What’s the difference between a lender and a broker?

When you are shopping around for the best mortgage, it can be tough to figure out if you should go with a mortgage broker or a mortgage lender.

Both brokers and direct lenders are mortgage professionals who work to help you finance or refinance a home loan. Choosing one or the other really depends on your personal situation and preference, but it's wise to go with someone local, says Kurt Johansson, senior loan originator at Shelter Mortgage in Nashville, Tennessee.

"I believe it's always best to go with a local lender, so you have a face and a point of contact to deal with during the mortgage process," says Johansson. 

Here are some of the main differences between brokers and lenders:

How they operate

Think of mortgage brokers as middlemen. They have a range of lending sources and may deal with up to 10 wholesale lenders to find a loan for their clients, says Jack Guttentag, professor emeritus of finance at the Wharton School of the University of Pennsylvania.

While they don't lend money, brokers do have the ability to shop around on behalf of their clients. And not only do they handle the interactions with lenders, they also do all the paperwork for you.

Of course, because they're the middlemen, brokers have to send off loans to be underwritten and closed on, says Johansson.

Direct lenders, on the other hand, are more of a one-stop shop. "We do all processing, underwriting and closing functions in-house," says Ray Rodriguez, regional mortgage sales manager for TD Bank in New York City.

What does that mean for a prospective borrower? Brokers offer more options, while direct lenders have more control from start to finish and may make the process a little more straightforward, says Johansson.

Regulations

One of the biggest differences between lenders and brokers is that lenders are federally chartered, says Rodriguez.

"We actually have to subscribe to more regulations than the mortgage broker," he says. That can be a good thing.

Rodriguez says that because they are federally regulated, they are even more diligent about dotting every "I" and crossing every "T." They don't want to get hit with big fines if they do something wrong.

That's not to say that mortgage brokers aren't just as diligent.

Mortgage brokers are licensed state-by-state. And they subscribe to the requirements of each individual state, notes Rodriguez.

Licensing

"Brokers must be licensed in any state in which they originate loans, so most are limited to one or a few states," says Guttentag.

Direct lenders must also be licensed in any state where they originate loans, but most of them lend in multiple states, he says. And national banks, of course, can lend in all 50 states.

If you're looking for an out-of-state loan, you could be better off going with a large regional or even national lender.

But Guttentag says that most prospective borrowers won't have to worry about it, since the lenders you come in contact with will be those who can lend in your area.

You can also look up licensing credentials for lenders and brokers using the Nationwide Multistate Licensing System (NMLS) Consumer Access portal.

Flexibility

Mortgage brokers are generally subject to the guidelines of their investors or wholesale lenders, while direct lenders may be able to make their own judgments.

That gives direct lenders a little more flexibility when it comes to approving borrowers, says Rodriguez. "We do have this flexibility to move around our own guidelines, depending on the customer and how we feel about the overall transaction.”

That's undeniably a plus. Flexibility can be especially beneficial in situations where a subjective decision or small exception is required.

Additionally, direct lenders have the power to offer breaks on mortgage rates or portfolio-based offers that brokers may not have access to, says Rodriguez.

Much of that is due to the fact that banks are looking to develop a long-term relationship with a customer. "There's a value to us to gain a customer," he says. Those seeking a loan may open a checking account, a savings account or a credit card, for instance.

That said, mortgage brokers may have access to sources of funds that can help meet certain needs, such as for borrowers with less-than-stellar credit, very high debt loads, or for those who are self-employed or get their income from investments. A direct lender may have flexibility within their own offerings, but a broker may have many sources of funds and products.

After the loan closes

One often overlooked difference between brokers and lenders is what happens to the loan after closing.

Brokers sell their loans off to investor after the loan closes, says Johansson, or close loans in the name of other institutions. And those loans may get sold again.

While the borrower may know who is servicing their loan, they may not know how or who to contact, says Rodriguez. Confusion over who is responsible for a a borrower's loan has occurred in the past.

Where brokers aren't involved at all in the servicing of the loan, a direct lender may service all of their own loans. If a customer has a concern about the escrow or principal on their loan, they can simply walk into a branch and ask, Rodriguez says.

Mortgage fees

Guttentag says that there isn't a major difference between what mortgage brokers charge to originate a loan versus direct lenders.

However, it's important to ask about fees and compare costs. Your mortgage lender is required to provide you with the CFPB’s "Loan Estimate" form three business days after submitting your loan application. It details your loan terms, expected fees and closing costs. Also, three business days before closing, your lender is required to provide you with the CFPB’s “Closing Disclosure” form, so you can get a review everything before closing and sign off on the final terms.

Next steps

While their back-end functions may be different, it can be helpful to consider mortgage bankers, lenders and brokers collectively as retailers. Not all retailers offer the same products, prices or service, and it's important to shop among a range of retailers available to you to ensure you get the right deal for your situation.

Ready to shop for a mortgage? Compare current mortgage rates and shop offers from mortgage retailers.

This article was revised by Keith Gumbinger.