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Real Estate Division

Real Estate Finance in a Canadian

ContextBUSI 221: Project 2 Preparation

Sharon Gulbranson


3UNIVERSITY OF BRITISH COLUMBIA

Topics

• Introduction

• Debrief Project 1

• Project 2 Preparation

• Questions



Important Financial Calculations

and Formulation

• interest rate conversions

• payment calculations

• outstanding balance calculations

• Use of calculator steps

• Use of formulation—for example

PV = PMT x a[[N, jm]] + FV(1 + i)-N

FV = PMT x s[[N, jm]]


Multiple choice question 1

The daily interest rate equivalent to an annual rate of 8% per annum, compounded quarterly is:

(1) 7.92191047445%

(2) 0.0225841534%

(3) 8.243216%

(4) 0.0217038643%

UNIVERSITY OF BRITISH COLUMBIA 5


Calculator Steps

8 shift NOM%

4 shift P/YR

shift EFF% 8.243216

365 shift P/YR

shift NOM% 7.92191047445

÷ 365 = 2.17038643E-2

ida = 0.0217038643%




• If the maximum loan is $250,000 under LTV and $275,000 under GDSR, the overall maximum loan is:

(1) $250,000 because LTV takes priority

(2) $275,000 because GDSR takes priority

(3) $250,000 because the lender will choose the lowest value.

(4) $275,000 because the lender will choose the highest value.



Question 1 and 2: Residential and

Commercial Qualification

• Interest rates: Brief explanation, state rate and compounding frequency

• Show work

• Overall max loan, compare LTV and GDSR



Question 3: History of Rates

• Provide ample and detailed discussion

• Show graph and supporting table

• Look at general trends and specific blips in time

• Provide source explicitly and on table



Question 4: Mortgage Products

• Identify and compare basic and uniqueproducts

• Compare products and provide some details

• Give reasons for similarities/differences



Question 5: Mortgage Loan

Insurers

• Discuss all three mortgage loan insurers

• Include table

• Add some detail to list



Question 6: Internet Research

Project

• Follow framework: overview, description, and analysis

• On topic: legal issue related to mtgfinance

• Use headings/sub-headings

• Sample text required



Project 2: Chapters 9-12

• Part A: Short Answer Questions

60 marks

5 questions

mostly calculations (chapter 9/10 concepts)



Project 2: Part B (40 marks)

Mortgage Case Study

• Residential Mortgage Underwriting Analysis

OR

Commercial Research Project

• 1,000 word term paper



Part A: Question 1

Arrears and Default

• See lesson 8 review/discussion question 3

• Parts (a) and (b): pmt and OSB

• Use a time diagram for part (c)

• Several techniques to solve (c)



Question 1: Arrears and Default

• Basic Formulation:

• OSB = FV of loan assuming no payments – FV of payments actually made

• OSB = PV(1 + i)N - PMT x s[[N, jm]]




• With a loan amount of $550,000 and an interest rate of j2=10.7% over an amortization period of 20 years, calculate the monthly payment rounded up to the next higher $10.

(1) $5,480

(2) $5,500

(3) $5,565

(4) $5,570



Calculator Steps

10.7 shift NOM%

2 shift P/YR

shift EFF% 10.986225

12 shift P/YR

shift NOM% 10.4689935707

550000 PV

240 N

0 FV

PMT -5,479.63884134



Time Diagram

April 1: Loan

Begins

May-Nov: Pmts

of $5480/mo for

7 months

Dec 20th:

late pmt

Jan 1st:

50% pmt

Feb and

March: no

pmts

Mar 1st:

OSB = ??



