Mortgage originators play a vital role in making the American dream come true for homebuyers from all walks of life. Behind the scenes, a key financial tool helps make that possible: the mortgage warehouse line of credit. In this guide, we’ll explain what a mortgage warehouse line of credit is, how it works, and how it can help you grow your lending business. 

What is a mortgage warehouse line of credit?

A mortgage warehouse line of credit is a short-term funding tool that allows mortgage originators, also known as independent mortgage bankers (IMBs), to finance home loans before selling them to investors. Warehouse lenders provide IMBs with access to large amounts of liquid capital to fund consumer mortgage loans. These lines of credit are typically geared toward primary residence mortgages that are later sold to Fannie Mae, Freddie Mac, or conventional mortgage loan buyers. In some cases, they can also support private lenders partnering with real estate investors who purchase properties for renovation or repositioning. 

IMBs draw upon their line of credit to issue mortgages to qualified individuals. Investors then purchase these mortgage notes from IMBs, who use the resulting funds to repay the warehouse lender and replenish their line of credit. 

Without mortgage warehouse lines of credit, lenders might not have the cash flow needed to keep up with demand, making it harder for qualified homebuyers to get the mortgage loans they need. 

Key players in the warehouse lending process.

Prospective homebuyers may not realize how their mortgages are handled, especially if they originated from a warehouse line of credit. Primary players in the warehouse lending process include warehouse lenders, mortgage originators, and investors. Learn more about the responsibilities each role assumes in the process of originating, funding, and closing mortgage loans. 

Warehouse lenders

Consumer, commercial, and mid-size community banks occupy the role of warehouse lender. This entity maintains the capital necessary for loans made to mortgage originators via short-term funding. All warehouse lenders must abide by federal and state banking regulations. 

Mortgage originators or IMBs

Mortgage originators, also known as IMBs, are non-depository banks. This means they differ from your average bank or credit union, where you can open and manage checking and savings accounts. Since IMBs don’t offer deposit accounts, they must rely on warehouse lenders to provide the capital necessary for funding mortgage loans. IMBs then make their profits by selling mortgage loans to an investor before paying back warehouse lenders. 

Investors

The investors who buy mortgage notes from mortgage originators typically include government-sponsored enterprises like Fannie Mae and Freddie Mac, commercial banks, and larger IMBs (called aggregators). These investors can purchase loans individually or in bulk (which are called mortgage-backed securities). When mortgage originators sell these mortgage loans to investors, the risk of the borrower defaulting transfers alongside the note. 

How mortgage warehouse lines of credit function.

Mortgage originators, or IMBs, tap into their mortgage warehouse line of credit by first originating a mortgage note that the warehouse lender uses to establish a revolving line of credit, complete with corresponding borrowing limits, interest rates, and repayment terms. The IMB then attempts to sell the note to an investor shortly after closing to recoup its investment. If and when the mortgage note sells, the IMB uses the profits to pay back the warehouse lender and renew the line of available credit. 

The warehouse lender and IMB enter into a contractual agreement, called a covenant. This covenant demonstrates the IMB’s promise to stay in good standing with the warehouse lender to retain the right to draw upon the offered line of credit. When the IMB wants to originate a loan, it must source funds from the line of credit. 

When the mortgage closing is scheduled, the IMB requests the warehouse lender send funds directly to the closing agent. In exchange, the IMB offers the mortgage note as collateral. If the warehouse lender agrees to the loan terms, they will send the majority of the funds, typically up to 98% (called the advance rate). The exact percentage depends on the IMB’s creditworthiness and standings.

The IMB then must supply the remaining portion of funds, referred to as the haircut. This portion acts as a buffer against potential loss on the warehouse lender’s part. IMBs typically cover this portion either through origination fees or its own capital. 

Once the closing agent receives the funds from the warehouse lender, the agent provides the lender with the mortgage note. The time between the loan origination and the time the mortgage note is sold to an investor is called the dwell time. During this dwell time, the IMB accrues interest on the loan. 

IMBs must have their own policies regarding originating, underwriting, and closing mortgage loans. They also must abide by the Real Estate Settlement Procedures Act (RESPA) and the Truth in Lending Act (TILA).

Benefits of a mortgage warehouse line of credit.

Mortgage warehouse lines of credit are generally considered low risk because they’re collateralized by a mortgage. They allow IMBs to originate mortgage loans efficiently without tying up large amounts of capital, thus making homeownership more accessible for borrowers. Below are some key benefits of mortgage warehouse lines of credit:

• Fosters competitive mortgage financing 
• Reduces consumer costs through lower costs to lenders 
• Promotes responsible mortgage lending practices 
• Enables mortgage originators to fund multiple mortgage loans at a time
• Replenishes once the mortgage loan is sold to an investor
• Encourages healthy mortgage lending practices 

IMBs and mortgage originators can foster mutually beneficial relationships with more than one warehouse lender (and vice versa) to increase available credit.

Mortgage warehouse lending drawbacks.

While mortgage warehouse lines of credit offer many advantages, they also come with operational and financial factors to consider. For example, excessive dwell time can lead to rising interest costs that can cut into any profits realized by the mortgage originator (or IMB). If the mortgage’s value declines, the warehouse lender may request more collateral to account for the difference. 

In short, these lines are most profitable to IMBs when loans are successfully sold to investors. If an investor fails to purchase a mortgage loan, the IMB is still responsible for repaying the warehouse lender. Mishandling a line of credit can strain relationships with warehouse lenders and potentially damage the IMB’s industry-wide reputation.

Warehouse lenders may also set strict qualification requirements in the covenants, especially for high-value mortgages. IMBs must continuously adhere to these covenants when working within the credit limits granted to them. Increasing these limits often requires time and experience.

Next steps in sourcing a warehouse line of credit.

If you’re exploring a mortgage warehouse line of credit, Popular Bank can help. Connect with a Middle Market Relationship Manager today to explore your options and learn how warehouse lending can support your mortgage origination goals.