fcs340_document_typesOfFinancing

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Brigham Young University, Idaho *

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340

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Finance

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Apr 3, 2024

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docx

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Types of Financing Instructions Use the information in Chapter 8 of your textbook to complete the table below on the advantages and disadvantages from the perspective of the borrower and record your notes in the subsequent sections of this worksheet. Save your work and use it to aid you in making financing decisions. You may also find this document helpful as you study for your next Unit Assessment. Mortgage Financing Type of Financing Definition Advantage Disadvantage Fixed-rate Mortgage A loan which has a constant or fixed interest rate for the life of the loan. The payments stay the same. Principal and interest remain the same. Private Mortgage Insurance may be required. Adjustable-Rate Mortgage (ARM) A loan which allows the interest rate to rise or fall with the changes in mortgage interest rates. Interest is usually low to begin with. Interest rates can be adjusted if mortgage rates fall. Interest rates will be increased if mortgage rates increase. Balloon Mortgage A loan where the remaining principal is due at a specific time in the loan. Payments may be self- amortizing or interest only. When the principal is due, the home owner has a huge payment to make or refinance. Graduated Payment Mortgage A loan with lower initial payments that increase over time. Designed for younger people whose income will increase over time, low payments to begin with. Negative amortization could occur if your monthly payment is less than the interest-only amount would be. Refinancing To finance a home again with a new loan and a new interest rate, must pay off old loan and closing costs. The homeowner simply applies for a new loan (with a lower rate of interest) at the same bank or at a new bank and then continues to pay off the original loan amount. There may be closing costs (loan origination, appraisal, and legal fees), a prepayment penalty, and points on the new loan. Moreover, if the term of the new loan is greater than the number of years remaining on the original contract, the future payments are also a cost. Home Equity Loan A loan which uses the equity in your house to secure your loan. The benefits of a home equity loan are that you can usually borrow up to 80 percent of the equity in your home, and the interest payments may be tax-deductible. One dis-advantage of this type of loan is that it limits your future financial flexibility. A home equity loan puts your home at risk: If you default on a home equity loan, you can lose not only your high credit score, but

your home as well. What four conclusions can you make based on the above information?  A balloon mortgage is too much of a risk, coming up with the balance all at once is difficult.  Refinancing is tempting and sounds great, but you may pay more than you originally thought.  A fixed rate mortgage is the best option.  Make sure you do your research, weigh the pro’s and con’s before making a decision.

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