Question: While refinancing our home, I saw that mortgage interest rates were declining. I called my potential lender and we agreed that I would not lock in the interest but would let it float. My loan officer advised me that rates were not down at his company.

When I told him that I was offered a lower rate when I anonymously called the financial institution's toll-free number, the loan officer just shrugged this off, stating "that was probably just to draw new business." I was told that I could not get a lower rate because I was already "in the system." Is this usual or ethical?

Answer: We either have the classic situation of "bait and switch", or your loan officer was just trying to make you keep a higher mortgage rate.

However, your question has confused me. If your loan was not locked in -- i.e. you were to obtain a floating rate -- then why did the loan officer indicate that you were already "in the system?"

Let's explain the basic difference between a floating rate and a locked-in rate.

When you make application for a mortgage loan, a lender can give you a choice: (1) take your chances that when you actually go to closing, the then-current mortgage interest rate will be equal to or less than the rate at the time you made the loan application, or (2) lock in the rate so that whether rates go up or down, you are guaranteed to get the rate you have locked in.

The first choice is often referred to as a "floating rate"; the second is a "lock-in" rate.

In your case, since you did not lock-in a rate -- but instead let it float -- you should have been able to refinance at the market rate at the time you signed all of the legal documents. I suggest that you contact the President of the financial institution, and demand an explanation. You may also want to file a formal complaint with the appropriate governmental agency which regulates financial agencies in the State where you live.

Keep in mind that regardless of where the lender is located, the applicable laws regulating that lender are the laws in the state where your house is located.

Since you have raised the issue of locked-in rates, and since we are now in a period of extreme anxiety and uncertainty as to the state of our economy, let me expand a little more on this issue.

When mortgage interest rates are low, no consumer complains. However, just as soon as interest rates begin to creep up, we start getting concerned. Potential homeowners are then faced with the possibility that the interest rate they were hoping to get will no longer be available.

Most lenders will allow you to "lock in" a rate. This means that you have a binding commitment from your mortgage lender that for a fixed period of time (usually 30 or 60 days from the time of application) you are going to obtain the rate that was locked in by the lender.

The Federal Reserve Board has prepared a very helpful publication entitled A Consumer's Guide to Mortgage Lock-ins.

The Federal Reserve's definition of a mortgage lock-in is worth quoting:

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.

The Fed goes on to point out that there are many different kinds of lock-ins. Options include a locked-in interest rate and locked-in points, a locked-in interest rate with floating points, or a floating interest rate with floating points, where the lender gives the borrower the option to lock-in any time between the application and the actual settlement.

Unfortunately, many consumers have learned the hard way that what they though was a "locked in" rate was only a verbal statement from the loan officer, who later denies making any such commitment.

It is important that you get a written document spelling out the terms and conditions of your lock-in commitment. If the lender refuses to give you a written statement, you should consider looking for another lender. A verbal commitment will probably not stand up in Court, and in any event you really do not have the time -- or the money -- to file suit against the lender. You want to go to settlement and move into your new home.

At the very least, if the lender refuses to confirm in writing the terms of your lock-in, send a letter to your lender, by certified mail, return receipt requested, stating your understanding of the lock-in commitment. If the lender does not respond, this will be more evidence of the existence of the lock-in promise.

Although some mortgage lender attorneys disagree, 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.

Let us look at the basic elements of any contract. To have a valid, binding contractual obligation, three elements are required.

First, there has to be an offer. Here the lender has offered a "locked-in rate" to the borrower.

Second, there must be acceptance of that offer. Again, the borrower -- by telling the lender (in writing) that he or she will accept the locked-in rate -- has validly accepted the offer.

The third vital element of a contract is consideration. Usually, consideration is in the form of money. The borrower has given the lender money for the appraisal, the credit report and often one or more of the points that will have to be paid at settlement.

Even if the borrower does not give money as consideration, the law books also define consideration as something of value other than dollars. In your case, if you refrain from looking for another lender and rely on the lender's representations, that also constitutes valid consideration so as to make a contract between the parties.

It should be pointed out that the offer and the acceptance need not be in writing. While we need a written document 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 written document, your proof problem will be much easier.

There is a Maryland Court of Appeals case which is helpful. That Court issued an opinion stating:

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.

Since there is much uncertainty in the world today, I suspect we will begin to see more and more lock-in questions. Lenders can avoid this situation by disclosing to the borrower in writing the terms of the lock-in commitment, or alternatively that the rate will not lock in, but will float until settlement.

Different lenders offer different lock-in terms. That of course is the lender's decision. As long as the borrower understands the terms and conditions under which the loan application is being processed, the lender can do no more. But if a lender arbitrarily and capriciously cancels a lock-in rate, that is, in my opinion, a breach of contract, to which the borrower has legal recourse.

For more articles by Benny Kass, please press here.

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Copyright 2001 Benny Kass. Posted by Realty Times with permission.

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Published: October 8, 2001

Use of this article without permission is a violation of federal copyright laws.