Understanding Private Loans

1. Understanding Private Loans Default Prevention

2. 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

3. Improve discussion with borrowers Better understanding of loans and terms Less stress What’s In It For You?

4. Loan Language Guarantee Fees APR Origination Capitalization Margin Adjustment Period LIBOR Cap Points Prime T-Bill Negative Amortization Variable

5. 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?

6. Loan Language Essentials

7. 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

8. 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

9. Secured Car Home Unsecured Credit card Personal loan Education loan Interest Rates and Debt

10. What’s in an Interest Rate Cost of funds + Operations + Inflation + Risk + Profit Borrower rate Index Margin

11. Dissecting an Interest Rate 1,4,5 Bank sample June 20062Federal Reserve 3Federal Reserve Bank Functional Cost and Profit Analysis.

12. Annual Percentage Rate (APR) Annual basis Up-front charges Guarantee fees Origination fees Compounding frequency Can make shopping easier Price tag APR

13. Index and borrower rate T-Bill LIBOR Prime rate Index Types

14. Index Wholesale price Rate = price lender pays for money Name = where lender obtains money Borrower rate Retail price Price borrower pays for money Index

15. 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

16. 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

17. Retail Credit-worthy customers Secured Private loans Wholesale price Mark-up/margin added Borrowers lack credit history Unsecured Prime Rate

18. Allowance to cover expenses Rate the borrower pays 10% Index (cost of funds) -4% Margin (covers expenses) 6% Margin

19. What the Lender pays Lender Revenue What the customer pays Index + Margin + =

20. Floor Lowest rate Rarely used Cap Highest rate Limits consumer risk Also called ceiling Floor and Cap

21. Prime + 3% with a cap of 12% If prime rate is 14% + 3% margin Rate is ____% Cap Example

22. How often rate changes Annually, quarterly, monthly Purpose Easier budgeting Keeps lender’s margin/markup level Adjustment Period

23. 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

24. Variable Rate Payment Risk Based on a 10-year loan term.

25. 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

26. 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

27. Amortize = Pay off Reduction of debt Regular payments of Interest (cost of the loan) Principal (actual amount borrowed) Result = Loan balance decreases Amortization

28. 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

29. Adding interest to loan balance Capital = Money borrowed Interest is paid on capital “Capitalized” = when interest becomes part of the capital Capitalization

30. 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.

31. LIBOR Prime rate T-Bill The Right Choice ?

32. Indexes Mirror Each Other Source: St. Louis Federal Reserve Bank and Federal National Mortgage Association

33. Margin compensates for index variety Any index + Margin = Similar loan rates Rates Mirror Each Other

34. Private Loan Choices

35. 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

36. Comparison Chart

37. Variable Rate Index (base) Starting rate Margin Floor Cap Adjustment frequency Payment range Considerations

38. Private Loan Choices ?

39. Affordable payment Fits in your budget Competitive rate Reasonable fees Feeling like you got a fair deal What is a Good Deal?

40. 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

41. Private Loan Choices

42. Separate private loans by term Sort by rate Divide into three sections Best credit Average credit Poor credit How to Find the Best Deal

43. Private Loan Choices

45. Before Term Credit rating Index Fees Apply Confusion Guiding Students • Now • Term • Credit rating • Apply

46. 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

47. 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

48. Thank you for attending Mike Stein 301-231-7557 mstein@edfund.org