Table Of Content

TEXAS PRE-LICENSE Real Estate Finance Texas Pre-License Real Estate Finance Introduction This course provides an introduction to real estate finance. From qualifying the borrower and qualifying the property in the underwriting process to various types of financing, closing the sale, the Community Reinvestment Act and more, we discuss the monetary systems that control the market, delve into supply and demand, cover housing agencies, and discuss the government influence on real estate. Most real estate is purchased with borrowed money. The methods of real estate finance are many and varied. Making real estate loans carries a certain amount of risk for lenders; for this reason, lenders must have a firm grasp of a borrower’s financial qualifications. Lenders consider a borrower’s income, credit, debt, source of funds, and net worth. However, no analysis, no matter how thorough, of a borrower’s creditworthiness, can be enough to ensure that a loan is completely free of risk. You will learn the methods used by lenders to qualify loan applicants and how lenders qualify the property to be mortgaged. This involves a thorough and accurate property valuation, using the sales comparison or cost approach for residential property and a cap rate or discounted cash flow analysis for investment property. These methods of valuation will be discussed in depth so that you will feel confident and familiar with them when you meet them in the real world. The basics of the financing and the sale process are discussed over two lessons. You will learn how title (abstract ownership rights to the property) is transferred to the buyer with a deed. The earnest money contract will also be discussed: terms of the contract, contingencies, and earnest money deposits. In another lesson, the focus turns to closing. You will learn the customary costs involved in a real estate transaction, how certain items are prorated between the buyer and the seller and the requirements set forth by the Real Estate Settlement Procedures Act (RESPA). This course also covers foreclosure. We consider what happens when a borrower is in default of the mortgage contract and how lenders may help borrowers prevent foreclosure through forbearance, moratoriums, and recasting. Also discussed is how, when these techniques fail, the property is foreclosed and sold at auction and how the creditors are repaid. Real Estate Finance 2 No real estate finance course would be complete without discussing the types of mortgages available. We have two lessons that will detail the elements of conventional loans, both conforming and nonconforming; adjustable rate; graduated payment; growth equity; and reverse annuity mortgages, to name a few. The advantages and disadvantages of each type of financing are emphasized so that you may better understand the decision-making process inherent in real estate finance. Two specific types of financing, FHA-insured and VA-guaranteed loans, are reserved for separate lessons. FHA loans are insured by the government and perceived as less risky by lenders. They are available to all natural and naturalized U.S. citizens, but they carry a monthly insurance premium that cannot be canceled. VA loans are guaranteed in part by the government, but are available only to veterans, active servicemen, and certain National Guard members and special reservists. The final lesson deals with a topic important to real estate investment: Internal Revenue Code (IRC) Section 1031 exchanges (a k a 1031s). Buying and selling real estate investments can be a tax-heavy business. By “exchanging” their investments under the continuity of investment principle, investors can receive more financing and improve their portfolios. At the end of each lesson, you will be required to complete a quiz for that lesson before moving on to the next lesson. The course ends with a real-world practice lesson that brings together the concepts and material discussed throughout the entire course. This module addresses the following topics: • Explain the basic concepts of real estate finance, describing them in detail • Explain how interest rates affect the real estate market • Distinguish between the principal instruments of financing-the promissory note, the mortgage, and the deed of trust-and explain how they are used • Explain how mortgages are structured and that mortgages create a lien, identifying the difference between a secured note and an unsecured loan • Explain the function of a discount point, when it is offered, and when it should be bought • Discuss the operations of the secondary market for loans • Calculate the monthly payments for a fully amortized, fixed-rate loan • Distinguish between the tax deductions and tax credits associated with real estate ownership, and calculate each. • Explain the use of and legal requirements placed on escrow accounts Real Estate Finance 3 • State who lends money to the purchasers of real estate, identifying them with 100 percent accuracy • Distinguish between lien theory and title theory and know which theory Texas uses • Explain what an assumption loan is and provide an example • Explain how the forces of supply and demand in the real estate market affect and are affected by the primary lending market, identifying them in case studies • Explain the economic theory of inflation, and define how this theory can influence the real estate market • Demonstrate how the government influences real estate finance through agencies such as the Federal Reserve (the Fed) and the Department of Housing and Urban Development (HUD), and be able to cite examples. • Identify the four main roles of the Federal Reserve • Describe the primary provisions of the Community Reinvestment Act • Describe the structure and the mission of the Texas Department of Housing and Community Affairs • Demonstrate how the government can influence the real estate market through taxation policy, distinguishing between tax exemptions, tax deductions, and tax credits • List the financial qualifications for obtaining mortgage loans, identifying the most important financial qualification • Calculate a lender’s qualifying income ratios • List the five elements of a credit report, and explain how FICO scores affect a consumer’s borrowing ability • Explain the provisions of the federal legislation that affect real estate lending, and distinguish between those of the Fair Credit Reporting Act (FCRA), the Equal Credit Opportunity Act (ECOA), and the Truth in Lending Act • Recall that when purchasers of real estate are ready to make a purchase, they are required to have cash in hand, identifying some common sources of funds • List the classification of types of debts, identifying each in a case study • Explain how a borrower’s debts are used in determining whether she or he qualifies for a mortgage loan, listing two forms of qualifying ratio • Define net worth and demonstrate how it is used in the determination of whether someone is qualified for a mortgage for a business property • List the eight steps to completing an appraisal in the correct order Real Estate Finance 4 • Explain the principal appraisal methods and distinguish between Sales Comparison Approach and Cost Approach • Explain the most common approach to valuing income-producing property-the cap rate analysis • List the elements of a pro forma projection, in order, and describe its uses in discounted cash flow analyses • Utilize spreadsheet and investment software to calculate net present values and internal rates of return • Explain how taxes and depreciation are an important element of decision- making in real estate, identifying the procedure for calculating depreciation • Distinguish between a mortgage broker and a loan officer, identifying each in a case study • Explain the loan application process, defining prequalification, online applications, and floating rates • Distinguish between constructive and actual notice and explain the buyer’s obligations under the principle of caveat emptor • List the lender’s requirements for qualifying the title and explain how, through a title search, a title insurance company verifies that a mortgagee will have the first lien • List the types of insurance policies, identifying characteristics of each • Explain the purpose of surveys, and name the three main types • Distinguish between the purpose and content of an earnest money contract and the earnest money deposit • Explain the requirements for and the logic behind establishing escrow accounts • Explain what a deed is and list the types of interest it can convey • Explain the exceptions and reservations that can be placed on a title, providing specific examples • Distinguish between a deed and a title, identifying each in a case study • List the pre-closing requirements, distinguishing between seller’s concerns and buyer’s concerns • List the required documents that the buyer and seller are each responsible for providing • Distinguish between face-to-face and escrow closings, and cite who presides over each • Name the proper form for reporting transactions to the IRS, and list the various parties who can be responsible for filing the form Real Estate Finance 5 • List the official responsibilities of the licensee, and utilize the closing checklist • Explain the function of the Real Estate Settlement Procedures Act (RESPA), listing the procedures and disclosures that must happen during closing, in compliance with the Act • List the basic conventions that determine how expenses are allocated in a typical real-estate transaction, and provide an example of each • Name the two categories of nonrecurring closing costs, and list the costs associated with each. • Distinguish between credits and debits, and demonstrate the procedure for calculating them • Explain the process of prorating expenses, and provide examples of prepaid and accrued items • Demonstrate the formula for calculating prorated expenses • Outline the general guidelines for the HUD-1 Settlement Statement Form, and properly fill it in • Complete the settlement charges section of the HUD-1 • Complete the borrower’s transaction section of the HUD-1 • Complete the seller’s transaction section of the HUD-1 • Demonstrate an understanding of closing transactions by completing a closing activity • Explain the reasons for default, and define tax liens, insurance and maintenance, delinquency, moratoriums, forbearance, and recasting. • Compare the different procedures that follow a default, identifying the various elements of foreclosure • Explain what leads to a property being considered in distress, and compare the difference between liquidating and holding a distressed property • Explain what is meant by a conventional loan, and distinguish between conforming and nonconforming loans • List the current Fannie Mae and Freddie Mac conforming loan limits • Explain private mortgage insurance (PMI) and state when it is required, when it is advisable, and when it is cancelable • Detail Fannie Mae underwriting guidelines for loans • Detail Freddie Mac underwriting guidelines for loans • Discuss the function of Fannie Mae’s Desktop Underwriter and Freddie Mac’s Loan Prospector electronic underwriting programs Real Estate Finance 6 • List the requirements for a borrower’s financial qualifications in a conforming loan, with 100 percent accuracy • Define adjustable rate mortgages (ARMs) and compare these to float-to- fixed rate loans. • Explain the 80-10-10 piggyback loan, and identify the appeal of this loan to a borrower • Distinguish between graduated payment mortgage (GPM) and growth equity mortgage (GEM), listing the benefits of each • Explain a balloon mortgage, and distinguish between a Fannie Mae balloon mortgage and a Freddie Mac balloon mortgage • Identify the characteristics of a wraparound mortgage, and compare this to a purchase-money mortgage • Explain the concepts of reverse annuity mortgages, blanket mortgages, and open-end mortgages, providing examples of each • Explain the provisions of construction mortgages and the concept of draws • Explain why a sale-leaseback is beneficial to the purchasing party • Distinguish between permanent buy down and temporary buy down, listing the two advantages and two disadvantages of temporary buy downs • Name additional loan payment plans • Identify who