Financial Planning

Professor Durkin
Continuing Case Part II:
Pages 280- 283
Created By: Kyle Verrette
Summary:

Cory and Tisha requested another meeting with me. They are

requesting assistance with their cash management, credit use, and

major purchases. Cory and Tisha currently have several major credit

cards. These credit cards include Visa, MasterCard, Discover, and

American Express, as well as several store cards. They still receive

several tempting credit card offers in the mail, even though they have

several credit cards already. They have a total credit card balance of

$1,300. The minimum monthly payment for each of these credit cards

average $50. However, they usually pay $100 each month on their

credit card balances.

Cory and Tisha are anxious about moving out of their apartment

and purchasing their first home. They are currently not on the same

page about purchasing a home. Cory would like to wait because he is

interested in getting a new car that has fewer miles. This is because

their current car is older and has high mileage. Even though they are

anxious about purchasing a new car and home they are limited on

funds. They have several options available to them, which will reduce

their expenses. Cory and Tisha are able to reduce their monthly credit

card expenses as well as other miscellaneous expenses. The couple is

able to afford a maximum of $300 a month for an auto loan. However,

this does not count for the increase in their insurance premium if they

do purchase a new car.

Questions:

1. As a result of a recent corporate merger, Tisha is eligible to join a

credit union. What are the advantages and disadvantages of
doing so instead of remaining with a commercial bank?

Tisha is able to join a credit union due to a recent corporate merger

at her bank. Tisha is wondering what advantages credit unions have

over regular commercial banks. Credit unions have several

advantages over regular commercial banks. For example, credit

unions have lower fees, lower rates on loans, and they have higher

rates on savings. However, one disadvantage they have is the

convenience factor. Many credit unions are not located around the

country. For this reason, they have limited ATMs. The convenience

factor is one advantage commercial banks have over credit unions.

Commercial banks are able to offer the convenience factor that

credit unions are unable to. Commercial banks are able to offer

more ATM locations and they are also able to access their account

information anywhere by using the banks mobile app. Commercial

banks do offer the convenience factor, however, the customer ends

up paying for it due to the banks high fees. Several other

disadvantages associated with commercial banks are high fees and

high interest rates on the loans they offer.

2. Should they consider online banking? What are the advantages

and disadvantages when compared to traditional banking
services?

Before answering this question I would first ask the Dumonts to

please elaborate on the question. This is because the question does

not specify whether they are considering online banks or online

banking. If they were considering online banking such as using the

mobile app and online website I would indeed have them consider

this option. This is because having online banking allows them to

check their transaction history. They are able to see their balances,

see if a check cleared, and transfer funds at any time. They are able

to access online banking 24/7 the bank does not have to be open to

have access to this resource. Another advantage of online banking

is that the Dumonts are able to apply for an IRA and loans at the

comfort of their home. However, one major disadvantage associated

with online banking is identity theft. The Dumonts need to ensure

that they keep all of their passwords secure, so that no one is able

to access their accounts. If the Dumonts were to consider online

banks then they are several advantages and disadvantages

associated with them. Having an online bank means that there are

no brick or mortar locations. Online banks will usually offer higher

rates. This is because the fixed costs are lower than regular
commercial banks. One disadvantage of online banks is that the

Dumonts would loose the convenience factor. Since the bank is

based online, they would not be able to go into the bank and ask

them questions about their account. They would also not be allowed

to acquire about possible loans.

3. The Dumonts commercial bank was recently bough by a large,

out- of- state bank. Because required minimum balances and
bank fees have increased, the Dumonts have considered
shopping for a new bank. What factors should they consider?

When looking for a new bank the Dumonts should consider the

Three Cs. The three Cs are cost, convenience, and consideration.

The Dumonts should find a bank that has low monthly fees and low

required minimum balance. These fees are associated with the first

C, cost. The convenience factor also plays a vital part when

shopping for bank. This is because the Dumonts need to see how

many locations the banks offer, the hours, and the different services

each bank offers. The third C that the Dumonts should consider

when choosing a bank is consideration. Consideration depends on

how much personal attention the bank is able to offer you. It is

important that the Dumonts choose a bank that addresses all of

their concerns and needs.

4. The Dumonts have asked your advice on using a CD, money

market mutual fund, or asset management account for their
emergency fund. What is the best choice? Why? Is there another
type of account they should consider? Why is the balance
between liquidity and return so important with an emergency
fund?
The Dumonts are interest in several different banking accounts.

They are considering a CD, money market mutual fund, or an asset

management account. Each one of these accounts has numerous

advantages and disadvantages. Advantages to a CD account are

that it has a fixed interest rate and it is FDIC insured. Some

disadvantages associated with a CD, would be that the Dumonts

would be penalized if they withdraw money from their CD account

prematurely. If the Dumonts do decide to get a CD then they should

consider also creating a savings account. This is because if the

Dumonts need access to funds then they would be penalized if they

withdraw money from their CD. So, in order to avoid fees and be

able to access money then they should put money aside into a

savings account.

