Chapter 7

Buy a Car Vs. Lease

Car owners who purchase their vehicles through banks, credit unions or car dealerships may pay a down payment in addition to making monthly payments, and must pay all future maintenance costs. The owner's vehicle will depreciate over time, but can be re-sold in the future, or traded in for a reduced price on a newer model. A person who leases a car may have lower monthly payments, but they will not hold an asset that can be resold at some future date. The cost of the lease is determined by how much the value of the vehicle is expected to decline at the end of the lease period, plus the financing costs and profit margin of the company offering the lease.

Home Equity Loans and Lines of Credit

Home equity loans are second mortgages that have fixed interest rates, and can be taken as a lump sum or drawn on as needed. The advantage is the borrower doesn't have to take the full amount out at closing and will only pay interest on the amount he or she actually accesses via the credit line. The interest rate is higher than most mortgage interest rates. With a home equity loan or line of credit banks usually let homeowners access their home equity up to a maximum of 75 or 80 percent of the home's value. These thresholds, of course, take into account not only the home equity line or loan, but also any primary financing (1st mortgage), already on the home. For loans originating before 12/15/2017, interest charges on a home equity loan or home equity line of credit are generally tax-deductible up to a maximum of $1 million if the loan was used to buy, build or maker capital improvements to a primary or secondary residence. For loans originating on or after 12/15/17, interest charges on home equity loans or lines of credit are tax-deductible up to a maximum of $750,000. This rule applies for loans taken to buy, build or improve both a primary residence and/or a vacation home but not taken for personal use. A home equity line of credit is an open-ended, revolving line of credit that can be drawn upon for 5 to 10 years. As the principal is repaid, more credit up to the credit limit becomes available again. The interest rate is usually variable and tied to the Prime Lending Rate. Payments are often flexible allowing the homeowners to choose to pay interest only or pay a combination of interest and principal.

Reverse mortgage

Homeowners who are 62 or older may take out a reverse mortgage to receive cash payments while living in their homes for the rest of their lives. With a reverse mortgage the interest on the loan is deferred, and the interest and principal must be repaid by selling the home when the homeowner moves or dies. If the loan amount is less than the proceeds from the sale of the home, the homeowners or their estate will keep the difference. If the loan amount is greater than the proceeds from the home, only the loan amount up to the value of the home must be repaid. Reverse mortgages are non-recourse loans so the lender cannot recoup losses from the borrower's income or assets, or from the homeowner's heirs. Reverse mortgage fees are more expensive than for traditional mortgages. Most fees can be paid with money from the loan, or can be added to the loan as principal subject to interest charges. Fees include closing costs which are typically twice the cost of conventional mortgages, mortgage insurance premiums to guarantee the loan payments for life, servicing fees that lenders add to the loan balance every month, and an origination fee which pays the lender for processing the loan.

Proprietary loans

Loan limits do not increase annually.

Refinancing cost-benefit analysis Example

Sue bought her home 3 years ago with a 30 year mortgage of $275,000 at a rate of 7.25%. Her current principal and interest payments are $1,875.99 per month and her current mortgage balance is $266,401.70. Step 1: Add together all the new mortgage costs such as points, loan origination fee, title search and insurance, recording fees, appraisal and home inspection fees to determine the total estimated costs. For this example we will estimate these costs to be $2,500. Step 2: These closing costs are then added to the current mortgage balance of $266,401.70 for a new mortgage balance of $268,901.70 Step 3: Determine one year's interest on the current mortgage by multiplying the interest rate 7.25% by the remaining balance of $266,401.70 = $19,314.12 Step 4: Determine one year's interest on the new mortgage balance if the interest rate is 6.5%. $268,901.70 x 6.5% = $17,478.61 Step 5: The first year's saving is $19,314.12 - $17,478.61 = $1,835.51 Step 6: To determine how long it will take Sue to repay the closing costs, take the $2,500 closing costs and divide the monthly savings of $152.96 (calculated as $1,835.51 divided by 12 months), to arrive at 16.34 months. Result: If Sue plans to live in her home longer than 16.34 months, it makes sense for Sue to refinance her mortgage at this rate

Refinancing cost-benefit analysis

The purpose of refinancing is to lower monthly mortgage payments and overall costs by reducing interest payments. Many factors are considered in the cost-benefit analysis such as an estimated timeframe for staying in the home, the total cost of refinancing fees and "points" (each point may represent one percent of the mortgage loan and are tax-deductible), and the time it takes to recoup those costs, which ideally should not exceed seven years. A refinancing cost-benefit analysis compares the new mortgage costs and payments with current mortgage payments and compares the different loan options available to the borrower.

