L3 Financing Real Estate to Students

5 10 12 question what happens if the monthly payment

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Unformatted text preview: term loan)? II. Fixed Rate Mortgages (FRMs) A fixed rate mortgage (FRM) is any loan having an interest rate that remains unchanged over the life of the mortgage. The typical term of fixed rate mortgages varies from 10 to 30 years. The most popular fixed-rate mortgage is the fully amortized loan. Advantages?? Disadvantages?? Important Issues Assets Mortgages Liabilities Deposits Mortgage lending is long-term, say, 10 years, 15 years, or even 30 years (HK) Mortgages are subject to high interest rate risk. Market interest rate increases Market value of mortgages decreases Market interest rate decreases Market value of mortgages increases Banks need liquidity in order to make more new loans to more borrowers Banks are concerned about the quality of mortgages gauged by LOAN-TO-VALUE ratio Borrowers want to save interest cost whenever possible. Want a product that will (1) reduce the loan-to-value ratio quickly and (2) save interest cost to borrowers?? 1 . Grow ing - Equity M ortgages (GEM ) GEM has provisions that m ay appeal to many homeowners. “With the GEM mortgage, loans of 80, 90, or 95 percent loan-to-value ratio are common, with fixed interest rates and loan terms of 25 to 30 years.” Mortgage interest rate is fixed, but monthly payments rise by a predetermined 3 to 4 per cent a year. Increase in the amount of the monthly payment is used to reduce the mortgage balance, thereby accelerating the payoff on the mortgage. GEM contd Example. Consider a 20-year, fixed rate, $10,000 mortgage with an interest rate of 12%. With a GEM mortgage, the initial monthly payments are determined using 12% and 20-year term. The monthly payments will increase by 3.75% per year with the increase in payments applied to principal. GEM Contd Schedule of Payments and Amortization for GEM Loan = $10,000, Mortgage Interest Rate = 12%, Annual increase of payments = 3.75%, Term = 20 years Year Monthly Payment Annual Interest Annual % Principal Principal repaid Remaining Balance 10000 $9,871.80 $9,674.97 $9,398.85 $9,031.34 $8,558.74 $7,965.52 $7,234.12 $6,344.65 $5,274.62 $3,998.57 $2,487.76 $709.66 $545.49 $379.67 $212.20 $43.05 $0.00 Schedule of Payments and Amortization How would the payments compare with those under conventional fixed rate mortgage?? 0 1 2 3 4 5 6 7 8 9 10 11 12 12+1 12+2 12+3 12+4 12+5 TOTAL $110.11 $114.24 $118.52 $122.97 $127.58 $132.36 $137.33 $142.47 $147.82 $153.36 $159.11 $165.08 $171.27 $171.27 $171.27 $171.27 $6.76 1193.10 1174.02 1146.14 1108.08 1058.33 995.12 916.50 820.23 703.78 564.28 398.52 202.84 7.10 5.45 3.80 2.12 0.43 10299.86 128.20 196.83 276.12 367.51 472.60 593.21 731.40 889.47 1070.04 1276.04 1510.82 1778.10 164.17 165.81 167.47 169.15 43.05 1.3% 3.3% 6.0% 9.7% 14.4% 20.3% 27.7% 36.6% 47.3% 60.0% 75.1% 92.9% 94.5% 96.2% 97.9% 99.6% 100.0% GEM Contd. If the mortgage is a conventional 20-year, fixed rate mortgage, then the monthly payment will be $110.11 for 240 months. Total interest will be $16,426.07 (= 110.11 * 240 - 10,000). Total interest paid in GEM = $10,299.86 GEM will save $6,126.21 for the borrower in total interest...
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This note was uploaded on 09/06/2010 for the course FINA FINA0805 taught by Professor Tse during the Spring '09 term at HKU.

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