The second account that the Dumonts are considering is a money

market mutual fund. There are several advantages with this

account. These advantages include: high interest rates, check

writing privileges, relatively safe, liquid, and limited risk due to short

maternity of investments. Even though there are many advantages

there are some disadvantages. These disadvantages include:

administrative fees, minimum initial investments, and minimum

check amount, and the account is not federally secured.

The third option the Dumonts are considering is an asset

management account. There are many advantages and

disadvantages associated with this account. Several disadvantages

associated with an asset management account are that it requires a

minimum balance of $15,000. There are also higher fees associated

with the asset management account. The account is also not FDIC

secured. However, there are also many advantages to asset

management account. These advantages include high return,

unlimited check writing, monthly summary statements, and

automatic coordination of money management. Considering these

three different accounts, the best option is the money market

mutual fund. However, I would also recommend that the Dumonts

open a savings account. This is because the Dumonts would be

able to have easy access to their funds incase of emergencies.

5. Which provides the higher after- tax yield: The Dumonts 1

percent bank savings account or a federal and state tax- free
money market fund yielding .25 percent? The Dumonts are in
the 15 percent federal marginal tax bracket.

The Dumonts are currently in the 15 percent federal marginal tax

bracket. The Dumonts are looking into an account that will provide

them with the highest interest rate. The savings account has a 1

percent interest rate. The Dumonts need to be able to find the after

tax income. In order to calculate the after-tax income then I would

need to take the interest and then subtract the marginal tax of 15%.

For example, the equation would be (1%-15%=. 85%). Another

option would be the state tax-free money market fund with a tax

yield of .25%. Even though this option is tax-free it does not offer
the Dumonts the best interest. The best option is the .85%

associated with the savings account. Even though this number

would be decreased due to state tax it would still earn more interest

than the state free money market fund. So, ultimately the best

option is the 1 percent bank savings account because it will have a

higher return.

6. In Chapter 5 it was recommended that you pay yourself first.

Tisha is not sure how to do this but likes the idea of saving
money without having to think about it. Give her some advice
about ways to automate her savings.

Tisha likes the idea about being able to save money. She was

recommended that she should use the pay yourself first option.

This option will allow her to save money and distribute her payroll

check into various accounts. All Tisha has to do is get the account

number and routing number for each account that she was to

distribute into. Tisha is able to pay herself back by depositing

money into a CD and money market mutual fund each of these

accounts will allow her to earn interest. Another option is that Tisha

could purchase savings bonds and allow them to mature and earn

interest over time. One last option that Tisha could consider is by

transferring money into a savings account or vacation fund. This

would then allow her to save for a family vacation. Even if Tisha

deposits $10- 20 each pay cycle into each a savings account it will

allow her to start earning interest and get in the habit of saving
money. It will take time to be able to save a substantial amount of

money, but over time the balance will build.

7. Because of his concern over financial surprises, Cory wants to

learn more about identity theft. What practices should he and
Tisha follow to protect themselves?

Cory is interested in learning about procedures to take, which will

protect him from fraud and possible identity theft. The Dumonts

should consider investing in a shredder. A shredder will allow the

Dumonts to shred any documents with any account numbers,

telephone numbers, social security numbers, and credit card offers.

I would also suggest that the Dumonts check their credit reports.

They are able to do so by accessing three different credit report

agencies. These agencies include Trans union, Equifax, and

Experian. Using these agencies will allow them to get a credit

report. When they receive their credit report it is important that

they ensure there are no red flags. They need to ensure that all

closed accounts do not appear open on the credit report. The

Dumonts should also keep a record of all of their account numbers.

They should store all of their documents in a locked firebox. This will

allow them to secure their documents and ensure that no one is

able to gain access to their person information. One last

recommendation for the Dumonts is to be VERY careful giving out

personal information, especially over the phone and Internet.

8. The Dumonts take- home pay (after tax deductions for the taxes
and benefits) is approximately $6,045 monthly. Current
nonmortgage debt payments equal $911 (i.e., $405 auto, $100
miscellaneous credit, $196 student loan, and $210 furniture).
Calculate and interpret their debt limit ratio. Assume they could
purchase another auto with a $300 monthly payment. Calculate
and interpret their revised debt limit ratio. What advice would
you give the Dumonts about purchasing another vehicle?

