 Personal finance practice problem using OneNote. Loan periods impact on payments. Get ready to get financially fit by practicing personal finance. You're not required to, but if you have OneNote, would like to follow along. We're in the icon on the left-hand side when the practice problems tab down in the 6210 loan periods impact on payments tab. Also, take a look at the immersive reader or practice problems will also be in the text area with the same name, same number, but with transcripts, transcripts that can be translated into multiple languages and either listened to or read in them. We're looking at standard installment loans, those being a very common loan structure, one which we pay back the loan with standard or set or equal payments over a set interval, typically on a monthly basis. The fact that we pay back the same amount each period makes these loans easy to budget for, which is great, but there is still complexity or a cost to that in that the amount that's gonna be allocated of that payment to interest and principle will vary as we make each of the payments as we'll see when we construct the amortization tables. So the components that we typically will need in order to analyze a loan and be comparing and contrasting the loans will be the loan amount, the 100,000 we're gonna start with here, the rate, we're gonna have at the 12%, obviously the rate will vary with the market conditions and this particular circumstances of the individual or entity taking out the loan and then the years, the periods that are gonna be covered, we're gonna be using years here of the 30, the 15, the 10 and the five. Now clearly we can vary any of these variables which will have an impact on the standard structure of a standard installment type of loan. We're gonna practice varying here the number of years. So in other words, obviously if you adjust the loan amount how much money you're gonna be taking out for the loan that will have an impact on the payments and the amortization schedule, how much interest you're going to be paying but oftentimes you need so much money to do whatever you're gonna do for purchasing whatever you're gonna purchase. So most of the time or oftentimes you're not able to possibly vary that one. The rate might be something that you can't vary as well. It might be based on whatever the bank says given the current economic conditions and your economic conditions. So you might not have as much flexibility with the rate although if you go to less standardized structures, variable rate loans and so on, then that opens up a lot more possibilities but typically adds in a lot more risk as involved there. The other thing you could basically look at that we'll play with here will be the timeframe that will be covered. So if you were talking about a standard like a home loan it would often be the long 30 year loan. We got the 15 year loan, the 10 year loan and a five year loan. Now oftentimes if you were to finance basically many different things, not just like a home but many different types of things you might say that if I finance it over a longer timeframe, that's one of the ways that clearly you could basically drop the payment down although as you're extending the timeframe because you're paying it over a longer period of time you're gonna be paying rent on the money which is interest over a longer period of time. So you will typically be paying more in terms of the cost for interest in order to get the payment amount down. That's gonna be the trade-off, right? You're gonna say, okay, I need to get the payment down to where it's affordable but I'm gonna extend the loan term which means I'm gonna be paying it off longer and therefore I'm gonna be paying more rent on it because I'm gonna be renting the purchasing power of the money for a longer period of time over the life of the loan. So let's first just think about the impact on the actual payment which you can calculate with a formula in Excel and we do do this in Excel if you wanna practice on that and we'll practice more loans, focusing more on home loans in future presentations but that's the first thing you can look at and when you're talking to someone that deals in finance if you're talking to a financer for example this is usually the number that they're gonna be focused in on because they're gonna say I'm gonna try to I'm gonna get this number down as low as I can but remember that that's not the only number you really wanna focus on because if you get this down if I had a five year loan and you got the loan payment down but now I'm having the loan over 30 years there's gonna be a huge impact on the interest that's gonna be involved as well. So whenever you're sitting down to someone with someone about financing you usually wanna be able to take your time to step away from them because they're clearly gonna be a salesperson at the same point, right? The financing team for any large purchase is gonna be part of the whole sales team the whole sales funnel so you probably wanna be able to say okay I'm gonna take a time away and go do my own calculations on this and not just be dependent on the sales team that's just part of the purchasing process if you have to finance something that's gonna add a level of complexity that you wanna be able to and you can't just trust the financer of course because they're on the sales team and they're gonna have their own kind of angle on how they're gonna be talking about things. So you can first think about you can calculate this amount here and then you can build the amortization table possibly and think about what is gonna be the impact on the total interest that you're gonna be paying for example. So the formula and you can also use a financial calculator and so on to do this kind of thing but I think Excel's the best way to do this kind of stuff because you can run projections and you could set up this data for example on the left hand side and then just change the data you can change the years here and have it automatically change in your Excel worksheet and you can also set up your amortization tables to basically automatically populate so you can run different scenarios on a side by side basis. So the payment I'm gonna say negative PMT I say negative because I think that's the easiest way to do it the negative should more likely be inside here but you're gonna end up with a positive number that's what I want from putting a negative in there PMT the rate is going to be the 12% in this case remember that that's just an example rate it could vary based on whatever circumstances are currently in the economy but the rate in typical typically will be a yearly rate that we talk about we don't talk about monthly rates even though here we're gonna apply them to a month because the monthly rate will be quite small if I divide it by 12 to get the monthly rate I get one which you know that happens to be nice in this case but if this rate was a yearly rate of 6% and you divide it by 12 then you start getting fractions of rates and you get uneven fractions and so on that's why we typically talk in yearly rates and then we gotta divide it by 12 so that Excel can then deal with whatever if it was a fraction or something like that easily and then we're gonna say comma we got the number of periods the number of periods in this case we're gonna start with this 30 year the long term and but that's in years and we want to have it in terms of months so we're gonna multiply that times 12 which would give us the 360 and then we're gonna take the present value that's gonna be the current amount of the loan the 100,000 that gives us the payment of the 1029 1029 but I'd have to be paying that over 30 years what if I change this and say let's change it up to 15 so we've got the same data here but we change it to 15 and if this was an Excel then you could just