Lesson 8:

R/D Question 3 (Part (c))

• Option 1: FV of loan (no payments) - FV of payments actually made

• First, find the FV of loan (no payments) as at March 1

• NB: Loan begins April 1 of previous yr

• FV = $550,000(1+imo)11

• FV = $605,144.86



R/D Lesson 8, Question 3

• Deduct the FV of first 7 payments (made in full and on time)

• May 1 – Nov 1 payments

• Use a two step process to solve:

• FV= $5,480 x s[[7, j12]](1+imo)4

• FV= $39,378.70(1+imo)4

• FV= $40,770.97




• Deduct the FV of Dec 20th payment

• FV=(Dec 1 equivalent pmt)(1+imo)3

• where Dec 1 equivalent pmt =

• PV = $5,480(1+ida)-19

• PV = $5,450.35; therefore,

• FV = $5,450.35(1+imo)3

• FV = $5,594.25




• Deduct the FV of Jan 1st payment

• Jan 1st payment = 50%($5,480) = $2,740

• FV = ($2,740)(1+imo)2

• FV = $2,788.02




• Summary: OSB as at March 1

• FV of loan (no payments ) – FV of all payments made

• FV = $605,144.86 – ($40,770.97 + $5,594.25 + $2,788.02)

• FV = $605,144.86 - $49,153.24

• FV = $555,991.62





• Option 2: Find OSB as you go through time (current balance) and adjust payment as required

• i.e., find the OSB7 with regular payment

• then adjust payment to December 1st equivalent and find OSB one period later etc.



• Option 3: Find OSB at end assuming all payments are made (in full and on time). To this OSB, add the FV of shortfall in payments

• OSB = OSB regular + Pmt x s[[n, j12]] AND/OR + PV(1+i)N where PMT and PV are the shortfall amounts



Question 2: Extra Payments

Part (a): find payment and OSB on regular terms

Part (b): impact on OSB if Katie makes additional payments of $100/month

Part (c): impact on OSB if Katie makes $100/month additional payment AND a lump sum payment at end of 2nd year



Question 2, Part (c)

• = OSB from part (b) – FV of lump sum payment

• Use following formula for FV calculation:

FV = PV(1+imo)N



Part (d)-accelerated biweekly

vs monthly payment

• Find interest savings over term and over amortization period

• Summarize results in a table and briefly comment

• HINT: Solve for all monthly calculations (term and amortization) and then switch to accelerated bi-weekly

• Use of INPUT and AMORT keys




Of the following repayment schemes, which one of the following is best for addressing interest rate risk?

(1) Straight line principal reduction loans

(2) Variable rate mortgages

(3) Participation mortgages

(4) Interest only loans



Variable Rate Mortgages (VRMs)

• What is it?

Change in interest rate on regular basis throughout the term of the mortgage

• Why have VRM?

Reduced interest rate risk for lender (however, increased borrower uncertainty)



Variable Rate Mortgage (VRM)

• Changes in rates can be reflected as changes in amortization, payments, amortization and payments, or OSB

• VRM can be “open” or “closed”

• Mortgage rate typically changes in line with the prime rate over the term of the mortgage



Question 3:

Variable Rate Mortgage (VRM)

• Year 1: with chosen rate, find pmt and OSB12

• Year 2: yr 1 rate + 0.5%, PV is OSB12

• With yr 1 pmt, solve for amortization and ensure <25 years

• If ok, solve for OSB at end of 2nd year

• If not, recalculate pmt, round up and then solve for OSB



Question 3

• Year 3: with year 1 rate -1%, OSB at end of year 2 is new PV, and payment , solve for OSB at end of year 3

• Summarize results in a table



Fixed or Variable?

• Borrowers have the advantage of lower interest costs if rates stay flat or decline, but risk of increased costs if rates rise

• VRMs allow lenders to better match assets and liabilities

• Choice for borrower depends on borrower’s risk preferences, beliefs about interest rate trends, and terms of loan



Refinancing: When?

• pay off loan at the end of the term (mandatory refinancing)

• pay off loan during the term (voluntary refinancing)

Cost/Benefit Analysis

• Benefit: reduced rate

• Cost: renewal fees; legal, survey, and appraisal fees; prepayment penalty; inconvenience



Why Refinance?

