Home Mortgages

College Algebra

The work on this project is to be YOUR OWN! The teaching assistants will check your #1
3 to ensure you are on the right track with the formula. You would need to email your TA
with your answers to 1 3 for them to check. They will NOT check the Dropbox except to
grade the finished projects. We will use Turnitin to verify if parts of the project are taken
from someone else or another source. If your project is seen as being copied from another
student you will receive a 0 on it and could possibly receive an XF for the entire course.
While you may not be in the market for a home right now, it is probably an event that will occur
for you sometime in the future. The formula below gives the monthly payment P required to pay
off a loan L at an annual rate of interest r, expressed as a decimal, but usually given as a percent.
The time t, measured in months is the duration of the loan, so a 15 year mortgage requires t = 12
15 = 180 monthly payments.
On March 15, 2013, the average interest rates were:
(a) 4.28% on 30-year mortgages
(b) 3.4% on 15-year mortgages
1. For each of these loans, calculate the monthly payment for a loan of $125,000. All answers
should be rounded to the nearest hundredth since you will be dealing with money. It is important
that you do not round until your final answer due to round off errors.
2. Then compute the total amount paid over the term of the loan.
3. Finally, calculate the interest paid.

On September 1, 2013, the average interest rates were:

(a) 3.6% on 30-year mortgages
(b) 2.88% on 15-year mortgages
4. For each of these loans, calculate the monthly payment for a loan of $150,000.
5. Then compute the total amount paid over the term of the loan.
6. Finally, calculate the interest paid.
On March 15, 2013, the average adjustable interest rate (ARM) was 2.8%. The adjustable
rate is linked to an economic index. The interest rates, and your payments, are periodically
adjusted up or down as the economic index fluctuates. This rate is often fixed for a period of
time. Most home buyers decide to refinance at the fixed rate because it can go up by as much as
6%.
7. The first 5 years of an ARM has an interest rate of 2.8%. Calculate what the monthly payment
would be for the first 5 years on a loan amount of $125,000. When you calculate your monthly
payment, you will assume that the loan is amortized, or calculated, for 30 years. Make sure you
plug in a t value representing 30 years.
After the first 5 years, the interest rate will begin to fluctuate with the market, so it is a good time
to refinance your loan at a fixed interest rate. Your monthly payments with the ARM went to
paying the interest and the principle on the loan and you have a new loan balance of $110,723.49.
It will cost you $3000 to refinance. You can refinance your new balance + $3000 refinance fee at
4.5% fixed interest rate.
8. Calculate the next 25 years monthly payment on the remaining balance of the house +
refinance fee, at a 4.5% interest rate. Make sure you plug in a t value representing 25 years.
9. Compute the total amount paid over the 30 year loan.
10. Was it more beneficial to do an ARM with this cost added? Explain your answer.
11. Solve the equation for L.
12. Assume you can afford to pay $750 per month for a mortgage payment, calculate the amount
you can borrow on March 15, 2013.
(a) on a 30-year mortgage.
(b) on a 15-year mortgage.
13. Check with your local lending institutions for current rates for 30-year mortgage, 15-year
mortgage, and a three-year ARM. Choose ONE of these and calculate how much you can borrow
with a $750 per month payment. Please list which lending institution you obtained your
information from.

14. How much can you borrow if you can afford a payment of $1100 per month with the
information you used in Problem 13.
15. Calculate a couple of the previous problems and round the values, resulting in a round-off
error. Discuss the difference that you will get per month, per year, and over the time of the loan
with errors in rounding.
16. Lets say that you chose to purchase points to buy down the interest rate of a $140,000
house. Check out this website for more information on buying down points:
https://www.bankofamerica.com/home-loans/mortgage/budgeting-for-home/buying-mortgagepoints-lower-rate.go or http://www.investopedia.com/articles/pf/06/payingforpoints.asp
Use the information from March 15, 2013 on a 30 year loan. Lets say you were going to be
in the house for only 10 years, is it to your advantage to buy 2 points on the loan? Explain your
reasoning mathematically. What is the break even point
(http://www.lendingtree.com/smartborrower/glossary/b/break-even-point/ ) of buying down 2
points or leaving the loan as is? It may be helpful to graph the information so that you can see
when this is going to happen. There is a document in the Doc Sharing tab that explains how you
can insert graphs into text documents using graphing software available online.
17. Using the rate information for September 1, 2013, calculate a 30 year loan for $150,000 if
you had $15,000 as a down payment. What was the difference in payments per month? Do the
same for the 15 year loan and calculate the difference in payment per month?
18. Do you think that the interest rate plays an important role in determining how much you can
afford to pay for a house? Why or why not?
19. Comment on the three types of mortgages: 30-year, 15-year, and one-year ARMs. Which
would you take? Why?