may qualify for FHA loans, listing the benefits and limits • Outline the qualification process, listing the six CAIVRS applicant categories • Discuss the most important FHA programs, especially Section 203(b) • Explain the mortgage insurance premium (MIP) and list the conditions borrowers must meet to be eligible for a refund on their mortgage insurance • Explain FHA underwriting requirements, such as down-payment and closing-cost requirements, comparing the advantages and disadvantages of FHA loans • Complete the FHA qualifying worksheet • Distinguish between the FHA’s mortgage insurance premium (MIP) and PMI, identifying each in a case study • Explain the purpose and benefits of a VA loan, outlining what a VA loan can be used for • List the types of loans available to qualified borrowers, and explain each Real Estate Finance 7 • Explain the underwriting requirements, and define the role of a VA appraiser • State the current amount of a veteran’s maximum entitlement and calculate remaining entitlement • Explain the relationship between remaining entitlement and restored entitlement • State who is eligible for the VA program and describe the documents required to prove one’s eligibility • Identify the necessary documentation for obtaining a VA loan • Determine whether or not a veteran meets the VA debt service ratio requirement to receive a guaranteed loan in a practice activity • Identify the purpose of the Equal Credit Opportunity Act, and list the restrictions placed on the lender as mandated in the Act • Explain the Truth in Lending Act, and distinguish between the two principal regulations, Regulation M and Regulation Z • Explain RESPA and identify the purposes of the various sections • Explain the enforcement of RESPA against violators of the Act, and state the procedure for filing a complaint • Distinguish between Titles I–VII of the Financial Services Modernization Act, detailing each with 100% accuracy • Explain Computerized Loan Origination (CLO), identifying the new “final” rule of the CLO as issued by HUD • Explain automated underwriting systems, distinguishing between Freddie Mac’s Loan Prospector and Fannie Mae’s Desktop Underwriter • Explain the development of automatic underwriting on the Internet • Discuss the concept of true value in investment in real estate • Define capital gains and discuss the consequences of taxes on real property and how taxes may affect decisions, especially for investment or business property. • Explain the purpose of Internal Revenue Code (IRC) Section 1031 • Define like kind and discuss what property qualifies for a like-kind exchange • Distinguish between realized and recognized gain and explain how it is important to the tax laws • Calculate an investor’s adjusted basis in a property, and identify the relationship to boot Real Estate Finance 8 • Explain how boot is calculated • Describe the different ways of doing 1031 exchanges, such as a simultaneous exchange and a delayed exchange • Identify the role of the qualified intermediary (QI) as a safe harbor in the delayed exchange • Explain the delayed (Starker) exchange format—the 45/180-day time limits and the rules for replacement property identification • Explain the reverse exchange format, detailing the exchange accommodation titleholder (EAT), title parking, and describing allowable arrangements between the exchanger and the EAT. • Explain how an investor can leverage saved capital from tax-deferred exchanges, citing examples • Explain the tax benefits of installment sales • Identify the differences among the various types of contracts • Know the three elements of a contract • Identify the five components of a legally enforceable contract • Discern between valid, void, voidable, and unenforceable contracts • Explain the different types of contract performance • Apply the laws, doctrines, and statutes that govern real estate contracts, including the Uniform Commercial Code and the Statute of Limitations • Distinguish the differences among the different types of real estate contracts • Recall the important elements of leases and listing agreements • Recognize and complete the forms promulgated by TREC • Explain the key differences between contracts for deed and other real estate contracts • Demonstrate the ability to apply what you have learned in this course to situations that you will likely encounter in your career, through analyses of case studies, real world situations, critical thinking questions, and other activities Real Estate Finance 9 Key Terms Abstract of Title A compressed history of the title of a property, prepared by an abstracter, including all actions that have affected the title (such as conveyances) and all current encumbrances affecting the title. Acceleration Clause A clause included in the loan document (such as the mortgage or the deed of trust) that makes the entire amount of the loan due immediately upon the default of the borrower. Accrued Item An expense that the buyer will pay after closing that must be divided between the buyer and the seller, such as the interest on an assumed mortgage or real estate taxes. Actual Notice In contrast with constructive notice, it is notice of a party’s interest that is given expressly. Adjustable Rate Mortgage (ARM) A loan whose interest rate varies over specified adjustment periods with some independent market interest rate, such as Treasury Securities. Ad Valorem Taxes Property taxes based on the value of the property being taxed. Amortization The gradual reduction, through repayment, of the principal of a loan over time. A loan that is so paid down is said to be amortized; the time that it takes for the principal to be reduced to zero is known as the amortization period or loan term. Annual Percentage Rate (APR) The ratio of the total finance charge for a loan (including interest, discount points and loan fees) to the total loan amount, expressed as a yearly rate. Appraisal An estimation of a property’s worth, performed by a licensed real estate appraiser and used for determining sale prices and maximum loan amounts. Appreciation An increase in the value of a property over time. Real Estate Finance 10