The Dumonts are considering purchasing another vehicle. So, I

calculated their debt limit ratio and see if it is financially smart for

them to purchase another vehicle. The Dumonts are currently

taking home approximately $6,045 per month. However, they have

a nonmortgage debt payment of $911. So, in order to calculate

there debt ratio before the car I took their monthly debt and divided

it by their income (911/6045= 15%). Without purchasing a second

car the Dumonts have a 15% debt ratio. Which is good because

they want to be around the 15-18% rang. However, they should try

to stay below 20% because it is a little high. I then calculated their

deb ratio with them purchasing a second car. I took their monthly

debt and added the $300 for their new monthly payment of the car

and then divided it by their monthly income (911+300/6045=20%).

The Dumonts would have a 20% debt ratio if they purchased a

second car. 20% is a little high they should try to stay around the

15-18% debt ratio. The Dumonts should consider purchasing

another car with a lower monthly payment. This is because the

Dumonts may not have income to cover maintenance on the car

because 20% of their income would be going towards paying off

debt. It is important to note that the debt does not include their

mortgage payment.

9. Concerned that they might depend on credit too much, Tisha and
Cory have asked you about the typical warning signs of excessive
credit use. List five to eight of those signs. What alternatives
should they consider if they occasionally cant pay their bills on
time?

The Dumonts are worried about their credit score and are

wondering what several warning signs of excessive credit use are.

There are multiple warning signs of excessive credit use. For

example, if the Dumonts take advantage of the banks overdraft

privileges, taking out cash advances, only paying the required

minimum balance, depleting their savings account in order to pay

credit, and having their credit limits on their credit cards nearly

maxed out. However, there are several ways that the Dumonts are

able to improve their credit score and decrease their debt. They are

able to do so by establish a budget. If the Dumonts establish a

budget then they are able to identify key areas were they are able

to cut expenses. Other ways that the Dumonts can improve their

credit is by paying more than the required minimum balance that is

due. If the Dumonts stop using their credit cards and stop applying

for more credit then this will also allow them to improve their score

and decrease their debt.

10. Tisha and Cory are worried that their credit card company
might increase their credit card interest rate so much that they
will not be able to afford their monthly payments. Explain their
rights under the CARD Act of 2009.
Tisha and Cory are concerned about not being able to afford their

monthly payments with an interest rate increase on their credit

card. However, under the CARD Act of 2009 their credit company is

required to give the Dumonts a 45-day notice before they increase

their interest rate. This grace period will allow the Dumonts to shop

around for other credit card companies that offer a lower interest

rate. I would suggest that they go onto Bankrate.com. This website

will suggest several different credit card companies. It will also

provide each cards interest rate, benefits, and annual fee, and other

necessary information. This website will allow them to compare

each credit and see what one is the best option for them.

11. In anticipation of purchasing a home, Cory and Tisha have

been advised to check their credit report. Why? What are the
roles of the credit bureau, the credit report, and the FICO score in
determining creditworthiness and the cost of credit? How can
they get their credit report? What are the Dumonts alternatives
if they find erroneous information in their credit report?

It is important that the Dumonts check their credit report before

purchasing a home. It is recommended that they check their credit

report yearly. Receiving an annual credit report will allow them to

become familiar with their credit rating. If their credit score is low

then they know, that they have work to do to increase their score.

Having a low credit score would be a major red flag. This is because

they will receive a higher interest rate from lenders if they apply for

a mortgage. There are three different credit-reporting agencies that

will be able to assist Cory and Tisha. They are able to get their

credit report by using Trans union, Equifax, or Experian. Once they

contact one of these agencies, they will be able to provide the

Dumonts with their credit score. The report will also allow them to

highlight any errors. Errors on their credit report can consist of any

open bank accounts that have been closed and unresolved loans. If

there are any errors on the report then they need to contact the

credit bureau immediately.

12. What are the five Cs of credit? Define and explain each,
based on the information provided about the Dumont household.

The five Cs of credit are character, capacity, capital, collateral,

and condition. Character refers to the Dumonts creditworthiness.

Character is able to identify the Dumonts spending habits. It is also

able to identify whether they pay their monthly bills on time. If they

continue to pay their monthly payments then their creditworthiness

will be increased. This would be a good sign for the lenders.

Capacity looks at the Dumonts ability to repay. It also looks at their

education, occupation, income, stability of employment, and their

age. The third C, Capital refers to the size of their financial holdings.

It examines their savings and checking accounts as well as their

investments. If the Dumonts have more money established in their

accounts then it is able to increase their creditworthiness. Collateral

is the next C. Collateral refers to the portion of a borrowers assets

that they have attached to their loans. The assets act as a security
blanket for the lenders. If the Dumonts apply collateral to their loan

then they will receive a lower interest rate. This is because they

know that there is security attached to the loan. The last C,

Condition refers to the current state of the economy. The 5th C

identifies whether the Dumonts are able to repay their debt, due to

the current financial situation. If there were high unemployment

then lenders would be more skeptical and may reconsider giving the

Dumonts a low interest rate.

13. Cory and Tisha are convinced that good debt means
cheap debt. Help them identify one or two sources of credit
that would be categorized as inexpensive, more expensive, or
most expensive. Where would payday loans fit? Why?

