INSTITUTIONAL LENDERS

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31

CHA P TER 2

I NSTI TUTI ONA L LENDERS

P REVI EW

An inst it ut ional lender, also known as a f inancial int ermediary, is any deposit ory t hat pools f unds of client s and deposit ors and invest s t hem int o real est at e loans. The lending policies of t hese inst it ut ions have a profound impact on t he real est at e market . I n California, inst it ut ional lenders include savings banks ( former savings and loan associat ions) , commercial banks, and lif e insurance companies. They are dif f erent iat ed f rom noninst it ut ional lenders, such as individual or privat e lenders, in t he following import ant ways: ? I nst it ut ional lenders are highly regulat ed and closely supervised

by f ederal and st at e agencies, whereas privat e lenders are relat ively f ree of regulat ions. ? Privat e lenders invest t heir own f unds direct ly, or t hrough mort gage brokers, int o real est at e loans, rat her t han t hrough a f inancial int ermediary. ? Regulat ed inst it ut ional lenders are not subject t o usury laws and may charge any rat e of int erest . I n cont rast , many privat e lenders make "personal" loans t hat are subject t o usury laws, which place legal limit s on rat es of int erest . ( See Chapt er 3 for det ails.)

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3 2 Cha pt er 2 I n s t it u t io n a l Le n de rs

? Many inst it ut ional lenders qualif y t o make Depart ment of Vet erans Af fairs ( DVA) and Federal Housing Administ rat ion ( FHA) loans.

? There is an act ive secondary market for inst it ut ional loans, as described in Chapt er 7 .

? I nst it ut ional lenders and f ederal regulat ions in some cases set privat e mort gage insurance ( PMI ) requirement s, discussed in Chapt er 5 .

Figure 2 - 1 dist inguishes t wo broad classif icat ions of lenders: inst it ut ional and noninst it ut ional lenders. How t hese lenders f it int o t he mort gage market will be explained in t his and ensuing chapt ers. Then, in Figure 2 - 2 , we show how savings become real est at e loans.

Aft er complet ing t his chapt er, you should be able t o:

1 . Demonst rat e how savings deposit s become real est at e loans. 2 . Dif f erent iat e inst it ut ional f rom noninst it ut ional lenders. 3 . List t hree t ypes of inst it ut ional lenders and brief ly explain

t he dif f erences bet ween t hem. 4 . Discuss several of t he t rends facing inst it ut ional lenders. 5 . Decide when t o use one inst it ut ional lender over anot her. 6 . List f ive regulat ory agencies t hat supervise t he operat ions of

inst it ut ional lenders.

Figure 2 - 1 Sources of money in t he

mort gage market .

SAVINGS DEPOSITS Individuals Corporation Government Miscellaneous

INSTITUTIONAL LENDERS (Fiduciary sources)

Savings & loan associations Banks Life insurance companies Pension & retirement funds

NON?INSTITUTIONAL LENDERS (Semifiduciary sources)

Mortgage bankers & brokers Real estate trusts Endowment funds Estate funds

PRIVATE LENDERS (Nonfiduciary sources) Individuals Private loan companies Real estate brokers Miscellaneous

MORTGAGE MARKET

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Figure 2 - 2 How savings become real est at e l oans.

2 . 1 Sa vin g s Ba n ks 33

2 .1 Savings Banks

What Is a Saving s Ban k?

In simple terms, a savings bank is a f inancial int ermediary that accepts savings fro m the public and invests these savings principally in real estate trust deeds and mo rtgages. Previo usly called savings and lo an asso ciatio ns, mo st changed their name after the S&L crisis of the 1980s. To day they are frequently referred to as " thrift" institutio ns.

Savings banks may be either mutual o r capital sto ck institutio ns. As a mutual institutio n, depo sito rs and bo rrowers are given share certificates o r receipts in return fo r depo sits of mo ney. This is why a depo sit in a mutual thrift is often referred to as a share liability rather than a savings depo sit. A capital sto ck institutio n, o n the o ther hand, issues shares of sto ck to its investo rs, representing fractio nal shares of ownership of the institutio n.

