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A Step By Step Approach To Mortgage Calculators (Page 3) Step 5: Considering Present Value Let us now consider present value or the time value of money. We are going to apply present value to the results generated in Step 2. Again, compare two amortizing loans with all the same terms except the interest rate. So click here for COMPARE TWO MORTGAGES USING PV (Type 1). The default balances for the both the new loan and old loan are $100,000. The default "Mortgage Terms" for both loans is 30 years. The default rate for the new loan is 4.125% and the default rate for the old is 5.125%. However there are two additional input fields; 1) an input field for a discount rate, and 2) an input field for the costs to close the loan. The discount rate field has a default value of 5.125% and the "costs to close the loan" field has a default value of $2,500. For now just leave these set to their default values. Generating the results will show 1) a difference in the rates of 1.00%, 2) a difference in the monthly payment of $59.84, 3) a difference in total interest payments over the life of the two loans of $21,541, 4) a difference in total payments (principal & interest) over the life of the two loans of $21,541, 5) a present value of $11,136, 6) a cost to refinance of $2,500, and 7) a net of $8,636. The schedule at the bottom will display the details relating to the differences in the annual payments and the present value of each of those differences. Please note the following important assumptions: 1) Closing costs of the loan, which would include lawyer's fees, title insurance, loan application fees, appraisal fees and any other fees associated with closing and processing the loan. 2) In determining a discount rate we assume a flat yield curve. It would be much too complex to construct a yield curve using current treasury prices by applying a process referred to as cubic splining and then subsequently discounting the difference in the cash flows between the two mortgages using the various rates along the curve that coincide with the various cash flows. It is deemed sufficient for consumer purposes to assume a flat yield curve. If you are the average consumer and you read the above paragraph then your head is probably spinning, but if you are a professional trader of bonds then you have probably interpreted what I wrote. This is a great little analysis. It is 1) clean, 2) straight forward, and 3) relatively easy to interpret. However there are some limitations to this type of mortgage calculator; i.e. 1) no ability to adjust for an early pay off of the loan, and 2) no ability to adjust for a loan which may have already begun amortizing. In comparing the result from Step 2 to the results here in Step 5, it becomes apparent that the time value of money can have a significant effect on the results. The difference in the cash flows between the two mortgages is $21,541, but the present value of the differences in cash flows is $11,136. Subtract the cost to refinance of $2,500 and we are left with $8,636. This further assumes that we will hold the property and the loan until maturity. If you are interested in applying an adjustment for terminating the loan before maturity then try these two calculators, COMPARE TWO MORTGAGES USING PV (Type 2) and COMPARE TWO MORTGAGES USING PV (Type 3). Click here to continue reading on the next page. By Using This Website You Agree That You Have Read and Understand Our Disclaimer! |
PROPERTY VALUES