The Dumonts are convinced that Good debt means cheap debt,

but this is not the right meaning. An example of good debt could

be student loans. The Dumonts do indeed have student loans, so

this could benefit their credit score. There are several didnt sources

that the Dumonts could use in order to receive a loan. The

Dumonts could consider asking family members for a loan. Asking a

family member for a loan will allow the Dumonts to pay little to no

interest. However there is some risk associated with asking a family

member for a loan. If the Dumonts are late or miss a payment then

the family member could become angry. Another option is to have

collateral attached to the loan. Attaching collateral to the loan gives

the lender more security. The loan will also be cheaper because the

lender will give the Dumonts a cheaper interest rate. The Dumonts
have also been considering a payday loan. However, the Dumonts

should stay away from payday loans because they have a high

interest rate. Along with a high interest rate there are also many

fees attached to the loan. A payday loan would be a bad option for

the Dumonts. This type of loan is usually for individuals with bad

credit.

14. Discussions over lunch where Tisha works often turn to

making ends meet. One coworker has been to a credit
counselor, while another is currently processing a debt
consolidation loan application. Are these alternatives helpful for
those who cant pay their bills? What two fundamental strategies
are imperative for someone recovering from credit overuse?

These alternatives are not helpful for the Dumonts. The Dumonts

should consider staying away from both TV ads and word of mouth

from friends and family. This is because word of mouth from friends

and family is not the best option to gain financial information.

Everyones financial situation is different. So, the Dumonts current

financial situation may not be the same as their friends. This means

that they may not be eligible for the same type of benefits or loans.

The best option for the Dumonts is to consider talking with a

financial advisor. The Dumonts could also consider contacting the

better business bureau for a reference. Contacting a financial expert

will help the Dumonts establish a budget, which will allow the

Dumonts to pay their monthly bills. While speaking with a financial

expert the Dumonts could also talk with them about debt

consolidation. The advisor will be able to examine the Dumonts

current financial situation and see if they should consider

consolidating their loans. However, it is important that they speak

with an expert before applying for a consolidation loan. If the

Dumonts consider taking their friends and families advice it could

negatively affect their financial situation.

15. Help Cory and Tisha apply the four steps of the smart
buying process to decide whether or not to replace their car.
What sources of consumer information might be useful to them?

It is crucial that Cory and Tisha apply the four step smart buying

process. This process will help them determine if they should

consider purchasing a new car. The four-step process includes: Step

1: Differentiate want from need, Step 2: Do your homework, Step 3:

Make your purchase, and finally Step 4: Maintain your purchase.

Throughout these four steps it is crucial that the Dumonts make a

must have list vs. a wish list. This will help narrow down the

Dumonts car search. It is also important that the Dumonts

continue to do their homework throughout the process. They need

to continue comparing prices at other dealerships. This will help the

Dumonts get the best price. After the Dumonts do their homework

and they believe they are getting a good deal, then they should

make the purchase. Throughout this whole process the Dumonts

need to ensure that they negotiate well. It is important that they

maintain their negotiating power throughout the process. If they

continue their negotiating power then they will be able to receive

the best financial deal.

16. A recent TV advertisement offered a lease option for $259

a month on a car that both Tisha and Cory like. It fits their
budget, but they are unsure of the contract obligations. What
criteria should they consider to determine if leasing is their best
alternative? What cautions would you give them about an open-
end lease compared to a close- end lease?

It is important that the Dumonts are cautious when listening to TV

advertisements. This is because there are various qualifications that

the Dumonts may need to qualify for in order to have the option for

a $259 monthly lease. However, if the Dumonts do consider leasing

a new car they need to consider several advantages and

disadvantages associated with a lease. With a lease the Dumonts

would be eligible to get a new car every few years. There would be

minimum to no maintenance fees. One disadvantage with a lease is

that the Dumonts would have a set number of miles and if they go

over their miles then the Dumonts will have to pay the difference.

With a lease the car has to be returned in pristine condition. Since

the Dumonts have several kids this may not be the best option.

This is because children may cause some wear and tear on the

vehicle. They may spill a drink in the car, rip the seats, or even

scratch the paint. The Dumonts would liable to cover all damages.

The car dealership may not even allow the Dumonts to return the

car if it is in bad condition.

If they do consider leasing a vehicle then the Dumonts have to

decide on a closed- end or open- end lease. A closed- end lease has

no financial obligation at the end of the lease. They are able to walk

away after the lease ends. The Dumonts just need to ensure that

they stay within the mileage requirements and keep the car in good

condition. A close- end lease allows for normal wear and tear. It

does not allow for scratched paint, ripped seats, or drink/ food

stains on the interior. However, it is important to talk with the

dealership and understand what the exact stipulations are for wear

and tear. There are also various fees associated with leasing a

vehicle. The Dumonts would have to pay for registration, tag fees,

and for a down payment. Another option is for an open- end lease,

but this option is more popular with commercial business. This is

because it allows for more mileage throughout the lease. The

business will also have the option to purchase the vehicle at the end

of the lease. However, this option does not allow the Dumonts to

walk away from the lease. The Dumonts will have to pay for the

depreciation on the vehicle.

