Present Value of an Annuity Sandra and Regina earn the same salary. However, Regina has been far more financially responsible. She pays her bills on time and pays off her credit card debt quickly. Sandra had been less financially responsible. She often buys too many shoes and has allowed her credit card balance to balloon. If she is short on cash for a month, she simply decides to not even pay the minimum balance due on her credit card. Now they both are looking to buy apartments. Regina decides she can afford to make $3,500 payments, but Sandra can only make $1,500 payments and pay off her credit card debt, too. Regina qualifies for a 6 percent, 30-year mortgage, but because of her bad credit rating Sandra will be charged 7.5 percent on a 30-year mortgage. Both will put 20 percent down. How is Sandra's bad credit going to impact her apartment search?
Sandra's bad credit is going to impact her apartment search in the following ways:
1. Higher interest rate: Due to her bad credit rating, Sandra will be charged a higher interest rate of 7.5% on her 30-year mortgage. This means she will have to pay more in interest over the life of the loan compared to Regina, who qualifies for a lower interest rate of 6%.
2. Affordability: Sandra's higher interest rate will result in higher monthly mortgage payments. With a monthly payment of $1,500, she may find it more challenging to afford an apartment compared to Regina, who can afford $3,500 monthly payments. This could potentially limit Sandra's options when it comes to the type and location of the apartment she can afford.
3. Debt-to-income ratio: Lenders typically assess borrowers' debt-to-income ratio when determining their eligibility for a loan. Sandra's credit card debt and lower income may negatively impact her debt-to-income ratio, making it more difficult for her to qualify for a mortgage or to be approved for a higher loan amount.
4. Loan approval: Due to her bad credit rating and higher interest rate, Sandra may face more challenges in getting her mortgage loan approved compared to Regina. Lenders may perceive her as a higher risk borrower, which could lead to stricter loan requirements or possible loan denial.
Overall, Sandra's bad credit is likely to impact her apartment search by limiting her options, increasing her monthly payment and the overall cost of her mortgage, potentially affecting her ability to qualify for a loan, and making the loan approval process more challenging.
Sandra's bad credit rating is going to impact her apartment search in terms of the mortgage interest rate she will be charged. Because of her bad credit rating, Sandra will be charged an interest rate of 7.5% on a 30-year mortgage, whereas Regina, with a good credit rating, qualifies for a 6% interest rate on the same mortgage term.
To understand how Sandra's bad credit affects her apartment search, we need to consider the concept of present value and the affordability of the apartments.
The present value of an annuity is the current worth of a series of future payments, taking into account the time value of money. In this case, the annuity represents the monthly mortgage payments that Regina and Sandra can afford.
For Regina, her monthly payment is $3,500. Considering a 6% interest rate and a 30-year mortgage term, we can calculate the present value using a financial calculator or an Excel spreadsheet as follows:
PV = PMT * ((1 - (1 + r)^(-n)) / r)
where PV is the present value, PMT is the monthly payment, r is the interest rate per period (in this case, monthly), and n is the total number of periods (in this case, 30 years * 12 months/year = 360 months).
Plugging in the values, we have:
PV = $3,500 * ((1 - (1 + 0.06/12)^(-360)) / (0.06/12))
Calculating this equation, we find that the present value for Regina's monthly payment is approximately $535,465.
For Sandra, her monthly payment is $1,500. Considering a higher interest rate of 7.5% and the same 30-year mortgage term, we can calculate her present value as follows:
PV = $1,500 * ((1 - (1 + 0.075/12)^(-360)) / (0.075/12))
Calculating this equation, we find that the present value for Sandra's monthly payment is approximately $225,183.
Comparing the present values of their monthly payments, we can conclude that Regina can afford a more expensive apartment than Sandra. Sandra's bad credit rating results in a higher interest rate, which increases the present value of her monthly payments. Therefore, Sandra will have a lower borrowing capacity and may need to consider less expensive apartments compared to Regina.