A borrower received a 30-year ARM mortgage loan for $120,000. The start rate was 3.50% and the loan adjusts every 12 months for the life of the mortgage. Rate caps are 3/2/6. The index used for this mortgage is the LIBOR. For this exercise, let’s say it was 3.00% at the start of the loan, 5.00% at the end of the first year, and 4.50% at the end of the second year. The margin on the loan is 3.00%.
1. What’s the initial rate and what’s the interest rate after the first year?
2. What is the fully indexed rate after the second year?
3. What is the borrower’s interest rate after the second year?
4. What is the maximum interest rate this loan could have?
5. What would the LIBOR have to be to obtain that interest rate?
So where is the answer?
To answer these questions, we need to understand how the ARM mortgage loan works. Here are the steps to find the answers:
1. Calculate the initial rate and the interest rate after the first year:
- The initial rate is given as 3.50%.
- At the end of the first year, the loan adjusts based on the index and margin.
- The index used is LIBOR, which was 3.00% at the start of the loan.
- The margin on the loan is 3.00%.
- So, the interest rate after the first year can be calculated by adding the index and margin: 3.00% (LIBOR) + 3.00% (Margin) = 6.00%.
2. Calculate the fully indexed rate after the second year:
- At the end of the second year, the loan adjusts based on the index and margin.
- The index at the end of the second year is 4.50%.
- So, the fully indexed rate after the second year can be calculated by adding the index and margin: 4.50% (LIBOR) + 3.00% (Margin) = 7.50%.
3. Calculate the borrower's interest rate after the second year:
- The interest rate after the second year depends on the rate cap.
- The rate cap is 3/2/6, which means the interest rate cannot increase by more than 3% in the first adjustment, and 2% for subsequent adjustments.
- The fully indexed rate after the second year is 7.50%.
- Since the rate cap for subsequent adjustments is 2%, the borrower's interest rate after the second year will be 6.50% (7.50% - 2%).
4. Calculate the maximum interest rate this loan could have:
- The rate cap is 3/2/6, which means the interest rate cannot increase by more than 6% over the life of the loan.
- The initial rate is 3.50%.
- So, the maximum interest rate this loan could have is 9.50% (3.50% + 6%).
5. Find the LIBOR that would result in the maximum interest rate:
- The LIBOR is the index used to adjust the interest rate.
- The maximum interest rate is 9.50%.
- To find the LIBOR that would result in this interest rate, subtract the margin from the maximum interest rate: 9.50% - 3.00% (Margin) = 6.50%.
- So, the LIBOR would have to be 6.50% to obtain the maximum interest rate.
Please note that these calculations are based on the given information and assumptions provided in the question. It is important to consult with a financial professional for accurate and personalized calculations based on your specific loan terms and conditions.
CAN ANYONE ANSWER THIS?
1> 3.5, 5.5
2> 5.5