17. If Cory and Tisha decide to purchase rather than lease

another car, what factors must they consider when comparing
new- and used- car purchases? What factors should they
consider in determining whether to sell their car outright or trade
it in toward their next purchase?

There are several factors that Cory and Tisha need to consider when

purchasing a new car. They need to be able to see how much they
can afford. Once they are able to determine how much they can

afford then they need talk and see what they would consider paying

for a monthly car payment. Several factors they need to consider, if

the Dumonts purchase a new car then it is important to know that

the car will immediately loose value once it leaves the dealerships

lot. However, with a new car there is a warranty. The warranty will

cover unexpected repairs. There will also be less maintenance fees

associated with a new car. Also one last factor that the Dumonts

need to consider is that many lenders will give them a lower interest

rate if they purchase a vehicle. The Dumonts have also considered

purchasing a used car. When purchasing a used car there is no

warranty. So, the Dumonts should consider establishing a savings

account for unexpected maintenance and repairs. The Dumonts will

also not receive a low interest rate if they purchase a used car.

Cory and Tisha are also considering trading in their current car or

selling it. If the Dumonts do not believe that they will receive a

good amount in trade in then they should consider selling the

vehicle. However, there is a lot more hassle associated with selling

a vehicle. It is usually hassle free when trading in the vehicle

because you do not have to worry about paperwork. When trading

in a vehicle there is a lot less hassle. Even though the Dumonts

may not receive the amount expected in a trade in, there is no

hassle or risk. There is a risk factor associated with selling the car.
The individual purchasing the car could give the Dumonts a

fraudulent check. But, there are some advantages to selling the

vehicle. If the Dumonts do not need the car for a down payment

then they could save the car and sell it when they are ready. If they

sell the car they might also get more money for the car then if they

traded it in.

18. Cory and Tisha found a used car that costs $12,000. They
can finance through their bank for 5.75 percent interest for a
maximum of 48 months. The rate for new car financing is 4.50
percent for 60 months or 4.35 percent for 48 months. If they
could find a comparably priced new vehicle, how much would
they save per month in interest charges if they financed the
vehicle for 48 months?

Cory and Tisha are considering purchasing a car. They found a used

car that costs $12,000. They are seeking assistance to gain further

information about either purchasing a new car or a used one. If the

Dumonts consider purchasing a used car then the lenders would

offer them an interest rate of 5.75 percent for 48 months. The

monthly payment for the used car would be $280.45. If the

Dumonts consider purchasing a new car then the lenders would

offer them a 4.50 percent interest rate for 60 months or a 4.35

percent interest rate for 48 months. If the Dumonts considered

purchasing a new car for 60 months with a 4.5% interest rate, then

the monthly payment would be $223.72. If the Dumonts decided to

finance a 48-month loan with 4.35% interest than the monthly

payment would be $272.83. The Dumonts are interested in

knowing how much they would save per month in interest charges if

they financed the vehicle for 48 months. In order to find the

monthly saving I took the monthly payment for the used car of

$280.45. Then I took the monthly payment for the 48-month loan of

$272.83 and subtracted them. The equation would show, (280.45-

272.83= 7.61). So, the Dumonts would save $7.61 in interest per

month. Once I figure out how much they would save each month I

multiplied the 7.61 by 48. The Dumonts would save $365.51 over

the 48-month loan.

19. Considering the information in Question 18, how much

interest would be saved if the Dumonts financed the used
vehicle for 36 months, instead of 48 months, if the rate remains
the same?

The Dumonts are considering financing a used car for 36 months,

rather than 48 months. They have asked me to calculate how much

they would save in interest if they chose the 36-month loan over the

48-month loan. If the Dumonts financed a car for $12,000 with a

5.75% interest rating over 36 months they would save $368.06 over

the life of the loan. If they were to finance a 36-month loan then

their monthly car payment would be $363.71 per month. However,

if they chose to stay with the 48- month loan, then they would be

paying $280.45 per month. They monthly payment would be lower,

but they would also save a total of $368.06 in interest over the life

of the 36-month loan.

20. In reviewing the sample auto loan contact, Cory and Tisha
questioned the term secured loan. They also were unsure of
the terms default, repossession, and deficiency payment
clause. Explain these terms. What can they do to avoid
repossession?

