Question

A family purchased their apartment 8 years ago for $120,000. The home was financed by paying 20% downpayment and signing a 30-year mortgage (adjustable rate mortgage) at 6.0% per year compounded monthly on the unpaid balance. Equal monthly payments were made to amortize the loan over a 30-year period. The family needs to borrow some $40,000 and they are considering borrow a home equity loan.

1. What is the mortgage balance after 8 years (i.e. now)? (6 points)

2. Value of the apartment is now $145,000 and the family can borrow a home equity loan of up to 70% of the equity of the apartment. What is the maximum amount the family can borrow? (4 points)

3. A financial advisor suggests the family to refinance the apartment instead. That is, repay the current mortgage and apply for a new mortgage. Do you agree with the advice? Why? What will you propose otherwise? (10 points)

Answer 1

(B)

Maximum amount the family can borrow :

Value of Apartment = $ 1,45,000

Value can be borrowed = 70%

Therefore, maximum value that can be borrowed = $1,45,000 *70% = $1,01,500.

(C )

Refinancing application points to be considered :-

1. As the firms equity value has been increased from $1,20,000 to $ 1,45,000 hence it can apply for a new loan.

2. Lendens will also considen debt - to - income ratios while some factors such as high income, a long and stable job history or substantial savings, may help to qualify for a loan.

3. Refinancing usually costs between 3% and 5% OF the total loan amount. But we are having a enough equity, to roll the costs into a new loan, increasing the principal.

4. While many borrowers focus on the interest rate, it is important to establish goals when refinancing to determine which mortgage product meets our needs.

If goal is to reduce monthly payments as much as possible, we will want a loan with the lowest interest rate for the longest term.

If we want to pay less interest over the length of the loan, we have to look for the lowest interest rate at the shortest term.