Closed-End Mortgage

Does a closed-end mortgage mean there might be an end to the mountains of paperwork that must be signed at a home purchase closing? Unfortunately not.

A closed-end mortgage is a rather restrictive type of mortgage, but if you are willing to put up with the restrictions, you can save a lot of money by getting a lower interest rate.

So what are these restrictions and how do you decide if you can live with them?

For starters, you can’t refinance the home to get an even lower interest rate down the road. (It happens.) You also can’t renegotiate the terms of the loan such as changing from a 30-year mortgage to a 15-year, or vice versa. The big restriction is that you can’t take out a home equity loan or a home equity line of credit. These types of loans can come in very handy if you have a large home improvement project or need extra cash for an emergency. Lastly, the bank won’t even let you prepay the mortgage without paying a substantial “breakage fee.” Let’s say Tom has decided he made a big mistake taking out a closed-end mortgage and wants to refinance with another bank to get a new open-end mortgage. He would first have to pay off the closed-end mortgage and pay the breakage fee to his old bank.

The reason for all these restrictions? The bank figures that, if they are going to offer a lower mortgage rate, they don't want to have to stand in line with other lenders if you happen to default on your mortgage loan. Less risk to the lender means a lower rate for you.

If you think you'll be in your home for a long time, and you make enough money so you would never need a home equity loan, a closed-end mortgage might be for you. But none of us has a crystal ball (unless you're a fortune teller), so make sure you know all the trade-offs before you sign on the dotted line(s).