[executivetouch]

Please explain the following excerpt I came across. I'm looking for the calculation.


... When you compute the real yield on a 6.75% loan offer, you will find it is actually a 26% loan. (Because you're paying interest on 100% of the loan amount, but have only received 80% of the money from the bank, the rest is your own compensating balance being "loaned" back to you). Using the same formula, a 10% compensating balance brings the bank's effective loan rate "down to 15%. Anyway your cut it, that's a far cry from 6.75%.


The questions is how did they calculate 26%?

[ebaines]

I have no idea what this is about. You're going to have to provide some more information - what kind of loan are you talking, and is it contingent on you maintaining some sort of balance as collateral that you do not get interest on?

[jdelk4]

The key is the amount of money that you receive. In the example it says you only received 80% of the loan amount so for round numbers let's say a bank extends a 5 year loan for $100,000 at an interest rate of 6.75%. The monthly payment for this loan would be $1,968. What causes the interest rate to rise is the fact that the bank only gives you $80,000, so a monthly payment of $1,968 over 5 years equates to an effective interest rate of 16.54%.

To calculate this you would need a financial calculator or use a spreadsheet program (excel) that has time value of money formulas.

Another point of interest is that the shorter the loan term (5 yrs. / 1 yr.) the higher the effective interest rate becomes. This is why payroll advance lenders can get in trouble with usury lending laws. Let's say that you need quick cash and go to a payroll advance lender. They give you $975 today and in one month they cash the check you write them for $1,000. There is no interest charged and it sounds great but the reality of it is that the effective interest rate is 30.77%. Doesn't sound so good when you actually run the calculation.

[ebaines]

Why in the world would anyone take out an $80K loan but pay interest and principal as if it was a $100K loan??

[jdelk4]

Probably the same reason that someone would take out a mortgage with an initial rate of 2.00% that adjusts to 10.00% in 2 years. Simply put, uneducated.

However, everyone does it unless you write a check for your loan fees but the difference is that the fee is typically only $500 to $1,500 on $100,000.

[Neilcathy67]

This could be a typical hard money loan. Once the closing starts, all sorts of fees are due and the client, which was approved for 100k, pays about 20k in brokers fees etc.So, he walks out the door with only 80k, after fees. He still signed a mortgage and note for 100k at 6.75%, but since he had to pay all these fees a discounting factor changes the interest, not on paper, but mathamatically, since he did receive all the funds. ( Many Brokers would argue he received the funds, but had to pay clsoing costs) Unfortunately, this is what has gotten our country into all this financial trouble.

[helpless52]

I took out a car loan for 18525.00 how is the total interest calculated over a 48 month period

[accountantjohn]

Do you have a standard template that can be used in calculating yield/cost of a bank loan? I want an all-inclusive model that would include costs from an asset-based loan or factoring, such as loan origination fees, quarterly audit fees, wire transfer fees, etc. I want to be able to compare various offerings of credit to calculate which is the most cost effective. Thanks much.

[Neilcathy67]

If you buy a HP 12C it gives you instructions to calculate all different scenarios. I have used one for almost 30 and could not live without it.

[pguantai]

Mathematically, interest on whole amount is 26.75%;
Loan 100%
(+)Interest 6.75%
(-)Amount received 80%

Actual Interest on amount received = 100%+6.75%-80% = 26.75%
This is the case if the amount received is repaid in the same period the interest itself applies e.g. Pa (one year).
[email protected]

[pguantai]

In case interest is 6.75%pa and loan period is:
2yrs: Actual interest p.a. = (100%-80%)/2+6.75 = 16.75%
3yrs: Actual interest p.a. = (100%-80%)/3+6.75 = 13.42%
4yrs: Actual interest p.a. = (100%-80%)/4+6.75 = 11.75%
and so on.