Finance 460 Quiz #1

What is the sinking-fund factor? How and why is it used?

A sinking-fund factor is the reciprocal of interest factors for compounding annuities. These factors are used to determine the amount of each payment in a series needed to accumulate a specified sum at a given time. To this end, the specified sum is multiplied by the sinking-fund factor.

Define amortization. List the five types discussed in this chapter.

Amortization is rate at which the process of loan repayment occurs over the loan term. Types of amortization are fully, partially, zero, negative and constant rates of amortization.

What is an annuity? How is it defined? What is the difference between an ordinary annuity and an annuity due?

An annuity is a series of equal deposits or payments. An ordinary annuity assumes payments or receipts occur at the end of a period. An annuity due assumes deposits or payments are made at the beginning of the period.

What are the major differences between the four CPM loans discussed in this chapter? What are the advantages to borrowers and risks to lenders for each? What elements do each of the loans have in common?

CAM - Constant Amortization Mortgage—Payments on constant amortization mortgages are determined first by computing a constant amount of each monthly payment to be applied to principal. Interest is then computed on the monthly loan balance and added to the monthly amount of amortization to determine the total monthly payment. CPM - Constant Payment Mortgage—This payment pattern simply means that a level, or constant, monthly payment is calculated on an original loan amount at a fixed rate of interest for a given term. CAM—lenders recognized that in a growing economy, borrowers could partially repay the loan over time, as opposed to reducing the loan balance in fixed monthly amounts. CPM—At the end of the term of the mortgage loan, the original loan amount or principal is completely repaid and the lender has earned a fixed rate of interest on the monthly loan balance. However the amount of amortization varies each month. When both loans are originated at the same rate of interest, the yield to the lender will be the same regardless of when the loans are repaid (i.e., early or at maturity).

___________ is available to a business to reorganize and rehabilitate the debtor

Chapter 11

_______________ is filed with the end result of liquidating the debtors assets

Chapter 7

What are loan closing costs? How can they be categorized?

Closing costs are incurred in many types of real estate financing, including residential property, income property, construction, and land development loans. Categories include: statutory costs, third party charges, and additional finance charges. Closing costs that do affect the cost of borrowing are additional finance charges levied by the lender. These charges constitute additional income to the lender and as a result must be included as a part of the cost of borrowing. Lenders refer to these additional charges as loan fees.

How are the interest factors (IFs) in Exhibit 3-3 developed? How may financial calculators be used to calculate interest factors in Exhibit 3-3?

Computed from the general formula for compounding for monthly compounding for various combinations of "i" and years. FV = PV × (1 + i)n. Calculators can be used by entering $1 for PV, the desired values for n and i and

The __________ ____________ title from one person to another

Deed Convey

How must one discount a series of uneven receipts to find present value (PV)?

Each periodic cash receipt or payment must be discounted individually then summed to obtain present value. That is: PV = CF1 (1/1 + i)1 + CF2 (1/1+ i)2 ....+ CFn (1/1 + i)n where CF is cash inflow and i equals the discount rate.

______________ _______________ lasts for an indefinite period of time

Freehold Estates

A __________ is a person that owns a property and is converting title to the property to another person

Grantor

An expected inflation premium is said to be part of the interest rate. What does this mean?

In general, the nominal interest rates for a specified period (say 10 years) is said to be a composite of three things; (a) real return-such as the growth rate in real GDP (underlying economic growth in the economy, (b) expected inflation , and (c) premium for risk. For example, if a lender quotes a 6% rate on a mortgage loan at a time when 10 year U.S. government bonds are yielding 3.6%, then the risk premium would be 2.4%. If at that same time growth in real GDP is 2.0% and is expected to continue at that rate for 10 years, then expected inflation can be estimated to be 1.6% (or 6%-2.4%-2.0% = 1.6%). Alternatively, if 10 year U.S. Government Bonds that are indexed for inflation (TIPs) are currently yielding 2.0% and 10 year Treasuries not indexed for inflation are yielding 3.6%, the difference, or 3.6%-2.0%, or 1.6% is an estimate of expected inflation.

Failure to ________ _____ _________ in repair is least often used for foreclosure

Keep the security

A _______ __________ conveys title to a property at the time the purchaser completes the performance of the obligation called for in the document.

Land Contract

Why do lenders charge origination fees and loan discount fees?

Lenders usually charge these costs to borrowers when the loan is made, or "closed", rather than charging higher interest rates. They do this because if the loan is repaid soon after closing, the additional interest earned by the lender as of the repayment date may not be enough to offset the fixed costs of loan origination

A ___________ ___________ ends after the bill for lab and materials has been paid

Mechanics Liens

A __________ _______________ requirement does not include a prepayment clause

Minimum mortage

A __________ is best defined as a legal document that names real estate as the security or collateral for the repayment of a loan

Mortage

A clause which specifies that the mortgager will pay all property taxes and other charges assessed against the property, even if the charges have priority over the mortgage is typically included in the _______

Mortage

The solution least likely to be acceptable to a ________ when discussing alternatives to foreclosing a property permanently reducing the interest rate

Mortgagee

In the absence of loan fees, does repaying a loan early ever affect the actual or true interest cost to the borrower?

