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Zer Netmouse
February 3rd, 2009
07:12 pm

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Do You Believe in Usury?

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From:netmouse
Date:February 4th, 2009 02:53 am (UTC)
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Mortgage loans are an interesting topic, really. The way they are amortized intentionally treats regular payments on the loans as addressing, first and foremost, the interest owed over the lifetime of the loan, so that the early payments are defined to have made almost no payment on the principal, keeping the overall payoff to the bank high (and reducing the motivation for early buyout, since the borrower won't have lowered the "payoff price" of the loan very much in the first couple years of it). This is why you can save yourself *so* much money by paying an additional amount to the principal on a monthly basis on a mortgage (noting that most mortgage companies require that you "specify" the extra money paid is to be applied to the principal, or they screw you over by applying it to interest also).
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From:dd_b
Date:February 4th, 2009 03:18 am (UTC)
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You can say it "treats" it that way -- but the fact is that if you borrow $100,000 over 20 years, after the first payment you still have $99,999.99 of my dollars (I didn't do the math; the point is "essentially all"). So it seems fair that, while you still have most of my $100k, I should still get most of the payment as interest. Whereas just before the last payment, you only still have a tiny amount of my money, so it's completely fair that that last payment consists of the last principal you owe me plus only a tiny amount of interest.
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From:netmouse
Date:February 4th, 2009 03:24 am (UTC)
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At the outer edges it is easy to relate to it as fair, but in the middle, say, the 10th year, a huge proportion of the interest will be paid off, and still not much of the loan principal - in other words, the mortgage lender earns its profits in the first few years of the loan, thus securing itself, so that in the last few years there is little risk for the lender - they have already made their money.
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From:dd_b
Date:February 4th, 2009 03:44 am (UTC)
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I've got my profit already, but my capital is still at risk, so really I'm not anything like in the clear on this transaction yet.

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From:netmouse
Date:February 4th, 2009 03:48 am (UTC)
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But halfway through the loan, the borrower has probably already paid the lender more than the original value of the capital. Whether or not the lender still has capital "at risk" at that point is a matter of debate.

From:sethb
Date:February 4th, 2009 04:33 am (UTC)
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Time has value. The total number of dollars isn't the only factor; there's also the date on which they're paid.

Remember the Russian million-dollar lottery?

Halfway through the loan, the borrower hasn't paid the lender more than the value of the loan. (The value of the loan in 15-years-later dollars is around $250,000, being $100,000 plus interest.)
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From:dd_b
Date:February 4th, 2009 02:43 pm (UTC)
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The lender has either his capital, or his profit, at risk. I take as obvious that he wouldn't have made the loan if he didn't have a reasonable expectation of receiving his capital back, plus some profit (in a commercial loan; if we want to end commercial loans...that's a HUGE change, and would probably completely change the social fabric of society in ways I would hate, since the only way to get big things before retirement age would be to suck up to rich people).
From:sethb
Date:February 4th, 2009 04:30 am (UTC)
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Huh? The lender is always getting (say) 6% on the amount of money it has invested.

It starts by investing $100,000. In year 1, it gets $6,000 interest, and $1,000 principal. (I'm making up numbers for simplicity.) In year 2, it has $99,000 at risk, and it gets $5940 interest, and $1060 principal. The bank doesn't get its money back until the end; each year, it gets 6% on the money it still has at risk.

The bank also is short the prepayment option: if interest rates rise, you keep the mortgage and the bank gets 6% when a new mortgage would get it 8%. If interest rates drop, you refinance and the bank gets 4% on a new mortgage.
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From:netmouse
Date:February 4th, 2009 12:16 pm (UTC)
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You are making up numbers, and they're wrong.

Unfortunately I just moved and haven't unpacked the whole office so I can't pull my original mortgage records and give you an actual example. blarg, and citimortgage seems to have destroyed my online account now that the mortgage is paid off, so I can't reference that either.

From:sethb
Date:February 4th, 2009 04:23 pm (UTC)
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In any given month, the borrower pays interest of 1/2% of the principal at the beginning of the month, plus some amount of principal. The next month, the principal (on which interest is charged) is reduced by the amount of principal paid.

I can figure out amortization schedules for any rate and period, but the underlying facts are what I've posted.
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