Question

What is the before tax effective cost of funds for a $100,000 loan at 5.00 percent interest, with monthly payments amortized over 25 years if the lender charges 2 points at origination and the borrower will incur $2,700 in third party loan costs? Assume the loan is outstanding for the full loan term which is ten years.

1 5.00%

2 5.69%

3. 7.51%

4. 6.00%

Answer 1

2. 5.69%

The first step is to calculate an APR payment amount. This is done by adding your closing costs to your loan amount, and then calculating a new monthly payment at your loan's interest rate. In this case, if you borrowed ($100,000.00 + $6,700.00) at 5% for 25 years, your APR monthly payment would be $623.76. Notice that this is different than your actual payment of $584.59.

The second step is to calculate what interest rate produces a monthly payment equal to the APR payment amount. In this case, we calculate the interest rate that would require a $623.76 monthly payment on a loan of 25 years in the amount of $100,000.00. The result is 5.69% which is the APR for your loan.

Note: It is important to point out that the APR for a loan with no fees is always the same as the stated interest rate. If you have a loan where the lender pays you for taking a higher interest rate, your APR for that loan may be lowerthan the stated interest rate.