No, the true interest rate always equals the contract rate of interest.

A mortgage default can result from failure to pay _____ ______

Property Taxes

A ________________ ___________ is not a good method of title assurance

Quitclaim Deed

____________ mortgages allow the lender to sue a borrower for any unpaid balance after a foreclosure

Recourse

______ ________ is not used when a third party mortgage is cheaper and less onerous

Seller Financing

An owners right to redeem a property after foreclosure is called

Statutory Redemption

What is the accrual rate and payment rate on a mortgage loan? What happens when the two are equal? What happens when the accrual rate exceeds the payment rate? What if the payment rate exceeds the accrual rate?

The accrual rate is usually the nominal rate divided by the number of periods within a year that will be used to calculate interest. For example, if interest is to be accrued monthly, the nominal rate is divided by 12; if daily, the nominal rate is divided by 365. The payment rate, or "pay rate", is the % of the loan to be paid at time intervals specified in the loan agreement. This rate is used to calculate payments which are usually made monthly (but could be quarterly, semi-annual, etc.) If the pay rate exceeds the accrual rate, this indicates that some loan repayment (amortization) is occurring. When it is equal to the accrual rate, amortization is not occurring. If the accrual rate is lower than the interest rate there will be negative amortization.

What is the essential concept in understanding compound interest?

The concept of earning interest on interest is the essential idea that must be understood in the compounding process and is the cornerstone of all financial tables and concepts in the mathematics of finance.

How does discounting, as used in determining present value, relate to compounding, as used in determining future value? How would present value ever be used?

The discounting process is a process that is the opposite of compounding. To find the present value of any investment is simply to compound in a "reverse" sense. This is done by taking the reciprocal of the interest factor for the compound value of $1 at the interest rate, multiplying it by the future value of the investment to find its present value.

What is an internal rate of return? How is it used? How does it relate to the concept of compound interest?

The internal rate of return integrates the concepts of compounding and present value. It represents a way of measuring a return on investment over the entire investment period, expressed as a compound rate of interest. It tells the investor what compound interest rate the return on an investment being considered is equivalent to.

Why do the monthly payments in the beginning months of a CPM loan contain a higher proportion of interest than principal repayment?

The reason for such a high interest component in each monthly payment is that the lender earns an annual percentage return on the outstanding monthly loan balance. Because the loan is being repaid over a long period of time, the loan balance is reduced only very slightly at first and monthly interest charges are correspondingly high.

What is the effective borrowing cost?

This differs from the contract rate because it includes financing fees (points, origination). It differs from the APR because the latter is calculated assuming that the loan is repaid at maturity. When calculating the effective cost, the expected repayment or payoff date must be used. The latter is usually sooner than the maturity date.

What is meant by a nominal rate of interest on a mortgage loan?

This rate is usually quoted as an annual rate, however the time intervals used to accrue interest is generally not quoted explicitly. Further, the rate generally does not specify the extent of any origination fees and/or discount points.

What is the connection between the Truth-in-Lending Act and the annual percentage rate (APR)?

Truth-in-Lending Act - the lender must disclose to the borrower the annual percentage rate being charged on the loan. The APR reflects origination fees and discount points and treats them as additional income or yield to the lender regardless of what costs the fees are intended to cover. The APR is always calculated assuming that the loan is repaid at maturity.

What general rule can be developed concerning maximum values and compounding intervals within a year

Whenever the nominal annual interest rates offered on two investments are equal, the investment with the more frequent compounding interval within the year will always result in a higher effective annual yield. An equivalent annual yield is a single, annualized discount rate that captures the effects of compounding (and, if applicable, interest rate changes).

A historical summary of the publicly recorded documents that affect the owners is known as an ___________ _________ __________

abstract of title

The process of confirming a plan of reorganization under chapter 11, even if one or more creditor classes dissent, is known as

cramdown

A ________ _________ refers to the prohibition of the commencement or continuation of collection proceedings during a bankruptcy proceeding

deficiency judgement

Most mortgages in the US ____ have prepayment pentalies

dont

A _______ _____ ________ clause which specifies that the mortgage can collect the debt if the property is sold without the mortgagee's permissions is a typical clause in a mortgage document

due on sale

As compared to other types of deeds, A ___________ ______ deed provides the most comprehensive warranties about the quality of the title to the property

general warranty

A ______________ ____________ agreement allows two or more parties to access each others propertys

reciprocal easement

In a __________ _____ an accurate and complete description of the property is not re

tax sale