• Mandatory refinancing - term is up

• More attractive terms - reduced interest rate

• Release equity

• Improved financial leverage

• Enhance sales potential (if get reduced rate)



Refinancing Options

• NEW FIRST MORTGAGE

• SECOND MORTGAGE

• BLENDED RATE MORTGAGE



Question 4: Refinancing with 2nd

Mortgage

• Find max 2nd mtg and total financing subject to LTV and DCR constraints

• Find ANNUAL payment and OSB today on existing mortgage

• LTV: find max total financing and max additional financing

• Income: Calculate NOI, apply DCR to obtain max total payment



Question 4

• Using max additional 2nd mortgage payment and 2nd mortgage rate, solve for maximum loan

• Compare max loan under LTV and DCR to determine overall additional funds and from that determine overall total maximum loan




A SAM participation mortgage stands for:

(1) single annuity mortgage

(2) simple annual mortgage

(3) shared appreciation mortgage

(4) shared annuity mortgage



Participation Mortgages

Participation helps hedge the risk associated with inflation

The lender participates in one of two ways:

• taking a portion of the income OR taking a part of the gain in value when the property is sold

How does it work? The lender normally charges a lower interest rate than on a std first mtgor increased amortization in exchange for some participation



Why Offer Participation Loans?

• pressure to increase yields

• strong competition for available investment funds

• lender’s desire for protection (hedge) against the impact of unexpected inflation on LT fixed yield instruments

• opportunity to improve mortgage yields



Question 5: Participation Mtg

(Income and SAM)

• Participation in two ways: in income and appreciation of property

• Calculate the payment and OSBterm for base loan

• Calculate the shared NOI amount and add to payment

• Calculate the shared appreciation amount and add to OSBterm



Question 5: Lender’s Yield for

Participation Mtg

• PV = PMT x a[[n, jm]] + FV(1+i)-n

• Where:

• PV is the original loan amount

• PMT is the sum of the regular payment + participation payment

• FV is the OSBterm + share in appreciation

• N is the term



Part B: Mtg Case Study: Res’l

Mortgage Underwriting Analysis

Use of two primary websites to gather data:

www.canadamortgage.com

www.realtor.ca




47


canadamortgage.com

48



• Used to set parameters of affordability for case study

• Determines range of prices you can afford and is used to determine payment obligations with chosen property

• Include two documents from this site: part (b) and part (c) data

49


www.realtor.ca

50


www.realtor.ca

51


www.realtor.ca

• Pick residential property or condo for sale that you can afford (based on down payment)

• include a printout of the selected property

52


Part (a)

• Calculate family income and cash reserves (using table at beginning of question)

53


Part (b and c)

• Determines range of prices that you can afford and select property to purchase

• With chosen property, determine down payment, mortgage payments, and other fees

• Include attachments

54


Part (d)

• What happens to pmt when term and amortization changes? Support with numbers.

• Determine % of income allocated to mtg payments and total pmt (before AND after tax)

• Comment on affordability

55


Part (e)-Down Payment

• State % of down payment and thoroughly explain why you set it at this amount

• Discuss , in general, the purchaser’s preferences for the chosen down payment vs mortgage underwriter’s preferences

56


Part (f)-

Mortgage Loan Insurance (MLI)

• Is MLI insurance required? Explain

• If MLI is required, state cost of mtginsurance

• How is MLI paid for?

• If MLI is not required, explain why and explain the benefits of not having it

57


Part (g)

• Calculate total cash after costs

• Comment on impact, if any, on maximum purchase price

• Support with calculations, if possible

58


Part (h)

• State and briefly explain four factors (other than household income) that a lender uses to determine the size of the loan

59


Part B:

Commercial Research Project

• 1,000 word term paper on commercial financing,

commercial underwriting, development financing, or

leasehold financing

• More comprehensive than internet research paper in

Project 1

• Graded on writing ability, critical thinking, explanation

of main points, and in-depth analysis of topic

60


Questions?


Documents

REAL ESTATE DIVISION Welcome to the Webinar! · REAL ESTATE DIVISIONWelcome to the Webinar! Real Estate Division The session will begin shortly. While you wait: Audio testing: If