What Are Yield Spread Premiums?
Yield spread premiums are points paid by lenders for loans carrying interest rates above the par rate. The par interest rate is the rate at zero points, and points are an upfront charge expressed as a percent of the loan. On rates below the par rate, lenders charge points, and on rates above the par rate, lenders pay points. Yield spread premiums are also called “negative points” or “rebates.” For example, a lender offering a 7% 30-year fixed-rate mortgage at par might offer the same loan at 6.5% with 2 points and at 7.50% with a YSP of 1.5 points.
Yield Spread Premiums for Mortgage Brokers
A yield spread premium is most associated with mortgage brokers. A mortgage broker does not directly fund a mortgage but instead shops multiple funding lenders to find borrowers a mortgage. The funding lenders, also known as wholesale lenders, quote the interest rate they require on a loan (wholesale rate.) Mortgage brokers have discretion to charge borrowers an interest rate higher or lower than the wholesale rate charged by the funding lender, so they effectively serve as a mortgage retailer.
If the mortgage broker charges an interest rate higher than the wholesale rate required by the funding lender, this is a yield spread premium. In this scenario, the mortgage broker receives a fee or commission from the wholesale lender for delivering a mortgage with an interest rate higher than the wholesale rate. In this case, the borrower pays the higher retail mortgage rate, and the mortgage broker compensates the commission received from the wholesale lender. The higher the interest rate, the higher the yield spread premium, and the higher the commission the funding lender pays to the mortgage broker. However, the borrower pays the commission indirectly by paying a higher mortgage rate.
The mortgage broker also has the option to charge an origination fee to a borrower. In this case the borrower pays an origination fee directly to the mortgage broker, and the mortgage broker may receive no commission from the wholesale lender because they charged the borrower the wholesale rate. If a borrower desires a mortgage rate that is lower than the wholesale rate charged by the funding lender, then the borrower might be permitted by the funding lender to pay discount points, which are extra fees the borrower pays to lower the borrower’s mortgage rate.
In short, the yield spread premium is the difference between the wholesale interest rate and the retail interest rate the borrower pays for a mortgage. The higher the interest rate, the fewer closing costs the borrower should pay on the borrower’s mortgage.
What are The Benefits of Yield Spread Premiums?
Brokers usually get paid by receiving “points” on a loan, yield spread premiums, or both. They pay these points in cash at closing, which means that on a purchase, the borrower must provide more cash at closing. On a refinance, points paid in cash at closing usually mean the borrower receives less cash-out proceeds. A yield spread premium allows the customer to finance part of their broker’s compensation as part of the mortgage loan. The customer agrees to pay a higher interest rate, and in return for that higher interest rate, the lender agrees to pay the broker compensation in cash at or shortly after the closing. The borrower does not have to come up with the cash.
This is how it works with real numbers: Most brokers average 1.5% to 3% in compensation on the loans they originate. It varies by geography, loan type, and loan size. Instead of requiring their borrower to pay 3 points (3%) at close, for example, the broker could have the customer pay the broker 1 point at close with a higher interest rate. In return, the lender will pay the broker the 2 points.
If you have any questions about yield spread premiums and how they may affect your mortgages, Geraci is here to help. Our team of experts have years of experience handling yield spread premiums and making sure lenders are protected.