change this number to 15 and it would populate your cell over here and you could use one worksheet that's one of the pros and cons or one of the pros of using Excel so we got the same calculation the payment's gonna be the rate still up to 12% we divide it by 12 to get the monthly rate comma number of periods and this is where the change is is now 15 but that's in years so we multiply it times 12 to get it to the months and then comma the present value is still at the 100,000 so now we've got the payment of the 1200 so clearly the payment is higher here because we're paying it back over a shorter term that being the 15 years so that's a negative that it's higher because we might not be able to budget for that but we're gonna be paying a less interest here because once we pay back the loan we're not paying back the rent on the loan over the longer period which we'll take a look at shortly but let's just focus on that payment again and say well what if we move it to 10 years and do the same calculation which you could do quite easily in Excel if you just change the same cell from 15 to 30 to 10 and keep everything else the same and so we got the payment calculation the rate now is going to be the 12% we divide that by 12, same thing no change there, the number of periods that's where the change happens we got the 10 years this time instead of the 15 but that's in years so we multiply it times 12 and then comma and we take the present value that's the 100,000 that would give us the 1,435 which now is higher here so as we shorten the term that it's being covered over we're getting a higher payment amount but we're also gonna be paying it back sooner that's the trade-off and if we go to five years now we're switching it to five years and we do the same kind of thing except now I don't show the formula here but we've got the five years instead of the 10 we're at the 2,000 to 24 so that's the first thing that you can look at and you can imagine if you're sitting down with someone who's trying to finance with you they're gonna say oh well there's the 224 over five years but if we just make it 10 years and keep everything else the same then we can bring you down to the 1,435 and that fits into your budgeting process or we can bring it down which is we're just gonna increase the years to 15 to get it to the 1,200 and that's in your range so that's the only number that might be focused on the main emphasis will be oftentimes but clearly you also need to think about okay well what's gonna be the interest that's going to be involved here so you might make say an amortization table which looks intimidating to make but it's fairly easy to do and it's the reason it's a little bit more the reason these are get to be a little bit more complex is because you can't just you can't just easily get to like the interest the rent on this because the interest is the cost of you paying back in other words if I take out a loan then I have to pay the 100,000 principle back no matter what the question is well how much interest am I paying you can get to that fairly quickly by saying okay well obviously if I'm paying 1029 times 30 I'm sorry hold on a sec if I'm paying 330 times 12 is 360 payments times the amount of 1029 that's gonna be 370,440 minus the amount of the loan which is the actual principle that I'm paying back 100,000 that's gonna be the 270 so amount of the interest and you can kinda compare that that's the rent that you're paying on the money the rent in order to get to the purchasing power of the money over a long time period of 30 years now if you wanted to break that out more complexly per payment it gets more complex because you can see here that even though the payments are the same the amount that's allocated to the interest and the loan balance reduction is a lot different so you can see if I scroll down the standard amortization table you've got the interest portion going down and the loan balance portion going up here and so that could have implications if for example there's a tax implication that's gonna be involved on this if you get any kind of tax benefits because it's a business property or a home or something like that and so now you get to that 270 if I sum up this column there's the 270 there it's a little different what happened what's rounding I think okay so there we have that and then of course I can compare that on over and say okay well what if I compare that to the 15 year I had the 27440 and say well if it was 15 year then I'm paying 1200 I can get a quick calculation on that and say okay well how much interest would I pay over this whole thing 1200 well let's do it this way let's take the 15 times that's the 15 years times 12 would be a 180, 180 payments times 1200 so we would be paying 216 over the life of this thing and then minus the 100,000 so there's the total interest that we would be paying sometimes you might wanna break this out into an amortization table we'll show you how to build it basically in Excel but again the key here is you got this difference between the interest and principal which could also didn't have an impact on things like you know the value of the thing you're purchasing and it could have an like if you're talking equity if it was a home or something like that and it can have an impact on any tax consequences if there's any deductibility of say the interest portion that you have here so you got your trade offs when you're making that kind of decision and then the next one we've got the 10 years so we can do the same thing here we got now we're paying the 1435 but if I take the 10 year times the times 12 we're paying it over 120 periods times the 1435 so we're talking 172.2 that's my total payment that I'll be making minus the loan that I'm paying back 100,000 means I'm paying rent on the loan interest of the 72.2 so then if I broke out my amortization table interest and principal I could see the interest that I'm paying I might want to break that out on a year by year basis we'll talk about more how to do that later which is often useful for large purchases especially like a home purchase on the personal side but there's the 72.165 and then lastly lastly we'll go into the last one which was the five year we could do a similar calculation here and say okay well if I'm paying five years times 12 we're talking 60 payments times this 2224 that's gonna be the 133440 I'm paying back minus the loan amount that I borrowed 100,000 so the rent that I'm paying on the purchasing power of the money is 33440 that being the interest so you could break that out into an amortization table as well helping you to break this out for possibly taxes and whatnot there's the 334 difference due to rounding so that gives us kind of an intro into where this becomes quite useful and that's with like home purchases or really large types of things and on the personal side of things this time value of money comes into play most often when you get to the large purchase which is going to be a home purchase and then so we'll dive more into these amortization tables with regards to in particular home purchases which typically have a similar kind of installment loan type of structure but you have some added complexities which could be with regards to the interest deductibility you also could have similar things if it was a business situation with the deductibility of interest for example that could have an implication and just like anything else you could as we saw with in some prior presentations apply your time value of money types of calculations and look at your try to break your cash flows out into a year by year basis and then discount the cash flows to help you to make decisions between different alternatives that you might be making from that standpoint from a cash flow standpoint but we'll get into more loans in future presentations