| Amortization: Your Enemy; the Banker's Friend | | | | government intervention, almost no one short of a |
| I have to digress a bit to property cover the next | | | | Ph.D. can understand the forms. |
| aspect of Small Business Wealth Creation. I want to | | | | Using Debt To Save Money On Debt |
| show you the detrimental effects of loan amortization, | | | | There have been some recent advances in money |
| how lenders benefit from it, and give you a strategy to | | | | management software that will allow you to "break |
| "turn the tables" on your lender. | | | | the bank" when it comes to amortization. With proper |
| One of the greatest financial inventions is "compound | | | | money management, you can drastically reduce the |
| interest." Albert Einstein is said to have called | | | | lifetime cost of your loan with almost no impact on |
| compound interest: "The eighth wonder of the world! | | | | your current standard of living. |
| Those who understand it profit from those who do | | | | The traditional approach to reducing the overall cost of |
| not." I can not verify the source of the quote, but | | | | a loan is to add an additional payment per year (OK) |
| whoever it said it was dead right. Let's examine | | | | or to add principal to the monthly payment (Better). |
| amortization and how you can turn the tables on your | | | | This usually results in reducing the term of a loan by |
| lenders. | | | | 25% to 33% depending upon the interest rate. The |
| When the "Lowest Rate" Is More Expensive | | | | problems with these methods include: |
| You see, amortized loans were created by bankers | | | | 1. The need for discipline in consistently paying more |
| and are structured so that the payments made in the | | | | per year or per month. |
| early years (according to the amortization schedule) | | | | 2. Interest cost reduction is maximized in the early |
| go primarily to pay interest. In the first year of a 25 or | | | | years of amortization, thus the gradual approach |
| 30 year amortizing loan, approximately 3% of the | | | | doesn't take advantage of this aspect. |
| monthly payment goes toward reducing the principal | | | | There is a company called United First Financial that |
| balance, depending upon interest rate. So for the first | | | | offers a sophisticated web-based amortization |
| several years, your payments do nothing but go to | | | | management software program that is combined with |
| your lender's bottom line. | | | | a credit line to take extreme advantage of the |
| Thus, the typical repayment of a commercial | | | | amortization disparity of the early years. (In the interest |
| mortgage with a 10 year call is only something like 20% | | | | of Full Disclosure, Excelsion Mortgage does represent |
| to 23% of the original loan amount even though a 33% | | | | the UFirst Money Management Account software for |
| to 40% of the loan's term has passed. So to | | | | its clients). The program uses the credit line as a |
| emphasize the point, this means that the majority of | | | | "reverse checking account" to allow you to make |
| that money you made in payments went into the | | | | greater principal reductions in the early years of a real |
| lender's pocket and you still have to pay back a large | | | | estate loan's life without affecting your lifestyle. |
| portion of the loan! | | | | The results are astounding in that most loans are paid |
| If you have ever taken the time to look at either an | | | | off around years 7 to 11! |
| amortization schedule or a Reg "Z" Truth In Lending | | | | The principle is simple: The credit line is used to pay |
| Disclosure, it is frightening just how much you end up | | | | ALL of your bills, instead of your checking account. |
| paying the lender for the privilege of using his money. | | | | Income pays down the line, bills increase it. The |
| This is the "earning" power of amortization from the | | | | software manages the timing of payments and |
| lender's standpoint. | | | | income to increase principal reductions on the |
| However, if you can pay one extra dollar in principal in | | | | mortgage while minimizing interest expense on the |
| the first month of a 25 year fully amortized loan at 7%, | | | | LOC (line of credit). Since you can never have a |
| you save $141.49 in interest costs over the life of that | | | | negative balance on the LOC, the software tells you |
| loan! This can be verified using a simple present value | | | | when it is safe to made additional payments to the |
| calculation. (No wonder banks have their names at the | | | | mortgage based upon your spending pattern. |
| top of the largest building in all of the major cities | | | | You can use a home equity line of credit, a business |
| across the U.S.) So when evaluating the true cost of a | | | | line of credit, or even a sophisticated credit card like |
| loan, you need to look past the "rate" to amortization, | | | | those offered by American Express. As long as the |
| points, and other fees. This concept is called "Total | | | | credit line offers check writing capability with no extra |
| Loan Cost" and is the theory behind those Good Faith | | | | fees, it will work with the Money Management |
| Estimates and Reg "Z" disclosures that you get when | | | | Account software. |
| you borrow money on your home. However, typical of | | | | |