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A borrower is purchasing a property for $180,000 and can choose between two possible loan alternatives....

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Finance

A borrower is purchasing a property for $180,000 and can choosebetween two possible loan alternatives. The first is a 80% loan for25 years at 8% interest and 1 point and the second is a 95% loanfor 25 years at 9.25% interest and 2 points. Assuming the loan willbe held to maturity, what is the incremental cost of borrowing theextra money?

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3.9 Ratings (687 Votes)

Please see the table below. Please be guided by the second column titled “Linkage” to understand the mathematics. The last row highlighted in yellow is your answer. Figures in parenthesis, if any, mean negative values. All financials are in $.

Parameter Linkage Option 1 Option 2
Property value A          180,000       180,000
Loan proportion d 80% 95%
Loan amount B = A x d          144,000       171,000
Points C 1% 2%
Net borrowing D = B x (1 - C)          142,560       167,580
APR E 8% 9.25%
Rate F = E /12 0.006666667 0.0077083
Term G 25 25
Nper H = G x 12 300 300
PMT I = PMT(F,H,-B) $1,111.42 $1,464.41
Incremental Analysis
Net Borrowing J = 167,580 - 142,560             25,020
PMT K = 1,464.41 - 1,111.42 $353.00
Incremental rate L = RATE(300,K,-J) 1.3883%
the incremental cost of borrowing the extra money 12 x L 16.66%
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