Secured loan is a loan thats guaranteed by a specific asset. For

example, the Dumonts could attach collateral to the loan. An

example of collateral could be a down payment on a car or their

home. The Dumonts are also wondering what default means. The

definition of Default means that the Dumonts failed to make a

scheduled interest or principal payment. The Dumonts are also

interest in understanding what repossession means. Repossession

occurs if the Dumonts defaulted on their loan. The lenders will then

claim any assets in order to help recover the debt of the loan. For

example, the lenders could repossess the Dumonts vehicle. The

lenders would then take the car to an auction and use the money

they got from the car and apply it towards their defaulted loan.

Deficiency payment clause is a loan requirement stating that if the

Dumonts default on their secured loan, not only can the lenders

repossess whatever is secured, but also, if the sale of the asset does

not cover what is owed, then the Dumonts will still be responsible

for the balance of the loan. The Dumonts could consider several

actions to help avoid repossession. The Dumonts could consider

establishing a budget to ensure that they make their monthly

payments and they do not default on their loans. However, if they

do not have the income to afford the monthly payments, then the

Dumonts could consider filing for bankruptcy. Another option they

could consider is to sell the asset and use that money to repay the

loan. The Dumonts could also contact the lender and talk with them

about their financial troubles. The lenders may be able to provide

them with several different courses of action to help resolve their

financial situation.

21. In a few years, Tisha and Cory might want to consider a

home equity loan to finance a car purchase or to help pay for
Chads or Haleys college costs. What are the advantages and
disadvantages of using this credit source as opposed to the
typical auto or student loan? Specifically, what are the tax
consequences?

The Dumonts are considering taking out a home equity loan in

order to purchase a car and help their children pay for college. The

Dumonts are wondering what the advantages and disadvantages

are associated with a home equity loan. There are several

advantages with a home equity loan. Home equity loans are more

secure than regular consumer loans. Since the loans are secure the

interest rate associated with the loan is also lower. This is because

lenders consider them less risky. Even though there are many

advantages to a home equity loan there are also several

disadvantages. Some disadvantages are that the Dumonts would

be putting their home up as collateral. The Dumonts should be

careful because if they are not financial responsible then they could

risk losing their home. If the Dumonts do default on their monthly

loan payments then the bank will put their home up for auction.

They will use the amount they get for auction and pay off the

remaining balance on the car loan as well as the college loan. Once

they reach the final stage of the life cycle they will be close to

retirement and it is important that they have a home secured by

then. There are also several fees associated with the home equity

loan that they need to consider as well. If the Dumonts are financial

responsible and they keep a budget then a home equity loan is

something they should consider. This is because they could save

money with a lower interest rate associated with the home equity

loan. There are several tax consequences that the Dumonts should

consider as well. The interest on a home equity loan is tax

deductible up to a maximum of $100,000. So, for every dollar of

interests the Dumonts pay on their home equity loan, their income

is lowered by $1.

22. Last-week, the local newspaper mortgage rate column

reported that the rate for a 30- year fixed-rate mortgage was
3.88 percent, while the rate for a 7-year balloon payment
mortgage was 3.45 percent. A 1-year ARM was available for 3.25
percent. Assuming a loan amount of $120,000, calculate the
payment for each mortgage. Aside from the significant
differences in the mortgage payment amounts, what other
factors should the Dumonts consider when choosing their
mortgage? What are the advantages and disadvantages of an
interest- only mortgage?

The Dumonts saw a local ad in the newspaper. The ad reported that

a fixed rate mortgage offered a 3.88% interest rate, 7-year balloon

payment offered a 3.45% interest rate, and a 1-year ARM offered a

3.25% interest rate. The Dumonts are considering the loan amount

to be $120,000 over a 30-year span. The Dumonts were wondering

which option had the lowest monthly payment. Factoring in each

loans total amount, time, and interest rate I was able to find the

monthly payment. For a 1 year arm the monthly payment is

$522.25. The monthly payment for 7-year balloon payment is

$535.51 and the monthly payment for a fixed rate mortgage is

$564.63. The lowest monthly payment for a 30-year loan would be

for the interest only mortgage.

The Dumonts should consider three major factors choosing their

mortgage. These factors include: Loan amortization, interest rate,

and the length of the loan. If the Dumonts only have a 15-year loan

compared to a 25-year loan then they would be able to save a

significant amount of money in interest. Using loan amortization the

Dumonts would be able to save money overtime in interest. This is

because it could allow them to repay their loan in a shorter period of

time.

The Dumonts have several different types of mortgages that are

available to them. For example, there is a 7-year balloon mortgage,

one-year arm mortgage, and an interest inly mortgage. Each of

these mortgages has their advantages and disadvantages. A

disadvantage with a 7-year balloon payment is that if the Dumonts

do not refinance their loan, then they could end up having a

payment to pay.

