Perhaps no other phrase is as misused in the field of lending as is “creative financing”.
In an effort to clarify what creativity in lending actually is, we present the following information, derived from a presentation to mortgage practitioners during a seminar held in May 1990.
Although the information here is over 10 years old, it is as correct today, as it was on the day it was first presented.
CREATIVE FINANCING & THE MORTGAGE BROKERAGE PROFESSION
In Canada, (as a population) we tend to be financially conservative, and while advancements in communication and technology have made it possible for Mortgage Brokers to gain the ability to arrange institutional mortgage loans, there still remains (a dated) tendency of some institutional lenders, to look upon Mortgage Brokers as second class citizens in the lending profession.
This is due to the fact that prior to the onset of fax machines and electronic transfer of data, direct lenders were effectively a monopoly in the Canadian marketplace, and Mortgage Brokers were relegated to being instruments of privately sourced (high risk & last resort) funding, if they were to exist at all.
While many Brokers have successfully specialized in privately sourced lending for many years, today’s technology permits Brokers to represent a variety of institutional lenders and thereby offer mortgages to clients at (and often below) the normal market level, with multiple source options, very often to the chagrin of our institutional colleagues.
In recent years, some Mortgage Brokerage companies have elected to take on large numbers of representatives in an attempt to gain a larger share of the marketplace…or at least it would appear that this was their intention. In actual practice, however, the policy of “hiring hundreds” who depend upon computer systems to underwrite transactions for them, has succeeded in flooding the market with people who attempt to do their best, while being forced to operate through an electronic porthole, to someone else who actually understands procedures.
It will only be a matter of time before many Real Estate companies have the machinery to allow qualified clients the luxury of an interview “online” & this of course will render a large portion of today’s “mobile laptop” mortgage practitioners obsolete.
Despite these challenges, (past present & future) the Mortgage Brokerage business continues to advance toward a place of prominence in the Canadian market.
In an effort shine a light on an area of our profession which is sometimes misunderstood, I have chosen to pass along the following, for it is in discovering what Brokers consider actually be “Creative Financing” that others may learn from it.
Paul Ouellette CRF
Mortgage Broker,
Central Mortgage Associates Inc.
May 1996
THE TRUE MEANING OF CREATIVE FINANCING
Quite often the term Creative Financing is freely bandied about within our industry, with little or no perception as to its genuine meaning. More often than not, to be creative in financing boils down to the following…
* Common Sense,
* Tenacity,
* Diplomacy,
* Wit,
* Resource Base,
* Experience.
Creative financing is not based on…
* deceit,
* error by omission,
* coyness, or
* emergent negotiating tactics.
Objectives
In order for mortgage brokers to exist long-term, and not be relegated to simply being order takers, couriers of paper, indirect lender’s agents, or real estate brokers’ puppets, independent brokers must carve a niche within the marketplace where they are insulated from fierce competitive forces consisting of direct institutional lenders, brokers agents and in-house point of sale marketers.
This target market is where many institutional lenders (normally) do not tread, especially in view of today’s economy. Specifically, requests where GDS and TDS are marginally higher than 32 to 35 % and 40 to 45 % respectfully. Such files are not always unrealistic to the point where debt servicing is out of the reach of borrower(s) particularly when applicants resources are fully examined and understood by open minded and resourceful brokers.
With proper understanding, a lender can often safely advance funds to clients with marginally higher loan-to-value ratios. Most institutions will lend 60 to 65 % on a first mortgage, due to reactionary but conservative guidelines in place today. The broker who is in a position to augment the loan amount by back-ending the first mortgage through secondary funding to 75 or 90 % will be able to win the deal and be rewarded subject to the circumstances, time and effort involved.
For example, it is still very impractical for some institutional lenders to underwrite smaller balances, whether these balances relate to small first or second mortgages on residential or commercial properties.
Overhead and basic economics don’t usually allow large institutions the flexibility to handle lending for small proposals, (eg., commercial buildings below $750,000 in value requiring up to $500,000 in financing).
There are many brokers that do not have the experience or resources, to procure reasonably priced funds for such transactions, and accordingly, some must practice the basic fundamentals of co-brokerage to professionally represent and successfully process certain challenging mortgage requests.
Let’s take a look at some basic fundamentals of mortgage brokering:
1. Interview the applicant(s) personally in a professional atmosphere, initially gathering as much pertinent information as possible relative to the applicant’s requirements.
2. Outline in writing and in detail what further documentation you will require in order to negotiate the best possible terms for the applicant, taking into consideration the borrowers’ priorities.
3. Ensure that you clearly understand the applicant(s) needs by effectively conducting the interview with examination and guidance to the borrower(s), through the alternatives and noting the reactions to each possibility presented.
