You already know that mortgage brokers come in many flavors, that some of them deserve the mortgage broker bad reputation dished out to them lately. You’re also smart enough to know that your mortgage broker serves a great function: getting you mortgages that your bank cannot.

To better understand how mortgage brokers are useful to you, you should know how they operate and get paid.

Your Mortgage Broker in Action

When you get a mortgage loan from your local bank, there may be only one player involved, your local bank. Banks that originate a home loan and hold on to it are called portfolio lenders. Many banks, however, do not hold onto the loans they originate. They, like mortgage brokers, sell the loans for a profit. They may sell your loan to another lender, directly, or they may sell it, like most mortgage brokers do, to a wholesale buyer.

So, unless you go to a portfolio bank, there isn’t any difference between your bank and a mortgage broker from this point of view.

The process goes like this:

You go to your mortgage broker to get a loan. The first thing your mortgage broker does once he/she has your credit scores, down payment (equity) and the amount you want to borrow is find out if Fannie Mae (Freddie Mac) will buy your loan and under what circumstances.

It’s all computerized. Your mortgage broker inputs your information in the system, the system comes back with: you qualify or you don’t qualify. Actually, it comes back with numbers, percentages: how much you can borrow and what interest rate you’re going to get and how much the mortgage broker is going to make.

How Your Mortgage Broker Gets Paid (Usually

The interesting part comes here. Your mortgage broker is presented with 3 income levels for himself/herself. Which means: if he gives you the lowest interest rate you qualify for, he makes a low amount, if he gives you a higher one, he/she makes more money.

Specifically, it will come like this:

Interest rate of 5.04% – the mortgage broker earns 1.25% of the mortgage loan amount.

Interest rate of 5.15% – the mortgage broker earns 1.50% of the mortgage loan amount.

Interest rate of 5.30% – the mortgage broker earns 2.25% of the mortgage loan amount.

On a $200,000 home loan, this means your mortgage broker’s company can earn $2,500 or $3,000 or $4,500. Sometimes, overhead alone does not allow your mortgage broker to quote you the lowest interest rate you qualify for. Overhead makes many mortgage brokers turn away applicants who want to borrow small amounts.

Once your mortgage broker is assured that your mortgage fits Fannie Mae criteria and you’ve accepted the interest rate, he/she will look for a wholesale buyer who can work with your particular circumstances.

The wholesale buyer who gets your mortgage loan turns around and sells it to another wholesale outfit or to an investor (this could be a bank, a hedge fund, a pension fund, a private person or any company that has the money). I heard mortgage brokers complain they sold a mortgage loan for $X and the wholesale buyer sold it within a week for $6,000 or 7,000 more.

You make a lot of people a lot of money when you take out a mortgage loan.

Some of the biggest wholesale buyers are the big banks.

You could enter into an agreement with the mortgage broker whereby you pay them directly and there’s no spread premium (the mortgage broker does not get paid more if you get a higher interest rate loan).

Mortgage Broker Pitfall

Sometimes, your mortgage broker has a particularly good relationship with a particular wholesale buyer (they pay better, they are easier to work with, etc.). In this case, many a mortgage broker tries to get every customer they have to go through that wholesale buyer, even when there isn’t a good match.

That’s one of the occasions when your mortgage broker will ask you if you can bring extra money at the closing, if you have someone willing to co-sign. It is also when some mortgage brokers break the law.

As different mortgage brokers have different buyers for the mortgages they generate, different overhead and different profit margin needs, you get different interest rates. All of them, all mortgage lenders base whatever interest rate they quote you on the same thing, the rate the FED charges banks when banks borrow money from the fed.

Not Your Mortgage Broker’s Fault

Your mortgage broker has to work within this system, unless your mortgage broker is also a portfolio lender. To be a portfolio lender for all the mortgages he/she generates, your mortgage broker would have to have a lot of money, hundreds of millions. And, you’ve guessed it, most mortgage brokers don’t have that kind of money in their wildest dreams.

Also, your bank’s loan officers get you a higher interest rate so the bank can make more money too.  That’s why when you go to the bank you don’t get a better rate.  Banks and mortgage brokerages sell loans to the same wholesale buyers.  The difference: banks don’t have to disclose what they do.