The 1-year ARM would not be a viable option for the Dumonts. They

are Farley young and already have a couple of children, so they

currently have a strict budget. With a one year arm the interest rate

is able to fluctuate and with any change in the interest rate it could

be trouble some for the Dumonts.

The third option that the Dumonts can consider is the interest only

loan. Lenders offer low interest rates and the monthly payment is

also less than a regular principal payment. One major disadvantage

to an interest only loan is that the Dumonts would still be earning

interest from the loan. This could potentially cause the Dumonts to

spend more money over the life of the loan.

23. Based on their gross monthly income of $7,000 and

monthly debt repayments of $911, what is the maximum
mortgage amount for which Cory and Tisha could currently
qualify? Monthly real estate tax (T) and homeowners insurance
(I) are estimated at $170 per month. Calculate the mortgage
amount using both the 28 percent qualification rule and the 36
percent qualification rule. Use 4 percent as the current rate of
interest and assume a 30-year, fixed- rate mortgage.

The Dumonts currently have a monthly income of $7,000 and they

also pay $911 in loan payments per month. They are also expecting

to pay $170 in homeowners insurance. The mortgages loan

maturity is 47.74 a year with a 4 percent interest rate. Using the 28

percent qualification rule, the Dumonts would be eligible for a

$374,948. The monthly payment on this loan would be $1790. I

was also able to calculate the total mortgage and monthly payment

using the 36 percent qualification rule. The Dumonts would be able

to qualify for a total mortgage of $301,424. This mortgage would be

a 30-year, fixed rate mortgage. The monthly payment for the 30-

year loan would be $1,439. The Dumonts should consider the

mortgage that qualifies them for a total mortgage of $301,424. This

is because they would be paying less money per month on a

mortgage payment. The money they save on a cheaper house can

be used for an emergency fund. The emergency fund could be used

for unexpected repairs or maintenance in the home.

24. How has Corys student loan affected his creditworthiness

in applying for a mortgage? What is the relationship between PITI
and consumer credit when calculating the 36 percent
qualification rule?

Cory is wondering how his student loans are affecting his

creditworthiness during his loan process. Many lenders may use the

36 percent qualification rule to determine his credit worthiness. The

lenders look to see if Cory has more than 36 percent of his income

allocated to repaying debt. This debt can include, car loans,

mortgages, credit card debt, and personal loans. Cory still has

outstanding student loans, but student debt is considered good

debt to lenders. So, his student loans will not affect his

creditworthiness. However, it is impacting his PITI. PITI is an

acronym for Principal, Interest, Taxes, and Insurance. Cory is

currently paying $1439 in PITI. But, this amount does not include his

monthly student loan payment of $196 a month. His PITI is affected

because once I add $196 to his current PITI then the amount will be

increase to $1635 (1439+196=1635). Even though his student

loans will not negativity affect his creditworthiness it will indeed

affect his PITI.

25. Compare the Dumonts monthly mortgage payment for PITI

in question 23 with their current monthly rent and renters
insurance cost of $1,300. Should Cory and Tisha consider
purchasing a house that would require their maximum
qualification mortgage loan amount? Defend your answer.

The Dumonts have two options that they are able to choose from.

They can choose either the loan that is offered from the 28 percent

or 36 percent qualification rule. The 28 percent qualification rule

offers the Dumonts a a mortgage of $374,948. The monthly

payment associated with this loan would be $1790. The Dumonts

currently pay $1300 in rent and renter insurance per month. If they

choose this option it would be an extra $490 a month for the loan

itself. This does not include the homeowners insurance of $170 per

month. This option would not be financially smart for the Dumonts

to consider. They were also able to qualify for the 36 percent

qualification rule. With this qualification the Dumonts expected

monthly mortgage payment would be $1,439 over 30 years. While

the Dumonts total mortgage would be $301,424. They are also

expecting to pay $170 a month in homeowners insurance. So, it

would not be there option to choose the more expensive home. This

is because they would be limited with their available funds. If there

was an increase in one of their bills or an interest rate increased

then they may not be able to offered their monthly mortgage

payment. By choosing the total mortgage of $301,424, it allows the

Dumonts to have more flexibility in their monthly budget.

26. Given the maximum mortgage qualification amount

determined in Question 23, calculate a 20 percent down
payment. If closing costs average 5 percent of the cost of the
house, how much will the Dumonts need on the day of closing?
How does this compare with the $13,000 in the stock market
index mutual fund account for their house down payment?

The Dumonts are considering putting a 20% down payment on their

home purchase. If the Dumonts financed a 30-year loan for

$301,424 then they would have to put $60,284.80 for a total down

payment. The Dumonts will also have to pay 5% closing costs on

their new home purchase. In order to calculate the total closing cost

I took the mortgage of $301,424 and multiplied it by 5%. The 5% is

what they have to pay towards the closing costs. The total amount

of closing costs calculated to $15,071.20. Once I found the amount

the Dumonts need to spend is closing costs and for a down

payment I added them together. This came to a total amount of

$75,356.00. The Dumonts will need to pay $75,356 the day of

closing. They currently have $13,000 in savings that they are able

to put towards the closing costs.