Which of the following statements concerning refinancing are correct? (Check all that are correct.) a. The longer a homeowner intends to live in their home, the better it is to pay closing costs and/or points to obtain a lower interest rate. b. If current mortgage rates are historically high then paying points and closing costs now is not the best option due to the possibility of future refinancing. c. A homeowner who cannot afford to pay for points and closing costs can increase the loan amount to cover these costs which would reduce their monthly savings. d. A reduction of the repayment period will cost the borrower significantly more money in interest charges

Which of the following statements concerning refinancing are correct? (Check all that are correct.) a. The longer a homeowner intends to live in their home, the better it is to pay closing costs and/or points to obtain a lower interest rate. b. If current mortgage rates are historically high then paying points and closing costs now is not the best option due to the possibility of future refinancing. c. A homeowner who cannot afford to pay for points and closing costs can increase the loan amount to cover these costs which would reduce their monthly savings. d. A reduction of the repayment period will cost the borrower significantly more money in interest charges

Assume Justin purchased a home needing a $284,525 mortgage 72 months ago. The rate for his 30 year mortgage is 5.55%. What is his new payment if there is 2% of financing fees that are assumed in the new 15 year mortgage at 3.85%? a. $1,922.45 b. $1,928.62 c. $1,884.76 d. $1,890.80

a. $1,922.45 b. $1,928.62 c. $1,884.76 d. $1,890.80

John purchased a home 52 months ago for $200,000 with a 20% down payment. He obtained a 30 year mortgage at a rate of 5.75%. What is the current balance today if he would like to refinance at a lower rate? a. $9,838 b. $12,297 c. $150,162 d. $187,703

a. $9,838 b. $12,297 c. $150,162 d. $187,703

Home Equity Conversion Mortgage (HECM)

loans Offers largest loan advances.

Loans from state or local governments

low-income seniors used for a specific purpose such as home improvements or taxes

Reverse mortgage loans can be structured as:

-A lump-sum payout -A fixed monthly payment for life -A credit line account which increases yearly by the current interest rate plus 0.5%, -A combination of these options

Three types of reverse mortgage loans

-Home Equity Conversion Mortgage (HECM) -Loans from state or local governments -Proprietary loans

Financing Strategies

-Home Equity Loans and Lines of Credit -Housing Financing Strategies 1.Refinancing cost-benefit analysis 2.Reverse mortgage -Buy a Car vs. Lease

Housing Financing Strategies

-Refinancing cost-benefit analysis -Reverse mortgage

Buy a Car Vs. Lease Example

A 2-year lease on a new vehicle worth $35,000 that is expected to drop in value to $28,000 after 2 years would cost approximately $8,000,which is the difference in price, plus finance charges.

Reverse mortgage loan payments can be structured as which of the following options? Choose all that apply. . A fixed monthly payment for life b. Unsecured loan payments c. A 10-year decreasing loan d. A lump-sum payout e. A credit line account

A fixed monthly payment for life b. Unsecured loan payments c. A 10-year decreasing loan d. A lump-sum payout e. A credit line account

Module 7 Financing Strategies Alice purchased a home this year for $1,500,000 and took out a $1,000,000 mortgage. Alice will itemize deductions on her Form 1040 because they exceed the standard deduction amount. How much total debt can be used to deduct mortgage interest on her tax return? A. $100,000 B. $1,000,000 C. $750,000 D. $1,500,000

A. $100,000 B. $1,000,000 C. $750,000 D. $1,500,000