From APR and quoted interest rate to loan fees…

I received positive feedback after emailing the following write-up on mortgage loans to students.  Perhaps it will move more people closer to understanding mortgage APRs, fees, and “rates” (quoted interest rates).:

Let loan amount = PV = 80,000
Let QIR =  4.250%
Let APR = 4.464%

We saw in class how to calculate the fees embedded in the APR:
Step 1: PV = -80,000; I = APR = 4.464/12; N = 30×12; FV = 0; -> PMT=403.64
Step 2: PMT = 403.64; I = QIR = 4.250/12; N = 30×12; FV=0; -> PV=-82,050
Step 3: fees in APR = 82,050 – 80,000 = 2,050

Another way to look at Steps 1 and 2:
1. Loan amount with APR -> PMT if fees are included in loan amount
2. Loan amount + fees with QIR -> PMT if fees are included in loan amount (same PMT as step #1)

Step one is an implicit inclusion of fees, step 2 is an explicit inclusion of fees.  Of course, you could pay the fees with a check at closing, but that is a cost that you incur.  You must account for it somehow.  A convenient way is to go by the APR that does include fees.

Now, should you pay the fees at closing [or roll them into the loan]?  Guess what, it depends.  It depends on (a) if you can afford to pay the fees at closing and (b) if there are better alternative instruments to put those fee dollars.

Right now, 30 year T-bonds return 3.80% per year.  So, presuming you have the cash, it would not make sense to roll the fees into the loan.  You would be borrowing $2,050 at 4.25% to invest in T-bonds that yield only 3.80%.  Thus, pay the fees with a check at closing.

However, if you think you can earn 5% on average over the next 30 years, roll the fees into the loan (i.e., borrow $2,050), invest the $2,050, and pray you do earn 5%!

May you be enlightened.

Trump University Made False Claims, Lawsuit Says –

While one should reserve judgement, one should consider that Trump businesses have filed for bankruptcy 4+ times.  Does that sound like an organization you should transfer $35,000 of your wealth to learn how to make money in real estate?

Wall St.’s Next Profit Scheme — Buying Up Every Piece of Your Home Town

This is a long read that I have not finished on Wall St and privatization.  From the big picture perspective allow me to use dialectical reasoning:

  1. Thesis: public workers and governments are broken and bloated.  We need to cut pensions, pay, services, and useless government jobs.
  2. Anti-thesis: the private sector free-market system is destroying the public sector (e.g., education) and taking every opportunity to concentrate wealth in the hands of the few.
  3. Synthesis: Both the public sector and private sector need fixing.  Government employees and systems need to see some cuts.  Private bondholders need to see some losses and face more prudent regulation going forward.

Why is “synthesis” left out of most discussions?  As the linked article points out, California municipalities had to borrow as a result of Proposition 13.  When you slash real estate taxes in half across the board where does the revenue come from to support existing government operations?  Also, bear in mind who benefitted the most from those real estate tax cuts: the wealthy and in particular commercial real estate owners.

So, with a shortfall in revenue municipalities faced a choice: cut services or borrow money.  It turns out they borrowed money from already-wealthy private entities.   That could last only so long.  Now, municipalities are facing another choice: cut services to continue to pay interest to the already wealthy private entities or keep the services, restore taxes, and default on those existing municipal bonds.

The Economist had an article on Prop 13 in April 2011.  The same arguments were made in that article.  The tax cut proposed to “help your grandmother keep her home” was really a tax cut that saved the wealthy commercial property owners millions (perhaps billions) while eviscerating school systems and public services.  The Alternet article points out the subtle point that this lead to borrowing, and borrowing from already wealthy Wall Street types.  They must get their tax-exempt interest you know!

This reminds me of when the Federal Government debated extending the debt ceiling last year.  The notion that we must raise the debt ceiling or our veterans may not receive benefits did not sit well with me.  I thought “Why don’t we keep funding the military and veterans, stop paying interest to overseas lenders (China), and then enter renegotiations with those lenders?  The notion of not paying veterans to ensure China receives their interest payment seems ludicrous.”

Shared sacrifice will lead to shared prosperity. We need to see both.  We will see both. I hope.  🙂