How are Par Rates Derived by Banks?

Par rates are basically the rate that the lender can deliver a loan to the secondary market for full face value. Lenders typically charge a 1 point origination fee to generate revenue. 1 point is 1% of the loan amount.

The par rate is where the bond market would pay 100% of the face value of the loan. Below par means that the lender would receive less than the face value, which means then that the lender would charge points to make up for that loss. Above par means that the lender would receive more than face value. One trick would be to select a rate that offers 101% of the face value, allowing the lender to profit from the delivery of the loan instead of the collection of the origination fee.

That said, there are loan level price adjusters charged by Fannie Mae and Freddie Mac that will influence the numbers. For example, a 680 FICO at 80% LTV for a loan carrying a term over 15 years carries a 1.5 point adjuster. This can either be covered as additional fees (1.5% of the loan amount). Or as a higher rate (using the over par pricing to cover the adjuster).