Question: Five years ago you signed a loan contract with a re-payment schedule of 12-year fixed-rate, at 5.5 percent interest. You have made all your monthly payments during the past 5 years and now have an outstanding balance of $125,000. The current market rates are at 4.25 percent but you are obliged to continue paying your mortgage based on initial rate of 5.5 percent.
1. Calculate your monthly payments for the next 7 years (the remaining time of the contract)
2. Suppose your lending officer approaches you with a new proposal: if you pay a $6,000 lump-sum pre-payment penalty you are allowed to switch to a new contract with the current 4.25% percent rate for the remaining part of the loan. Will you accept this proposal? Why?
3. What is the maximum prepayment fee that you would pay to accept the deal?