1.

A price level adjusted mortgage (PLAM) is made with the following terms:
Amount $95,000
Initial interest rate 4 percent
Term 30 years
Points 6 percent Payments to be reset at the beginning of each year.
Assuming inflation is expected to increase at the rate of 6 percent per year for the next five
years:
a. Compute the payments at the beginning of each year (BOY).
b. What is the loan balance at the end of the fifth year?
2. A basic ARM is made for $200,000 at an initial interest rate of 6 percent for 30 years with an
annual reset date. The borrower believes that the interest rate at the beginning of year (BOY) 2
will increase to 7 percent.
a. Assuming that a fully amortizing loan is made, what will monthly payments be during year 1?
b. Based on (a) what will the loan balance be at the end of year (EOY) 1?
c. Given that the interest rate is expected to be 7 percent at the beginning of year 2, what will
monthly payments be during year 2?
d. What will be the loan balance at the EOY 2?
e. What would be the monthly payments in year 1 if they are to be interest only?
f. Assuming terms in (e), what would monthly interest only payments be in year 2?
3. A 3/1 ARM is made for $150,000 at 7 percent with a 30-year maturity.
a. Assuming that fixed payments are to be made monthly for three years and that the loan is
fully amortizing, what will be the monthly payments? What will be the loan balance after three
years?
b. What would new payments be beginning in year 4 if the interest rate fell to 6 percent and the
loan continued to be fully amortizing?
c. In (a) what would monthly payments be during year 1 if they were interest only? What would
payments be beginning in year 4 if interest rates fell to 6 percent and the loan became fully
amortizing?
4. An ARM for $100,000 is made at a time when the expected start rate is 5 percent. The loan
will be made with a teaser rate of 2 percent for the first year, after which the rate will be reset.
The loan is fully amortizing, has a maturity of 25 years, and payments will be made monthly.
a. What will be the payments during the first year?
b. Assuming that the reset rate is 6 percent at the beginning of year (BOY) 2, what will payments
be?
c. By what percentage will monthly payments increase?
d. What if the reset date is three years after loan origination and the reset rate is 6 percent,
what will loan payments be beginning in year 4 through year 25?
5. An interest only ARM is made for $200,000 for 30 years. The start rate is 5 percent and the
borrower will (1) make monthly interest only payments for 3 years. Payments thereafter must
be sufficient to fully amortize the loan at maturity.
a. If the borrower makes interest only payments for 3 years, what will payments be?
b. Assume that at the end of year 3, the reset rate is 6 percent. The borrower must now make
payments so as to fully amortize the loan. What will payments be?
6. A borrower has been analyzing different adjustable rate mortgage (ARM) alternatives for the
purchase of a property. The borrower anticipates owning the property for five years. The lender
first offers a $150,000, 30-year fully amortizing ARM with the following terms:
Initial interest rate 6 percent
Index 1-year Treasuries
Payments reset each year
Margin 2 percent
Interest rate cap None
Payment cap None
Negative amortization Not allowed
Discount points 2 percent
Based on estimated forward rates, the index to which the ARM is tied is forecasted as follows:
Beginning of year (BOY) 2 7 percent; (BOY) 3 8.5 percent; (BOY) 4 9.5 percent; (BOY) 5 11
percent.
Compute the payments, loan balances, and yield for the unrestricted ARM for the five-year
period.
7. An ARM is made for $150,000 for 30 years with the following terms: Initial interest rate 7
percent Index 1-year Treasuries Payments reset each year
8. Assume that a lender offers a 30-year, $150,000 adjustable rate mortgage (ARM) with the
following terms: Initial interest rate 7.5 percent Index 1-year Treasuries Payments reset each
year
10. A floating rate mortgage loan is made for $100,000 for a 30-year period at an initial rate of
12 percent interest. However, the borrower and lender have negotiated a monthly payment of
$800.
a. What will be the loan balance at the end of year 1?
b. What if the interest rate increases to 13 percent at the end of year 1? How much interest will
be accrued as negative amortization in year 1 if the payment remains at $800? Year 5?

