This week's column continues our look at examination questions that require calculations.
One type of question that may be encountered is that relating to a borrower's mortgage repayments. Such questions can come from a number of different angles. The following question is taken from a CeMAP three specimen exam paper.
Luke and Jessica would like to know how much interest they will pay over the first year of their mortgage if they take out the maximum loan using the recommended product. The case study scenario on which this question is based reveals that the maximum loan amount is £72,000 and the recommended product is a 25-year term base rate tracker interest-only mortgage at the Bank of England base rate plus 0.95% in year one and plus 1.25% thereafter.
Assuming a base rate of 5.75% for the first six months, followed by a 0.25% reduction for three months, reverting to 5.75% for the final three months of the year the amount would be either: (a) £4,095 (b) £4,779 (c) £4,824 (d) £5,463.
Try answering the question before reading on.
While this is a straightforward question the amount of information provided may at first appear daunting. However, candidates should work through the question in a logical way. The interest rate charged at the beginning of the first year will be 5.75% + 0.95% = 6.7%. Therefore the amount of interest payable for the whole of the first year at this rate would be the loan amount of £72,000 x 6.7% = £4,824. However the question tells us that this rate is charged only for the first six months. Therefore, the amount of interest payable during the first six months of the year must be £4,824 ¸ 2 = £2,412.
After the first six months the interest rate reduces by 0.25% for the next three months. Therefore the rate of interest charged will be the original rate of 6.7% – which was charged for the first six months – minus 0.25%, i.e. 6.45%. The amount of interest payable on the loan of £72,000 for the whole year would be £72,000 x 6.45% = £4,644. The amount of interest payable for three months would be one quarter of this amount, i.e. £4,622 ¸ 4 = £1,161 For the final three months of the first year the interest rate reverts back to 5.75% which takes us back to the rate charged for the first six months of the year, i.e. 5.75% + 0.95% = 6.7%. We have already calculated that interest payable for six months at this rate would be £2,412. Therefore, the interest payable for the final three months of the year must be half this amount, i.e. £2,412 ¸ 2 = £1,206.
The amount payable for the whole of the first year will therefore be £2,412 + £1,161 + £1,206 = £4,779 (Option b in the question).
The next question is taken from a CeMAP two specimen question paper.
Jean takes out a 25-year capital and interest repayment mortgage for £60,000 on an annual rest basis and the interest rate for the first 12 months stays constant at 4.75%. If the monthly repayments are calculated at the rate of £57.70 per £10,000 borrowed, how much capital will she repay in the first year? (a) £1,304.40 (b) £1,325.50 (c) £1,405.50 (d) £1,410.70.
Again, try answering the question before reading on.
Jean's monthly repayment will be £57.70 x 6 = £346.20. Therefore, her total repayments – which include capital and interest – for the first year will be £346.20 x 12 = £4,154.40 The interest payable for the year will be £60,000 x 4.75% = £2,850.
Therefore, the amount of capital repaid in the first year will be her total repayments of £4,154.40 less the interest paid of £2,850 which is £1,304.40 (Option a in the question).
I am grateful to the Institute of Financial Services for granting permission to reproduce the above two questions.
It can be seen from these questions and answers that calculation questions are straightforward provided that a logical step-by-step approach is taken.
This is a practical example of something I have said before in these columns – working through the practice or specimen question papers is an essential part of revision for all of the mortgage advice examinations.
Calling all Mortgage Introducers…
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