You are planning to buy a house. If you pay 20% down payment, a lender offers yo

Question

You are planning to buy a house. If you pay 20% down payment, a lender offers you a 20 year balloon mortgage for the remaining 80% with 5.9% APR whereby you can pay interest only for the first 5 years of the loan and then pay off the balance of the loan during the remaining 15 years (the first up charge month is the second month of year 6). Property taxes are $2,400 and Casualty Insurance is $1,200 annually. During the first 5 years, you would like to pay $1,900 or less to the lender (for the interest, and escrow portion of the loan payment) due to a salary limitation. Since you expect a job promotion, you will however afford to increase the payments during the next 15 years as requested by the lender. Assume that you also have enough savings to pay for all necessary upfront costs including insurance, origination fee and the 20% down payment.

How expensive of a home can you purchase today?

What would your total monthly payments be for the remaining 15 years (including all Escrow costs).

Explanation / Answer

Property and insurance escrow costs are $3600/yr or $300/month. So upto $1900-300=$1600 can be paid initially. At 5.9% rate, the principal on which 5.9% interest rate amounts to $1600/month is $325,423. This is calculated as 1600/(5.9%/12). As this $325,423 is 80% of the house value (as you have already paid a 20% down payment), the actual house value amounts to 325,423/0.8 = $406,778. For the remaining 15 years, the monthly payment for the loan is calculated in Excel as =PMT(5.9%/12,180,-325423,0,0), where the rate is 5.9%/12 per month, there are 180 months to closure, and the initial principal is 325423. This amounts to $2729. Adding the escrow amount of $300, the total payment comes to 2729+300 = $3029/month.

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