Understanding Private Loans
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Understanding Private Loans. Default Prevention. Essential loan language Variable rate language Types of indexes Language for all types of loans Dissect an interest rate Variable rate history Finding the best deal. Agenda. Improve discussion with borrowers

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Understanding Private Loans

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Understanding private loans

Understanding Private Loans

Default Prevention


Agenda

Essential loan language

Variable rate language

Types of indexes

Language for all types of loans

Dissect an interest rate

Variable rate history

Finding the best deal

Agenda


What s in it for you

Improve discussion with borrowers

Better understanding of loans and terms

Less stress

What’s In It For You?


Loan language

Loan Language

Guarantee Fees

APR

Origination

Capitalization

Margin

Adjustment Period

LIBOR

Cap

Points

Prime

T-Bill

Negative Amortization

Variable


Know another language

Review the FAFSA, determine EFC, then send the AL through your FAM system.

Is your school Direct or FFEL?

Do you process EFT through ELM?

Do you award FWS, Pell and FSEOG?

Know Another Language?


Understanding private loans

Loan Language Essentials


Interest rate

A charge for a loan

Shown as a percent of borrowed amount

One of many ways to charge for a loan

Up-front fees

Capitalization frequency

Interest Rate


Interest rate1

Interest

Student loans — monthly

Credit cards — daily or monthly

Earlier payments = less interest

How payment is applied

Fees

Interest

Lowest interest rate balance

Higher interest rate balance

Principal

Interest Rate


Interest rates and debt

Secured

Car

Home

Unsecured

Credit card

Personal loan

Education loan

Interest Rates and Debt


What s in an interest rate

What’s in an Interest Rate

Cost of funds

+ Operations

+ Inflation

+ Risk

+ Profit

Borrower rate

Index

Margin


Dissecting an interest rate

Dissecting an Interest Rate

1,4,5 Bank sample June 20062Federal Reserve 3Federal Reserve Bank Functional Cost and Profit Analysis.


Understanding private loans

Annual Percentage Rate (APR)

Annual basis

Up-front charges

Guarantee fees

Origination fees

Compounding frequency

Can make shopping easier

Price tag

APR


Index types

Index and borrower rate

T-Bill

LIBOR

Prime rate

Index Types


Index

Index

Wholesale price

Rate = price lender pays for money

Name = where lender obtains money

Borrower rate

Retail price

Price borrower pays for money

Index


T bill

Treasury bill

Government borrowing

U.S. deficit

Rate set by the government

Price it will pay to borrow money

Terms: 13 and 26 weeks

T-Bill


Libor

London Interbank Offered Rate

Rate international banks in London charge each other for loans

Can take place anywhere

Recorded in London

Similar to NYSE

Index has been used for 18 years

LIBOR


Prime rate

Retail

Credit-worthy customers

Secured

Private loans

Wholesale price

Mark-up/margin added

Borrowers lack credit history

Unsecured

Prime Rate


Margin

Allowance to cover expenses

Rate the borrower pays 10%

Index (cost of funds) -4%

Margin (covers expenses) 6%

Margin


Index margin

What the Lender pays

Lender Revenue

What the customer pays

Index + Margin

+

=


Floor and cap

Floor

Lowest rate

Rarely used

Cap

Highest rate

Limits consumer risk

Also called ceiling

Floor and Cap


Cap example

Prime + 3% with a cap of 12%

If prime rate is 14% + 3% margin

Rate is ____%

Cap Example


Adjustment period

How often rate changes

Annually, quarterly, monthly

Purpose

Easier budgeting

Keeps lender’s margin/markup level

Adjustment Period


Adjustment period cap

Maximum rate change each period

Purpose

Limits borrower risk

Easier to budget

Benefit when rates are going up

Not a benefit when rates decline

Adjustment Period Cap


Variable rate payment risk

Variable Rate Payment Risk

Based on a 10-year loan term.


Loan origination fees

Paid up-front

Usually a percentage of the loan amount

Origination

Fee to start a loan

Adds to the total cost of the loan

Included in APR

Loan Origination Fees


Points

Point = % of loan amount

One point = 1%

Origination fee of 2%

Two points

$25,000 x 2 points = $500

Mortgage, home equity

student loans

Points


Amortization

Amortize = Pay off

Reduction of debt

Regular payments of

Interest (cost of the loan)

Principal (actual amount borrowed)

Result = Loan balance decreases

Amortization


Negative amortization

Increasing debt

Payments do not cover principal and interest

Result = Loan balance grows

Read the fine print

Monthly payments remain fixed throughout the life of the loan. Any fluctuation in the interest rate will be reflected in the length of repayment, not in the monthly amount.

Negative Amortization


Capitalization

Adding interest to loan balance

Capital = Money borrowed

Interest is paid on capital

“Capitalized” = when interest becomes part of the capital

Capitalization


What s a better deal

Low fee or a low rate

$10,000 loan with 10-year term

1% fee = $100

1% rate discount = $626

A lower rate saves more than a low fee

Similar to car loan

What’s a Better Deal?

$626 savings based on an interest rate comparison of 7% and 8% on a 10-year loan term.


The right choice

LIBOR

Prime rate

T-Bill

The Right Choice

?


Indexes mirror each other

Indexes Mirror Each Other

Source: St. Louis Federal Reserve Bank and Federal National Mortgage Association


Rates mirror each other

Margin compensates for index variety

Any index

+ Margin

= Similar loan rates

Rates Mirror Each Other


Private loan choices

Private Loan Choices


Comparison shopping

Determine amount to borrow

Identify loan choices

Interest rate index

Up front costs

Points, fees, etc.

Term

Total cost of loan

Principal, interest, fees

Comparison Shopping


Comparison chart

Comparison Chart


Considerations

Variable Rate

Index (base)

Starting rate

Margin

Floor

Cap

Adjustment frequency

Payment range

Considerations


Private loan choices1

Private Loan Choices

?


What is a good deal

Affordable payment

Fits in your budget

Competitive rate

Reasonable fees

Feeling like you got a fair deal

What is a Good Deal?


Finding the best deal

General loan criteria

Homes, cars, credit cards, etc.

Most creditworthy = lower loan rate

Least creditworthy = higher loan rate

Private student loans

Finding the Best Deal


Private loan choices2

Private Loan Choices


How to find the best deal

Separate private loans by term

Sort by rate

Divide into three sections

Best credit

Average credit

Poor credit

How to Find the Best Deal


Private loan choices3

Private Loan Choices


Guiding students

Before

Term

Credit rating

Index

Fees

Apply

Confusion

Guiding Students

  • Now

  • Term

  • Credit rating

  • Apply


Guiding students1

1% rate discount vs. 1% fee discount

Rates typically mirror each other

Prepare for payment to change

Pay off higher interest rate debt

Credit cards

Private loans (if rate goes up)

Deferment/forbearance options

Guiding Students


Conclusion

1. Variable rate language

2. Types of indexes

3. Language for all types of loans

4. What is a good deal?

5. Guiding students

Conclusion


Thank you for attending

Thank you for attending

Mike Stein

301-231-7557

[email protected]


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