we shopped around for the best mortgage. After the real estate contract was signed, we immediately contacted the lender we had selected and made a formal application. The lender asked us if we want to lock in the interest rate.

This is our first house , and we have absolutely no understanding of the way the mortgage market works, so we did not understand his question. However, he explained that if we lock in by signing a document called a "loan lock-in," the rate the lender quoted would be guaranteed as long as settlement takes place by the time specified in the sales contract. We know that interest rates are on the rise. Will this lock-in document protect us?

AA lock-in agreement will be your best protection, but all terms and conditions must be spelled out clearly and the document must be in writing.

In the past few years, mortgage interest rates have been at their all-time low. So potential borrowers were satisfied with their under-6 percent rates. But now that rates are on the rise, potential home buyers want absolute certainty that the loan they have arranged will in fact be available on the day of closing. I believe that we have seen the last of the under-6 percent loan rates, at least for the foreseeable future. Thus, the concept of locking in your mortgage interest rate becomes important.

You are concerned that your lender will honor its commitment to you. This is understandable. Even if you can afford a higher-rate loan, you may now have a double problem: I strongly suspect that because property values have dramatically escalated in the past few years, you probably agreed to pay a high price for your house and a higher mortgage rate will mean an even larger monthly payment.

The suggestion to lock in your rate is a good one. It means that you will have a binding, legal commitment from your mortgage lender that for a fixed time (usually 30 or 60 days from the time of application), you will obtain the rate that has been promised by your lender.

The Federal Reserve Board has a helpful publication entitled, "A Consumer's Guide to Mortgage Lock-Ins." It's available on the Web at http://www.federalreserve.gov/pubs/lockins/default.htm , or by calling 202-452-3245.

That publication says: "A lock-in, also called a rate-lock or rate commitment, is a lender's promise to hold a certain interest rate and a certain number of points for you, usually for a specified period of time, while your loan application is processed. . . . A lock-in that is given when you apply for a loan may be useful because it's likely to take your lender several weeks or longer to prepare, document, and evaluate your loan application. During that time, the cost of mortgages may change. But if your interest rate and points are locked-in, you should be protected against increases while your application is processed. . . . It is important to recognize that a lock-in is not the same as a loan commitment, although some loan commitments may contain a lock-in."

It is important that you get a written document spelling out the terms and conditions of your lock-in commitment. How long is the lock-in for? What rate have you locked in? Will an authorized representative of the loan company sign that document? Do you have to pay any money to get this lock? There have been lenders who charge a fee for a rate lock, although some lenders will credit the money back when you go to settlement.

If the lender is unwilling to give you a written statement, you should consider looking for another lender. Even if a judge will allow you to introduce the oral commitment in any lawsuit you may file against the errant lender, litigation is time-consuming, expensive and -- more important -- uncertain. You want to go to closing and move into your new home.

Although there is some disagreement among lawyers who represent the mortgage industry, it is my opinion that a lender who locks in a rate and then is unable or unwilling to meet that deadline may be in breach of contract.

I say that because the lock-in transaction meets the definition of a legally binding contract, which requires three elements: an offer, acceptance and consideration.

In your case, your lender has offered you a locked-in rate. By signing the lock-in document, you accept that offer.

As for consideration, this often is in the form of money. You have probably paid something to your lender so that he can obtain a credit report and an appraisal of your property. But money is not the only aspect of consideration. Because you have relied on this lender and have not made a loan application to any other mortgage company, this will also be considered consideration; the law defines this as "something of value."

The offer and the acceptance need not be in writing. Although documents are required for the sale of real estate, in this case we are not dealing with real estate, but rather the financing of that real estate, and oral representations are binding. The problem, of course, is proving that the statements were made. Thus, if you reduce everything to a document, your proof problem will be much easier.

There is a Maryland Court of Appeals case that is often quoted by consumer lawyers. In its opinion, the court said, "The inducement of a guaranteed rate of interest . . . especially in a time of fluctuating interest rates, clearly is intended to entice the customer to deal with the offering bank, rather than with some other lender.

"Although the customer does not covenant that he will refrain from simultaneously making application with other lenders, we think the practicalities of the home loan market, and particularly the expense of each application, have the effect of at least temporarily taking the customer out of the market. As a greater number of loan applications may be expected to result in a greater number of loans, and thus, a greater profit, business advantage to the bank is real, even though every application will not lead to a profit."

Your lender has an obligation to process your loan expeditiously. I suggest that you keep in contact with your lender to make sure that the loan process is moving forward.

What happens if you find out just a day or two before settlement that the locked-in rate will not be available? All too often, I have heard of cases where the lender will call and apologize that the locked-in loan is not available, then will offer another loan immediately, albeit at a higher rate.

How you will react is a financial -- not legal -- decision that only you can make. You obviously have to go to closing on your home. Otherwise, you may lose your earnest money deposit, or worse, be sued by your seller for damages.

My suggestion: Contact the lender and advise him that if he does not honor his commitment, you will be filing complaints with your local attorney general's office and the Federal Trade Commission and that you will retain counsel to file suit. Perhaps these threats will persuade the lender to at least give you a better deal than was offered.

If you decide to accept that higher rate from your lender, do not sign a release. The lender may insist that you sign such a document, whereby you release the lender from all liability in connection with the lock-in. To the extent that you can get away with not signing such a document, you will at least be able to keep all your options open after settlement.

Most lenders will honor their lock-in commitments. But to protect yourself, make sure that everything is in writing.

Benny L. Kass is a Washington lawyer. For a free copy of the booklet "A Guide to Settlement on Your New Home," send a self-addressed stamped envelope to Benny L. Kass, Suite 1100, 1050 17th St. NW, Washington, D.C. 20036. Readers may also send questions to him at that address.


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