SOLUTIONS

1. a)

=$

=$

2. a) Total amount paid

3. a) Interest paid

1. b)

=$
=$

=$
=$

 =$

=$

2. b) Total amount paid

=$

3. b) Interest paid
=$

=$

.
=$

4. a)

=$

=$

5. a) Total amount paid

=$

=$

6. a) Interest paid
=$

=$

4. b)
=$

=$

5. b)Total amount paid

=$

6. b) Interest paid

=$

.
.

=$

=$

7.
Monthly payment during the first 5 years, at the rate of 2.8%

=$

=$

8. Balance at the end of 5 years

=$

Refinance fees

=$

Total outstanding balance at the end of 5 years = $

Monthly payment for the next 25 years, at the fixed rate of 4.5%

=$

(
=$

9. Total amount paid over the 30-year loan

=

=$

10. At the fixed rate of 6% from the beginning,

Monthly payment for the whole of 30 years would be

=$

Total amount paid over the 30-year loan

=

=$

=$

This is greater than the ARM payments by about $49347.

Therefore, it is beneficial to do an ARM.

11.
= [
=

+
=

12. a) Loan eligibility on a 30-year mortgage as on March 15, 2013

=$

b) Loan eligibility on 15-year mortgage as on March 15, 2013

=$

13.
Name of the Institution
Bank of America,
Richmond, KY branch
Sebonic financial
e-rates mortgage

Interest rates for 30year mortgage

4.00%

Interest rates for 15year mortgage

3.13%

Interest rates for a

3/1 ARM
2.60%

4.00 %
4.10%

3.00%
3.10%

2.55%
2.60%

Considering that Bank of America is my preferred institution to take loans from,

a) Loan eligibility on a 30-year mortgage as on Apr 15, 2015

=$

b) Loan eligibility on 15-year mortgage as on Apr 15, 2015

=$

c) Loan eligibility on 3-year ARM as on Apr 15 2015, considering the total length of loan to be 30
years,

=$

14. a) Loan eligibility on a 30-year mortgage as on Apr 15, 2015

$

=$

b) Loan eligibility on 15-year mortgage as on Apr 15, 2015

$

=$

c) Loan eligibility on a 3-year ARM as on Apr 15 2015, considering the total length of loan to be 30
years,

=$

15.
a) Calculation of rounding error for problem 8
Difference in monthly payment

Difference in yearly payment = $

=$
.

=$ .

=$ .

Difference in total amount paid over the remaining 25-year of the loan period
=$

=$

b) Calculation of rounding error for problem 10

Difference in monthly payment = $

Difference in yearly payment = $

Difference in total amount paid over the 30-year loan period

=$ .

=$

=$

=$ .

16. Let, the cost of buying points be 10% of the loan amount and the interest rate rebate be 0.125%
per point.
The cost-benefits analysis is illustrated in the following table:
Loan amount = $140000
Cost of each point = $1400, cost of two points = $2800
Zero points
$0
4.28
$691.18
$0
n/a
$0

Cost per point

Interest rate (%)
Monthly payment
Monthly payment savings
Break even point (months)
Total savings in the life of the
loan

Two points
$2800
4.03
$670.81
$20.37
137.4
$4533.86

Cumulative monthly payment reduction

($)

The graph:
3500
3000

Break-even point
2500
2000

Datenreihen1

1500

buy points
Linear (Datenreihen1)

1000

Linear (buy points)

500
0
0

50

100

150

200

Months

Considering the fact that I am going to be in the house for 10 years, it is not beneficial for me to buy
2 points, because the break even point appears at 137.4 months, that is, beyond 10 years.

17. Using the rate information for September 1, 2013

For a 30-year mortgaged loan,

=$

(
=$

Difference in monthly payment

=$

=$

For a 15-year mortgaged loan,

=$

(
=$

Difference in monthly payment

=$

.
.

=$

18. Interest rate definitely plays an important part in determining how much can I afford to pay a
house. For example, other conditions remaining unchanged, the loan eligibility in problem 13 a) is
$157096, whereas, when the rate of interest falls by 0.25%, the eligible amount rises to $161947,
which is higher by about $5000.

19. The 30-year mortgage loan is better if sufficient period for repayment is available. If there is not
sufficient repayment period, 15-year mortgage is preferable. ARM terms offer initial low rates of
interest and are better if the market is going to be heading towards lower interest rates, or if
someone is not obliged to keep his or her income down.

If I have a longer repayment period and the market rates are expected to vary abruptly, I would go
for a 30-year fixed rate. If I do not have such a long repayment opportunity and the market remains
volatile, 15-year fixed rate will be my preferred option.
If however, the market rate is relatively stable, I would go for ARM, because the initial low rate
offers excellent saving opportunities.