Question

You are considering refinancing a rental property of yours.

Based upon the following data would you refinance? (Show Work) (5 points)

Current Loan: $105,000 @ 9.5 interest

New Loan: $105,000 @ 8.5 interest

Financing costs on new loan: 1 point origination fee

1 point discount

$1,200 closing cost

Assume a 20—year term on both loans. No prepayment penalty on current loan.

Investor’s desired rate of return is 9%.

Expected holding period of 5 years.

Answer 1

Existing loan:

Yearly payments of existing loan= $11,915.05 as follows:

Amount to pay off after 5 years= PV of future payments

= $11,915.05 *PVA(9.5%,15) = $11,915.05 * 7.828175 = $93,273.12

Present value of total payments of existing loan (discounted at desired rate of return)=

=$11,915.05 *PVA(9%,5) + $93,273.12*PVIF(9%,5) =$11,915.05*3.889651 + $93,273.12*0.649931

=$46,345.40 + $60,621.13 = $106,966.53

New Loan:

Origination fee (1%) and discount fee (1%)= $105,000*2%= $2,100

Closing cost= $1,200

Yearly payments= $11,095.45 as follows:

Amount to pay off after 5 years= PV of future payments

=$11,095.45 *PVA(8.5%,15)= =$11,095.45*8.304237 =$92,139.26

Present value of total payments of new loan (discounted at desired rate of return)=

=$11,095.45 * PVA(9%,5) + $92,139.26*PVIF(9%,5) + $2,100 + $1,200

=$11,095.45 *3.889651 + $92,139.26*0.649931 + $2,100 + $1,200

=$43,157.44 + $59,884.20 + $2,100 + $1,200 = $106,341.64

Decision:

Since present value of costs of new loan is less, the loan shall be refinanced.