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

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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 â€œLinkageâ€ 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	Â Â Â Â Â Â Â Â 180,000	Â Â Â Â Â 180,000
Loan proportion	d	80%	95%
Loan amount	B = A x d	Â Â Â Â Â Â Â Â 144,000	Â Â Â Â Â 171,000
Points	C	1%	2%
Net borrowing	D = B x (1 - C)	Â Â Â Â Â Â Â Â 142,560	Â Â Â Â Â 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	Â Â Â Â Â Â Â Â Â Â Â 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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