A savings bank is also classified as either a state-chartered o r a federally chartered institutio n. A state -charte re d thrift institutio n is licensed by the State of Califo rnia and o perates under the supervisio n of a state co mmissio ner and, if insured, also under the Federal Housing

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Finance Board. By co ntrast, a fe de rally charte re d savings bank is licensed by the Federal Ho using Finance Bo ard and is readily identified by the wo rd fe de ral in its co rpo rate title, such as Fidelity Federal Savings. To the saver o r bo rrower, however, there is little difference between state and federal institutio ns, so similar are the laws and regulatio ns under which they o perate. They have substantially " parallel autho rity," which means that ho me buyers can sho p fo r lo ans almo st any w h e re.

Le nding Charact e rist ics o f Saving s Ban ks ( Thrif t s)

The chief lending characteristics of savings banks include the fo llowing:

? Government regulatio ns require that a majo rity of their assets must be in real estate. Business and co nsumer lo ans are permitted to a limited extent but pale when co mpared with lo ans secured by real pro perty.

? As a general rule, mo st ho me lo ans do no t exceed 95 percent of the appraised value o r sales price of the ho me, whichever is lower. Exceptio ns include government- backed lo ans, such as FHA and DVA. Mo st thrifts limit the maximum amo unt o n a single lo an to 1 percent of their to tal assets. Hence, larger thrifts are able to acco mmo date large lo an requests mo re readily than smaller savings banks.

? Mo st thrifts limit their lo ans to 30 years, altho ugh 40- year lo ans are permitted in so me cases. Fifteen- year lo ans are also widely pro mo ted, especially in the ho me refinancing market. So metimes, during perio ds of rising interest rates, many of these lo ans include provisio ns fo r due dates ( ballo o ns) in as few as three to five years, o r fo r ro llovers thereafter at the prevailing market rate. These have mo nthly payments amo rtized fo r 30 years, but the unpaid balance is due in three, five, o r seven years.

? Interest rates in the past were highest amo ng the institutio nal real estate lenders. This was due to the large demand fo r lo ans and to the higher risks asso ciated with higher loan-t o-value rat ios. ( High lo an-to -value means that the amo unt of the lo an is high in relatio n to the appraised value o r sales price of the pro perty.) Currently, rates charged by co mmercial banks and savings banks are basically the same.

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2 . 2 Co m m e rc ia l Ba n ks 3 5

? Their basic real estate lending is o n single-family, owner-o ccupied dwellings, but in a favo rable market thrifts will also finance mo bile ho me lo ans, no n-owner-o ccupied dwellings, apartments, and co mmercial and industrial pro perties.

? Co mbinatio n lo ans are often available. Such lo ans co mbine co nstructio n ( sho rt-term financing) and t ake-out loans ( lo ng-term o r permanent financing) into o ne lo an.

? Savings banks are permitted to make co llateral lo ans secured by the bo rrower's savings acco unts, savings certificates, bo nds, existing secured no tes, and certain o ther fo rms of readily liquid asse t s.

Tre nds in t he Saving s Ban k Indu st ry

Increased co mpetitio n fro m co mmercial banks and mo rtgage co mpanies, co mbined with imbalances between mo ney- scarce and mo neysurplus areas that create demands fo r multiregio nal lending pro grams, have co ntributed to the lo ss of stature of savings banks ( thrifts) as the principal so urce of ho me lo ans.

2 .2 Comme rcial Banks

What Is a Co m m e rcial Ban k?

A commercial bank is, as the name implies, a co mmercial institutio n that functio ns as a depo sito ry fo r funds and a place fro m which to bo rrow mo ney. They are no t to be co nfused with " industrial banks" o r so - called finance co mpanies. Co mmercial banks have two different fo rms of depo sits, demand depo sits and time epo sits. The bulk of their funds are in demand depo sits, which are depo sits in business and perso nal checking acco unts. Rarely are such funds used fo r lo ng- term mo rtgage lending, due to the highly vo latile nature of such funds-- that is, they may be withdrawn o n demand by the depo sito r and therefo re canno t be depended o n to remain in the acco unt fo r very lo ng. Fo r this reaso n they are also referred to as transactio n mo ney o r transactio n acco unts.

Time deposit s, o r interest-bearing savings acco unts, provide the bank with lo ng- term funds that are invested into a variety of o utlets, including real estate financing.

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