You Or Your Client May Benefit From A Reduced Amortization Mortgage ( RAM )
By Gerald Klugman
Most Real Estate Investors seeking financing for their properties want the longest amortization period that they can obtain . There are a number of reasons and benefits derived from a longer amortization period , even though they normally have a somewhat higher interest rate :
• The monthly payments on the mortgage are lower ( despite the interest rate being higher ), due to the mortgage extending over a longer period of time .
• The ratio of debt to equity remains higher over the term of the loan , meaning that the amount of leverage is greater .
• The initial ratio of interest to principal in payments on mortgages having longer amortization periods is higher , meaning a larger portion of monthly mortgage payments are tax deductible for Federal , State , and Local Income Taxes .
The first above listed item does not need explanation , but the last two attributes are less apparent . So , it is these which require further examination , as they are key characteristics and benefits of a Reduced Amortization Mortgage ( RAM ).
THE RELATIONSHIP BETWEEN THE INTEREST RATE AND AMORTIZATION PERIODS
On a typical amortizing mortgage , the amount of the monthly amortization increases by the monthly interest rate . So , the amortization amount on a mortgage that has a monthly interest rate of ½ % will increase over the previous month by ½ %. Stated in dollars , amortization of $ 10,000 included in the May mortgage payment will be $ 10,050 in the June mortgage payment . The period interest will decrease by the amount of the period increase in amortization . This all ties together , as the interest payment is computed from the remaining principal balance .
When the interest rate on a mortgage is low , the amortization is more constant from month to month than for a higher interest rate mortgage . The monthly amortization on a high interest rate mortgage starts out as less than the monthly amortization on a lower interest rate mortgage of a like mortgage amount ; but increases at a more accelerated rate throughout the term of the loan . The following graph provides a visual of the effects of a range of amortization periods ( 15 years , 20 years , 25 years , and 30 years ) and a range of interest rates ( 4 %, 6 %, 8 %, and 10 %).
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