Warehouse lending is a specialized type of credit line that allows mortgage lenders to fund mortgage loans to a borrower without using the lenders’ own capital. Lenders that use warehouse financing typically resell the loan to a secondary investor and use the proceeds to repay the warehouse loan.
Keep reading to learn how warehouse lending works, why it’s used, and the benefits it can have.
Definition and Examples of Warehouse Lending
Warehouse loans often function as a specialized line of credit available through traditional banks or specialized lenders, giving mortgage lenders the chance to finance a mortgage loan without tapping into their capital reserves. This form of interim financing is used until the loan closes, when the lender typically resells the mortgage to a secondary market investor.
Financial institutions that use warehouse lending include private debt funds, mortgage real estate investment trusts, small mortgage bankers, and credit unions.
Warehouse lending is not the same as mortgage lending. Although mortgages are involved, the warehouse lender is not the direct mortgage lender. Warehouse lending is a type of commercial asset-based lending.
For example, let’s say a first-time homebuyer applies for a mortgage through a mortgage lender. Both parties agree to the loan terms and the loan closes. Instead of relying on its own cash reserves, the bank takes out a warehouse loan to finance the mortgage. The homeowner then receives the funds, and the mortgage lender resells the mortgage loan on a secondary market, using the proceeds to repay the warehouse loan.
- Alternate names: Warehouse line of credit, warehouse advance, warehouse financing
How Does Warehouse Lending Work?
With warehouse lending, the mortgage lender is responsible for handling the loan application and the approval of the loan. When it’s time to fund the loan, the warehouse lender advances the funds to escrow on behalf of the mortgage lender.
Financial institutions rely on warehouse lending to preserve their cash reserves and to maintain liquidity. If a bank were to rely entirely on its own capital, it may not be able to meet the funding requirements on all its loans, which could limit the number of loans it could offer, thus limiting its profitability. Using a warehouse line of credit allows a bank to meet those funding requirements. The bank would draw from this line until it can resell the mortgage on a secondary mortgage market.
Warehouse lenders can offer either wet funding or dry funding, similar to wet and dry closings. For wet funding, the warehouse loan advances the amount when the loan closes and reviews the loan documentation after funding, which presents a higher risk to the warehouse lender. With dry funding, the warehouse lender reviews the mortgage loan documents prior to disbursing the requested credit.
After the mortgage loan is financed via warehouse lending, the newly closed mortgage is held on a warehouse credit line for a specified period. Often referred to as “dwell time,” the loan is warehoused typically between 15 and 30 days, depending on the lender. It is then resold to secondary investors, such as Fannie Mae, Wells Fargo, government-sponsored enterprises, or the Federal Housing Administration. Be aware that some warehouse lenders may charge a dwell fee when the outstanding loan has been warehoused for too long.
It’s important to note that even though the mortgage loan is financed through a warehouse line of credit, the mortgage loan can still be closed in the bank’s name. Furthermore, a warehoused loan would not affect the borrower’s payments or any other terms agreed upon at closing.
Is Warehouse Lending Worth it?
Warehouse lending can offer several advantages to mortgage lenders and, in turn, the borrower. Some of the benefits are:
- Flexible use of loan proceeds: Some warehouse lenders allow you to use the proceeds for more than conventional mortgages. In some cases, you can draw on the line of credit to finance reverse mortgages, manufactured housing, and construction loans.
- Generous amounts available: Some warehouse loans are available in amounts of $1 million to up to $150 million, depending on the warehouse lender. These large credit lines can allow mortgage lenders to fund multiple mortgages—even those for extremely expensive properties.
- Revolving credit: Unlike a conventional term loan, a revolving credit allows lenders to draw funds on an as-need basis. Moreover, amounts that were already repaid are often available for reborrowing during the life of the credit line.
- Fast funding: Warehouse lending can be ideal for lenders that need funding right away. A warehouse lender can potentially fund within the same day the amount is requested, depending on the terms of the agreement.
Warehouse lending is a good option for small or medium-sized banks. Through this type of loan, a financial institution could make money from the fees and the sale of the loan, rather than earn interest on a mortgage loan.
Requirements for Warehouse Lending
Financial institutions need to meet certain requirements to qualify for a warehouse loan. The qualifications can be extensive, such as demonstrating a track record of profitability and having top-quality references. Some lenders may require a minimum net worth in the company—$500,000, for instance—while meeting liquidity requirements, too. Other qualification criteria can include minimum time in business, a personal guarantee, and satisfying a certain leverage ratio.
The Great Recession of 2008 negatively affected the housing market—warehouse lending included. In the fourth quarter of 2006, there were 90 warehouse lenders in the United States. By March of 2009, that number dropped to only 10. Many financial firms filed for bankruptcy due to the shortage of short-term financing that warehouse lending offered. This led many mortgage originators to lobby for financial support from the federal government, suggesting direct loans, guarantees, and more. Although a bill was proposed, it never passed the Senate Banking Committee.
- Warehouse lending is a type of financing—usually a line of credit—that mortgage lenders use to fund mortgage loans.
- Dwell time refers to the time a loan is spent “warehoused” until it is resold on a secondary market.
- When a mortgage loan is financed with a warehouse loan, it does not affect any of the loan terms agreed upon at closing.
- Warehouse loans can be beneficial because they offer generous amounts of funding, can function as revolving credit, and provide fast funding.