Calculating Loans
To calculate the principal and interest payments on a loan, a real estate manager must consider the time value of money (TVM). The basic principle of TVM is this: Dollars in the future are worth less than dollars today.
TVM has six major components:
- Number of Payments per Year (P/YR)
- Number of Periodic Payments (N)
- Annual Interest Rate (I/YR)
- Present Value (PV)
- Periodic Payment (PMT)
- Future Value (FV)
Interest-only loans are the simplest of the loan structures. In an interest-only loan, the borrower makes only interest payments on the mortgage loan until the maturity date, when the entire principal is repaid in a single payment.
For an interest-only loan, the annual payment is found by multiplying the amount of the loan by the annual interest rate. The amount of monthly payment is found by dividing the annual payment by 12.
Fully Amortized, Fixed-Rate Loan
With a fixed-rate, fully amortized loan, the interest rate remains constant over the life of the loan (the entire amortization period). Therefore, the debt service is constant over the life of the loan.
Fully Amortized, Variable-Rate Loan
In a variable-rate structure, the interest rate on the loan is adjusted periodically, usually each year. The amount of the adjustment is tied to an index, typically one of the T-Bill rates.
Balloon
A balloon or partially amortized loan has uniform periodic payments that include amounts for interest and principal, but the periodic principal payments do not fully amortize the mortgage because the term of the loan is shorter than the full amortization period. Thus, there is a substantial single payment due at the end of the loan term called a balloon payment.
Comments
This is a great one page reference for the types of loans commonly available. The financing decision for every investment is unique and not generally cookie cutter. It is very important to perform your own loan analysis to fully comprehend the variables within the loan equation.
I think this is a good article for those who are just learning about the different types of loans, the time value of money, etc. It is just a brief overview and doesn't get too complicated. I handle the day-to-day operations for a commercial office property and don't see a lot of the financing side. But it is always good to know the terminology and basic principles.
This article gives a broad overview of different types of loans and how they are calculated and paid down. The general overview is good, but there are a lot more details that surround how each of these loans may or may not fit into the financial plan or strategy for a particular transaction. The article is a good starting point.
- Lewis Brown | Flag this comment for review