Long Term Locks

First, some general background.

Most lenders quote mortgage rates based on the assumption their borrowers will close in less than two months. Consumers can usually lock their rates free for up to 60 days, though loan costs (rates and points) are generally a bit lower for mortgages with 30-day locks than those with 45-day or 60-day ones.

That's all well and good for refinancers and shoppers who have already identified the homes they're buying. But customers who are buying as-yet-uncompleted homes in subdivisions or do-it-yourselfers who are building their own homes usually can't close in that relatively short time frame. The good news is that lenders sell rate lock protection that's good for anywhere from 90 days on up to 270 or more.

Long-term locks help define the worst-case scenario for the borrower. If rates improve or stay unchanged relative to where rates are today, or if the market gets worse, you always know what your rate will be, without further worry.

With most lenders, for instance, someone waiting for a builder to finish a home can apply for a mortgage now and purchase 120 days of interest rate protection. The customer typically would have had to pay one point, or one percent of the loan amount, up-front, at the time of locking, for the protection. That would lock in the mortgage loan at about .375% percent above the 60 day rate. By collecting the point up-front and possibly paying it back only if the borrower closes, the lender protects itself against the possibility the customer will defect to another lender during those four months.

Those up-front fees come in two flavors; Creditable and Non-Creditable. Make sure you know which one your lender is offering.

• "Creditable" means the customer would have the up-front fee credited toward the loan's closing costs at closing time.
• "Non-Creditable" means the fee is paid to secure the rate only. It is NOT applied toward future costs, or credited at closing in any manner whatsoever.

The further you go out on the spectrum (of lock days needed), the higher the rate becomes. You've got to be reasonable in terms of what you think the expectations for closing are going to be and pick the lock period that gets you through that key date. The biggest risk we see is people pick too short a lock period. If they get a 120-day lock, and if that house isn't ready to close, they end up needing to go through another 30 to 60 days to close the deal and they've basically exposed themselves to market risk.

Float Down Option

Float down options are available, and come in many different flavors. Be sure you completely understand the rules of your lender's float down option BEFORE locking the loan.

Typically, you will get one chance to switch to a better interest rate if the interest rates improve. Some programs allow you to switch at anytime prior to closing, while some allow for you to switch only within 30 days of closing.

The Bottom Line

Borrowers who are shopping for new homes or planning on building one themselves should keep these options in mind. But buying long-term rate locks is a little like buying insurance: You don't want to buy too much protection because that gets too costly and you don't want to buy too little coverage, either, because doing so can leave you exposed if calamity strikes.