Shopping for a lender can feel confusing and a little intimidating. With so many companies and types of lenders to choose from, you might feel analysis paralysis. Understanding the differences between the main types of lenders can help you narrow down the field.
The type of loan you choose is obviously important, but choosing the right lender could save you money, time and frustration. That’s why taking the time to shop around is crucial. It’s a crowded field, too. There are retail lenders, direct lenders, mortgage brokers, correspondent lenders, wholesale lenders, and others, where some of these categories can overlap.
Mortgage Lenders vs. Brokers
You’ve probably seen these two terms in your home-buying research, but they have different meanings and functions. A mortgage lender is a financial institution or mortgage bank that offers and underwrites home loans. Lenders have specific borrowing guidelines to verify your creditworthiness and ability to repay a loan. They set the terms, interest rate, repayment schedule and other key aspects of your mortgage.
A mortgage broker, however, works as an intermediary between you and lenders. In other words, mortgage brokers don’t control the borrowing guidelines, timeline or final loan approval. Brokers are licensed professionals who collect your mortgage application and qualifying documentation and can counsel you on items to address in your credit report and with your finances to strengthen your approval chances. Many mortgage brokers work for an independent mortgage company so they can shop multiple lenders on your behalf, helping you find the best possible rate and deal. Mortgage brokers are typically paid by the lender after a loan closes; sometimes the borrower pays the broker’s commission up front at closing.
Mortgage brokers work with a host of different lenders, but it’s important for you to find out which products those lenders offer. Keep in mind that brokers won’t have access to products from direct lenders. You’ll want to shop a few lenders on your own, in addition to one or two mortgage brokers, to ensure you’re getting the best loan offers possible.
How They Get Paid
Mortgage brokers (and many mortgage lenders) charge a fee for their services, about 1% of the loan amount. Their commission can be paid by the borrower or lender. You can take a loan at “par pricing,” which means you won’t pay a loan origination fee and the lender agrees to pay the broker. However, mortgage lenders typically charge higher interest rates. Some brokers negotiate an up-front fee with you in exchange for their services. Make sure you ask prospective brokers how much their fee is and who pays for it.
How They Help
Mortgage brokers can help save you time and effort by shopping multiple mortgage lenders on your behalf. If you need a loan with a low down payment requirement or your credit is not so pristine, brokers can look for lenders that offer products tailored for your situation. Brokers typically have well-established relationships with dozens, if not hundreds, of lenders. Their connections can help you score competitive interest rates and terms. And because their compensation is tied to a loan closing successfully, brokers tend to be motivated to deliver personalized customer service.
Once a mortgage broker pairs you with a lender, they don’t have much control over how your loan is processed, how long it takes, or whether you’ll receive final loan approval. This can add more time to the closing process and frustration if delays arise. Also, if you choose a loan at par pricing, your lender might charge a higher interest rate to cover the broker’s commission, costing you more.
Most mortgage lenders in the U.S. are mortgage bankers. A mortgage bank could be a retail or a direct lender – including large banks, online mortgage lenders like Quicken, or credit unions.
These lenders borrow money at short-term rates from warehouse lenders (see below) to fund the mortgages they issue to consumers. Shortly after a loan closes, the mortgage banker sells it on the secondary market to Fannie Mae or Freddie Mac, agencies that back most U.S. mortgages, or to other private investors, to repay the short-term note.
Retail lenders provide mortgages directly to consumers, not institutions. Retail lenders include banks, credit unions, and mortgage bankers. In addition to mortgages, retail lenders offer other products, such as checking and savings accounts, personal loans and auto loans.
Direct lenders originate their own loans. These lenders either use their own funds or borrow them from elsewhere. Mortgage banks and portfolio lenders can be direct lenders. What distinguishes a direct lender from a retail bank lender is specialization in mortgages.
Retail lenders sell multiple products to consumers and tend to have more stringent underwriting rules. With a niche focus on home loans, direct lenders tend to have more flexible qualifying guidelines and alternatives for borrowers with complex loan files. Direct lenders, much like retail lenders, offer only their own products so you’d have to apply to multiple direct lenders to comparison shop. Many direct lenders operate online or have limited branch locations, a potential drawback if you prefer face-to-face interactions.