For example, ask about:
a) Loan amount requested and interest rate desired
b) Open vs. closed programs
c) Timing vs. nature of transaction
d) Documentation vs. approval terms
e) Structure and long term financial planning
f) One mortgage vs. two relative to (CMHC) insurance costs
g) Term vs. rate
During this process, remember to be practical, narrowing down he terms of the possibilities, by only offering a choice that is available as a function of the market place specific to the borrower’s qualifications.
4. Complete your underwriting homework through investigation, correlation and research:
a) check loan amounts and credit ratings specifically
b) test refinance alternatives-increase and blend, postpone with principal reduction. Flip flop registration positions, rates and costs. (Be careful if you are not contracted at this stage)
c) investigate with known , reliable sources of funds on a qualified basis.
5. Inspect and take pictures of the subject property and neighborhood (appraisal) and/or conduct a cursory market analysis through real estate listings and sales.
6. Establish a proposal and solidify your agency agreement in writing, by disclosing all costs, rates and terms and what conditions the borrower will be responsible for, and be specific regarding your control and authority.
At this stage collect your retainer (if the request is in excess of $200,000 in Ontario due to the Regulations of the Mortgage Brokers Act), order the appraisal and indicate the terms of the return or inclusion of the deposit in whole or in part, if this is to take place at a later date. Make certain the exclusive rights of your agency agreement are understood for a specified time period.
7. Present the proposal to specifically interested lenders, indicating a realistic time frame to expect a written commitment. Provide a copy of the letter of intent or contract arrangement to support your position as the borrowers representative during negotiations.
8. Once received, present the final commitment terms to the client(s), execute further documents, post a further standby fee (if necessary), and negotiate final adjustments if flexibility is possible and in order to complete the transaction successfully.
9. Co-ordinate and eliminate all remaining conditions necessary.
10. Follow and co-ordinate the lender, lawyer, and borrower through to a successful closing.
11. Collect remaining fees if any and thank every party for the work they were involved in.
12. Solicit for referrals and look for new sources of business.
Although, most of us are aware of these fundamentals within the industry, we should occasionally review the basics and pay practical attention to them.
Now that we have identified certain market niches available, and examined fundamental steps in reaching successful results, how do we increase our resources in order to accomplish this?
The mortgage broker who decides to remain independent from order taking, must establish honesty and integrity in order to present consistent credibility to borrowers and lenders, so that the brokerage will have access to resources that allows for a market position apart from the competition.
There are alternative ways of accomplishing this, for example:
1) Franchise
2) Associate with a larger, established firm
3) Invest time, energy and dollars in a long-term image and advertising campaign
4) Be fortunate enough to have access to borrowers and lenders directly as a result of a lengthy career.
There are many pros and cons to the foregoing alternatives, a few of which can be discussed.
Franchising will normally require some immediate capital outlay and will restrict the broker to a certain way of doing business, usually yielding a lower commission split to the individual.
Through associating with a larger firm, more flexibility is given to the agent about how he may practice, provided the basic rules and regulations are adhered to . Reasonable commissions are paid relative to volume produced, which is enhanced by a sound advertising program and a professional working atmosphere supported by a clerical team.
A broker may elect to build his own image among industry peers and his immediate market area. It takes years, and tens of thousands if not eventually hundreds of thousands of dollars.
It seems that many ambitious brokerage staff members that , in considering their futures, boast of the knowledge of how to market and acquire clients, but they forget the amount of investment, advertising and promotion, it takes to effectively often select, target and consistently deliver desirable mortgage investments.
Raising Private Funds
The various methods to raise private funds are:
1) Direct personal solicitation after pay out.
2) Blanket mailing to lawyers-usually larger, older law firms
3) Registry office searches with telephone follow-up
4) Tele-marketing upper-income groups.
5) Purchase of mailing lists-doctors, dentists, geographic areas.
6) Join churches, clubs, or the local chamber of commerce.
7) Solicit former borrowers, real estate owners, local business people.
Hire or associate with financial planners, mutual funds salespeople, fiscal agents
9) Advertise specific mortgages for sale in financial papers or financial sections
10) Advertise or mail to chartered accountants
11) Referral by existing client base
12) RRSP trustee referrals.
Once clients arrange mortgages through a broker, they will realize that the broker is there to assist in collection should problems occur, and if serviced properly, will consistently reinvest or augment their portfolios further through the brokers assistance.
The broker in time will be able to consider larger balances and first mortgage investments for his clientele. Perhaps investors may consider to enter an organized investment club or a mortgage investment corporation in order to secure first mortgage investments as opposed to individually held first and seconds.
In essence, the key to any independent mortgage brokerage is to find, promote, & maintain a direct private mortgage investor base in harmony with an established group of institutional lenders that will permit today’s brokerage to exercise the ability to effectively respond to all realistic requests due to a reliable and credible, multi-source lending network of services, with the resources necessary to arrange worthwhile & profitable investments.