27. Using the monthly PI payment for the maximum mortgage
qualifications amount in question 23, calculate the total cost of
the Dumonts home if the mortgage is not paid off early? How
much of this cost is interest?

If the Dumonts finance a 30-year mortgage for $301, 424 their

monthly payment would be $1439.00. The Dumonts are wondering

how much they would be paying in interest if they do not pay off

their 30-year mortgage. In order to calculate the interest I first had

to calculate the total costs of the mortgage. I was able to find the

total costs by multiplying the monthly payment by 360 months

(1439*360= 518,040). After I calculated the Dumonts total costs, I

then took the total costs and subtracted the loan amount. The total

costs are 518,040 and subtracted 301,424, which then gives me the

total interest. The equation I used is (518,040.00- 301,424.00=

216,616). The Dumonts would be paying $216,616 over the life of

the 30-year loan. If the Dumonts pay off their loan early then the

Dumonts would be able to save a substantial amount of money in

interest.

28. Tisha would like to consider a 15- year mortgage so that

the house would be paid for before Haley enters college. Explain
how the factors of monthly payment, total interest paid, time
value of money, and taxes impact this decision.

Tisha is considering a 15- year mortgage. Tisha would rather have a

15- year mortgage because their house would be paid off before

Haley enters college. If Tisha decides to finance a mortgage at 15-

year rather then 30 years then their monthly mortgage payment

would be increased. Several advantages to a 15-year loan are that

the Dumonts would be able to pay off the loan faster and they

would be able to save money. This is because a 15-year mortgage

offers lower interest and taxes. The Dumonts would only have to

pay interest, taxes, and a monthly payment for 15 years, rather

than 30 years. If the Dumonts believe that they would be able to

afford a higher monthly payment then a 15- year mortgage would

be the best option. For example, if the Dumonts do indeed finance

a 15-year mortgage with a fixed rate of .003233 percent then the

monthly payment would be $880.43. However, if they decided to

stay with a 30-year loan then the Dumonts would be looking to

paying a fixed payment of $564.63. So, overall the Dumonts would

have to pay a higher monthly mortgage, but it could be beneficial.

This is because they could save money in interest and their home

would be paid off before Haley begins college.

29. Briefly explain the concepts of one- time, recurring, and

maintenance and operating costs to Cory and Tisha. How should
they consider three categories of costs when shopping for their
home?

The Dumonts should consider the three major categories when

purchasing a home. These categories include: one time costs,

recurring costs, and maintenance and operating costs. Several one

time costs include down payment and closing costs. The Dumonts
 also need to consider several recurring costs. Recurring costs would

include PITI costs. PITI costs are principal, interest, taxes, and

insurance. These costs occur multiple times throughout the loan

repayment process. The third category of costs when shopping for

their home are the maintenance and operating costs. Maintenance

and operating costs could include a new water heater, new

appliances, lawn care, electrical repairs, and plumbing repairs.

There are a lot of unexpected maintenance bills when purchasing a

home. However, the Dumonts could consider several alternatives to

help decrease maintenance and operating costs. When the

Dumonts are in the buying process the Dumonts could request a

list of recent maintenance repairs done at the home. The Dumonts

could also ask the sellers of the home to replace old/ broken

appliance. This will help the Dumonts decrease their maintenance

costs. It is important that the Dumonts consider these three

categories of costs when purchasing a home.

Recommendations:

There are several recommendations that I would suggest to the

Dumonts. One recommendation would be that the Dumonts should

establish a budget. This will allow them to track their expenses.

Establishing a budget will also allow the Dumonts to know how much

they are currently spending in debt per month. A budget would also

allow them to cut expenses when needed. A second recommendation I

would make to the Dumonts is to consider getting online banking.

Online banking is a free resource that is offered by banks. Online

banking allows the Dumonts to keep track of their current balance. It

would also allow them to transfer funds when needed and see whether

a payment was made.

Another suggestion I would make to the Dumonts is to consider

getting a part time job. Having a second job will be another source of

income, which would allow them to have a safety cushion if they are

short one month. The extra source of income could also allow the

Dumonts to get a 36-month loan, rather than a 48-month loan. Since it

would cost more per month to get a 36-month loan the extra source of

income could allow them to reconsider this idea. A 36-month loan

would allow the Dumonts to $368.06 over the life of the loan in

interest. The last recommendation I would make to the Dumonts is to

consider applying for a home equity loan. If the Dumonts establish a

budget and pay their monthly loan payment then a home equity loan

would be beneficial for their current financial situation. This is because

the Dumonts would be able to save money each month in interest, it is

tax deductible, and it is secure.