Discussion Question CN (1) Web Investment Tracking Dow Jones Industrial Average Company Research Financial Web Sites Other Averages Online Brokers World

Discussion QuestionCN (1)

Web Investment Tracking Dow Jones Industrial Average Company Research Financial Web Sites Other Averages Online Brokers

World Advertised Investment Financial Pages Personal Investment Options

Technology Savings Plan Formula with Excel Savings Plan Formula with Excel Computing Roots

Copyright © 2011 Pearson Education, Inc.

Copyright © 2011 Pearson Education, Inc.

Managing Your Money

Copyright © 2011 Pearson Education, Inc. Slide 4-4

Unit 4D

Loan Payments, Credit Cards, and

Mortgages

4-D


Loan Basics

The principal is the amount of money owed at any particular time.

An installment loan (or amortized loan) is a loan that is paid off with equal regular payments.

An amortization schedule is a table of principal and interest payments over the life of a loan.

4-D


)(

APR11

APR

PMTnY

n

nP

PMT = regular payment amount P = starting loan principal (amount borrowed)APR = annual percentage rate n = number of payment periods per year Y = loan term in years

Loan Payment Formula(Installment Loans)

4-DStudent LoanCN (1-3) Suppose you have student loans totaling $7500

when you graduate from college. The interest rate is APR=9% and the loan term is 10 years.

1. What is your monthly payments?

2. How much will you pay over the lifetime of the loan?

3. What is the total interest you will pay on the loan?


4-D


Early in the loan term, the portion going toward interest is relatively high and the portion going toward principal is relatively low.

As the term proceeds, the portion going toward interest gradually decreases and the portion going toward principal gradually increases.

The portions of installment loan payments going toward principal and toward interest vary as the loan is paid down.

Principal and Interest forInstallment Loans

4-DPrincipal Interest PaymentsCN (4)

For the student loan in the prior question; 5. calculate the portions of your payments that go

to principal and to interest during the first 3 months.


4-D


Loan Amortization Example

4-DChoice of Auto LoansCN (5-7)

You need a $6000 loan to buy a used car. Your bank offers a 3-year loan at 8%, a 4-year loan at 9%, and a 5-year loan at 10%.

Calculate your monthly payment and total interest over the lean term with each option:

5. 3-year 6. 4-year 7. 5-year


4-D


Credit cards differ from installment loans in that you are not required to pay off your balance in any set period of time.

Credit Cards

A minimum monthly payment is required.

Monthly payment generally covers all the interest but very little principal.

It takes a very long time to pay off a credit card loan if only the minimum payments are made.

4-D


Credit Card Debt

Example: You have a credit card balance of $2700 with an annual interest rate of 23%. How much will you need to pay each month in order to pay off your balance over 1 year?

Solution:

You must pay $254.01 per month to pay off the balance in 1 year.

01.254$

120.23

11

120.23

2700$

APR11

APR

PMT112

nY

n

nP

4-DCredit Card DebtCN (8)

You have a credit card balance of $2300 with an annual interest rate of 21%. You decide to pay off your balance over 1 year.

How much will you need to pay each month? (Assume you make no further purchases)


4-DA Deepening HoleCN (9)

Paul has gotten into credit card trouble. He has a balance of $9500 and just lost his job. His credit card company charges interest of APR=21%, compounded daily. Suppose the credit card company allows him to suspend his payments until he finds a new job,

9. How much will he owe when he starts his new job?


4-D


Mortgages

A home mortgage is an installment loan designed specifically to finance a home.

The down payment is the amount of money you must pay up front in order to be given a mortgage or other loan.

Closing costs are fees you must pay in order to be given the loan. These include

direct costs, or fees charged as points, where each point is 1% of the loan amount.

4-D


Mortgages

A fixed rate mortgage is one in which the interest rate is guaranteed not to change over the life of the loan.

An adjustable rate mortgage is one where the interest rate changes based on the prevailing rates.

4-DFixed Rate Payment OptionsCN (10-11)

You need a loan of $100,000 to buy your new home. The bank offers a choice of a 30-year loan at an APR of 8% or a 15-year loan at 7.5%. Compare your monthly payments and total loan cost under the two options,

10. 30-year loan

11. 15-year loan


4-DClosing CostsCN (12-13)

Great Bank offers a $100,000, 30-year, 8% fixed rate loan with closing costs of $500 plus 2 points.

Big Bank offers a lower rate of 7.9%, but with closing costs of $1000 plus 2 points.

Evaluate the two options, 12. Great Bank

13. Big Bank


4-DPoints DecisionCN (14-15)

Continuing on the last problem, you decide to go with Great Bank’s lower closing costs. You learn that Great Bank actually offers two options for 30-year loans: an 8% interest rate with 2 points or a 7.5% interest rate with 4 points.

Evaluate your options. 14. 8% rate

15. 7.5% rate


4-D


Portions of monthly payments going to principal and interest over the life of a 30-year $100,000 loan at 8%

The Relationship BetweenPrincipal and Interest for a Payment

4-DAlternative StrategyCN (16-17)

An alternative strategy to the mortgage options is to take the 30=year loan at 8%, but to try to pay it off in 15 years by making larger payments than are required.

16. How much would you have to pay each month?

17. What are pros and cons of this strategy?


4-DAdjustable Rate MortgagesRate Approx. for ARM’s CN (18-19)

You have a choice between a 30-year fixed rate loan at 8% and an ARM with a first-year rate of 5%.

18. Neglecting compounding and changes in principal, estimate your monthly savings with the ARM during the first year on a $100,000 loan.

Suppose that the ARM rate rises to 11% by the fourth year.

19. How will your payments be affected?Copyright © 2011 Pearson Education, Inc. Slide 4-23

Documents

Discussion Question CN (1) Web Investment Tracking Dow Jones Industrial Average Company Research Financial Web Sites Other Averages Online Brokers World