1. A borrower can obtain an 80 percent loan with an 8 percent interest rate and monthly
payments. The loan is to be fully amortized over 25 years. Alternatively, he could obtain a 90
percent loan at an 8.5 percent rate with the same loan term. The borrower plans to own the
property for the entire loan term. a. What is the incremental cost of borrowing the
additional funds? (Hint: The dollar amount of the loan doesn’t affect the answer.) b. How
would your answer change if two points were charged on the 90 percent loan? c. Would
your answer to part (b) change if the borrower planned to own the property for only five
years?
2. An investor has $60,000 to invest in a $280,000 property. He can obtain either a $220,000
loan at 9.5 percent for 20 years or a $180,000 loan at 9 percent for 20 years and a second
mortgage for $40,000 at 13 percent for 20 years. All loans require monthly payments and
are fully amortizing. a. Which alternative should the borrower choose, assuming he will own
the property for the full loan term? b. Would your answer change if the borrower plans to
own the property only five years? c. Would your answers to (a) and (b) change if the second
mortgage had a 10-year term?

b) same as 1
3. An investor obtained a fully amortizing mortgage 5 years ago for $95,000 at 11 percent for
30 years. Mortgage rates have dropped, so that a fully amortizing 25-year loan can be
obtained at 10 percent. There is no prepayment penalty on the mortgage balance of the
original loan, but three points will be charged on the new loan and other closing costs will
be $2,000. All payments are monthly. a. Should the borrower refinance if he plans to own
the property for the remaining loan term? Assume that the investor borrows only an
amount equal to the outstanding balance of the loan. b. Would your answer to part (a)
change if he planned to own the property for only five more years?
4. Secondary Mortgage Purchasing Company (SMPC) wants to buy your mortgage from the
local savings and loan. The original balance of your mortgage was $140,000 and was
obtained 5 years ago with monthly payments at 10 percent interest. The loan was to be fully
amortized over 30 years. a. What should SMPC pay if it wants an 11 percent return? b. How
would your answer to part (a) change if SMPC expected the loan to be repaid after five
years?
5. You have a choice between the following two identical properties: Property A is priced at
$150,000 with 80 percent financing at a 10.5 percent interest rate for 20 years. Property B is
priced at $160,000 with an assumable mortgage of $100,000 at 9 percent interest with 20
years remaining. Monthly payments are $899.73. A second mortgage for $20,000 can be
6. An investor has owned a property for 15 years, the value of which is now to $200,000. The
balance on the original mortgage is $100,000 and the monthly payments are $1,100 with 15
years remaining. He would like to obtain $50,000 in additional financing. A new first
mortgage for $150,000 can be obtained at a 12.5 percent rate and a second mortgage for
$50,000 at a 14 percent rate with a 15-year term. Alternatively, a wraparound loan for
$150,000 can be obtained at a 12 percent rate and a 15-year term. All loans are fully
amortizing. Which alternative should the investor choose?
7. A builder is offering $100,000 loans for his properties at 9 percent for 25 years. Monthly
payments are based on current market rates of 9.5 percent and are to be fully amortized
over 25 years. The property would normally sell for $110,000 without any special financing.
a. At what price should the builder sell the properties to earn, in effect, the market rate of
interest on the loan? Assume that the buyer would have the loan for the entire term of 25
years. b. How would your answer to part (a) change if the property is resold after 10 years
and the loan repaid?
8. A property is available for sale that could normally be financed with a fully amortizing
$80,000 loan at a 10 percent rate with monthly payments over a 25-year term. Payments
would be $726.96 per month. The builder is offering buyers a mortgage that reduces the
payments by 50 percent for the first year and 25 percent for the second year. After the
second year, regular monthly payments of $726.96 would be made for the remainder of the
loan term. a. How much would you expect the builder to have to give the bank to buy down
the payments as indicated? b. Would you recommend the property be purchased if it was
selling for $5,000 more than similar properties that do not have the buydown available?
9. An appraiser is looking for comparable sales and finds a property that recently sold for
$200,000. She finds that the buyer was able to assume the seller’s fully amortizing mortgage
which had monthly payments based on a 7 percent interest rate. The balance of the loan at
the time of sale was $140,000 with a remaining term of 15 years (monthly payments). The
appraiser determines that if a $140,000 loan was obtained on the same property, monthly
payments at the market rate for a 15-year fully amortizing loan would have been 8 percent
with no points. a. Assume that the buyer expected to benefit from the interest savings on
the assumable loan for the entire loan term. What is the cash equivalent value of the
property? b. How would your answer to part (a) change if you assumed that the buyer only
expected to benefit from interest savings for five years because he would probably sell or
refinance after five years
10. A borrower is making a choice between a mortgage with monthly payments or biweekly
payments. The loan will be $200,000 at 6 percent interest for 20 years. a. How would you
analyze these alternatives? b. What if the biweekly loan was available for 5.75 percent? How
would your answer change?