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Mortgage Designs

Mortgage Designs. Jujie Hao. Basic Dimensions. Price - Down payment = Borrowed Down payment typically 10% of selling price, but 20% is the magic number Time period for the loan: 15, 20, 30 …years Months=n Interest rate (r): FRM vs. ARM Points? 1 point = 1% of loan amount

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Mortgage Designs

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  1. Mortgage Designs Jujie Hao

  2. Basic Dimensions • Price - Down payment = Borrowed • Down payment • typically 10% of selling price, but 20% is the magic number • Time period for the loan: 15, 20, 30 …years • Months=n • Interest rate (r): FRM vs. ARM • Points? • 1 point = 1% of loan amount • Origination points • Discount points

  3. Fixed-rate mortgage (FRM) • Interest rate and monthly payment are fixed. • Standard, conventional • Monthly payment

  4. Adjustable Rate Mortgage (ARM) • Interest rate and monthly payment are both variable (e.g., adjustable). • The rate is based on both the movement of index and spread • Benchmark: COFI , CMT, LIBOR • When the associated index moves and an adjustment period occurs, the lender • changes the interest rate by the amount allowed (up or down) • recalculates the monthly payments

  5. Adjustable Rate Mortgage (ARM) • Frequency of rate change - how often the lending institution can change the ARM interest rate. • depends on the specific terms • Rate cap - limitations on either the increase or the decrease in the ARM interest rate that can occur at a point in time. • Example: Excel file

  6. Pro & Con (FRM) • Advantages: • future housing costs are known with relative certainty (only possible changes are property taxes, insurance, and utilities) • interest deductions from income taxes are high during the early years of the loan • Disadvantages: • more difficult for young households (with lower incomes) to qualify • If the market interest rate goes down, cannot pay less • Tax advantages lessen over time

  7. Pro & Con (ARM) • Advantages: • Initial interest rates are typically lower • Save a lot, If the rate is expected to fall in the future • Disadvantage: • Greater uncertainty about what future mortgage payments will be

  8. Balloon • Definition - A type of short-term mortgage. Balloon mortgages require borrowers to make regular payments for a specific interval, then pay off the remaining balance within a relatively short time.

  9. Advantages of a 5-Year Balloon Over a 5-Year ARM • refinancing at current market rates (guaranteed in Canada), but ARM based on contract. • Lower price

  10. Advantages of a 5-Year ARM Over a 5-Year Balloon • ARM provides valuable protection against a future interest rate explosion • ARM does not penalize the borrower whose credit has deteriorated during the 5-year period • the balloon borrower need consider refinance costs at the end of year 5 • Suggestion!!! Select the balloon only if you were 90% sure that you would be out of the house before the end of the balloon period. If you were less sure, the small price advantage of the balloon would not compensate for the greater risk.

  11. Conclusion • Understand the basic theory • Compare rates • Think about the economy • Get the timing right • Others • Graduated Payment Mortgage (GPM) • Reverse Equity Mortgages (REM)

  12. Reference • http://www.wikihow.com/Get-a-Loan • https://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=web&cd=4&ved=0CEgQFjAD&url=http%3A%2F%2Fweb.utah.edu%2Fbasford%2Ffamilyfinance%2Fdocuments%2FSec3b_000.ppt&ei=n4qNUcXzOsHuigLI_IG4DQ&usg=AFQjCNHlmVlOWh451_xdxvwB-kjVbzF9Hg&sig2=fWakZ8XeS8N3NOihY-FIZA&bvm=bv.46340616,d.cGE&cad=rjt • http://www.zillow.com/mortgage/help/Qualifying-For-A-Mortgage.htm • http://www.realtor.com/home-finance/pre-funding-closing/what-is-mortgage-point.aspx • http://www.mtgprofessor.com/a%20-%20balloon%20loans/balloon_mortgages.htm • http://www.investopedia.com/terms/b/balloon-mortgage.asp • http://www.investopedia.com/articles/mortgages-real-estate/10/mortgage-indexes-know-benchmark.asp • http://home.howstuffworks.com/real-estate/how-often-do-adjustable-rate-mortgages-change.htm • http://www.foxbusiness.com/news/2012/07/18/stern-advice-designing-your-own-mortgage/

  13. Thank you!!!Questions?

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