A portfolio lender funds borrowers’ loans with its own money. Accordingly, this type of lender isn’t beholden to the demands and interests of outside investors. Portfolio lenders set their own borrowing guidelines and terms, which may appeal to certain borrowers. For example, someone who needs a jumbo loan or is buying an investment property might find more flexibility in working with a portfolio lender.
Wholesale lenders are banks or other financial institutions that offer loans through third parties, such as mortgage brokers, other banks or credit unions. Wholesale lenders don’t work directly with consumers, but originate, fund and sometimes service loans. The wholesale lender’s name (not the mortgage broker’s company) appears on loan documents because the wholesale lender sets the terms of your home loan. Many mortgage banks operate both retail and wholesale divisions. Wholesale lenders usually sell their loans on the secondary market shortly after closing.
Correspondent lenders come into the picture when your mortgage is issued. They are the initial lender that makes the loan and might even service the loan. Typically, though, correspondent lenders sell mortgages to investors (also called sponsors) who re-sell them to investors on the secondary mortgage market. The main investors: Fannie Mae and Freddie Mac. Correspondent lenders collect a fee from the loan when it closes, then immediately try to sell the loan to a sponsor to make money and eliminate the risk of default (when a borrower fails to repay). If a sponsor refuses to buy the loan, though, the correspondent lender must hold the loan or find another investor.
Warehouse lenders help other mortgage lenders fund their own loans by offering short-term funding. Warehouse lines of credit are usually repaid as soon as a loan is sold on the secondary market. Like correspondent lenders, warehouse lenders don’t interact with consumers. Warehouse lenders use the mortgages as collateral until their clients (smaller mortgage banks and correspondent lenders) repay the loan.
Hard Money Lenders
Hard money lenders are usually the last resort if you can’t qualify with a portfolio lender or if you fix-and-flip homes. These lenders are usually private companies or individuals with significant cash reserves. Hard money loans usually must be repaid in a few years so they appeal to fix-and-flip investors who buy, repair and quickly sell homes for profit. While hard money lenders tend to be flexible and close loans quickly, they charge hefty loan origination fees and interest rates as high as 10% to 20% and require a substantial down payment. Hard money lenders also use the property as collateral to secure the loan. If the borrower defaults, the lender seizes the home.
Shopping for a Mortgage Online
In today’s tech-savvy world, many mortgage lenders and brokers have automated the application process. This can be a huge time-saver for busy families or professionals as they balance choosing the best mortgage, searching for a home and their day-to-day lives. Some lenders even provide apps so you can apply, monitor and manage your loan from a mobile device.
Running a Google search for “mortgage lenders” will give you nearly 72 million results, along with with a lot of company ads, “top lender” recommendations from personal finance sites and news stories. At a glance, it can be overwhelming. It’s always good to browse different lenders’ sites to familiarize yourself with their loan products, published rates, terms, and lending process. If you prefer to apply online with minimal face-to-face or phone interaction, look for online-only lenders. If you do business with a bank or credit union, check online to see what products and conditions they offer. Remember, comparison shopping, along with working on your credit and financial health, will help you find the best loan for your needs.
As you search online, you’ll inevitably encounter lending marketplaces or personal finance sites that recommend specific lenders. Keep in mind that these sites usually have a limited network of lenders. Also, they typically make money on referrals to lenders featured on their site. So don’t rest on those recommendations without doing additional shopping on your own.
The Bottom Line
Finding the right lender and loan can feel daunting. Researching and educating yourself before you start the process will give you more confidence to approach lenders and brokers. You might have to go through the pre-approval process with a few lenders to compare mortgage rates, terms, and products. Have your documentation organized and be frank about any challenges you have with credit, income or savings so lenders and brokers offer you products that are the best match. (For related reading, see "How Do Mortgage Lenders Check and Verify Bank Statements?")