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Are there any type of home mortgage loans where the amortized monthly payments are equally distributed towards the interest and principal? I understand this would violate the current formulas used to calculate amortized mortgage payments in use today across the lending industry. However would it not give a lender a significant competitive advantage if they advertised and offered a mortgage repayment schedule where monthly payments were more equally distributed to interest and principal from the start of the loan instead of slowly increasing against principal and decreasing against interest over the duration of the loan? More borrowers would flock to this type of lender because they would increase their equity by paying down the principal faster than traditional loans offered today.

I appreciate banks and lenders are also in the business of making money and maximizing profits, but I also wonder if a different formula or repayment schedule would ever be offered that’s more equitable to the borrower. In my example of payments being split 50/50 between interest and principal from the start of the loan, the borrower would build equity a lot faster and therefore have the ability to refinance and use that equity to purchase another property, thus needing to obtain another loan and helping fuel the economy even further.

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  • That would make loans much more expensive though and would make it harder to calculate equal payments.
    – littleadv
    Oct 10, 2023 at 0:13
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    Like your previous question, you fail to show why a fixed interest amount is "more equitable". It's fair to both parties if you think of the amount of interest as a fixed rate of the amount of principal owed during each payment period. Your method would be unfair to the banks for the reasons mentioned in answers to both questions.
    – D Stanley
    Oct 10, 2023 at 13:54
  • If you loaned me $300,000 wouldn’t you want me to pay 8% on the money that i owed you? That’s what banks do too, on mortgages, credit cards, car loans, etc.
    – RonJohn
    Oct 10, 2023 at 15:59
  • Dunno why folks downvoted this one. It's not a completely unreasonable question if one hasn't thought it through.
    – keshlam
    Oct 11, 2023 at 13:01

2 Answers 2

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Such a product does not exist. And it would be pretty unlikely that you'd be able to get such a thing past a regulator and ensure that you as a lender actually make money.

Let's work through the numbers. If you go to an amortization calculator and set up a $330,000 loan over 30 years at 5.27% (the default numbers for this calculator), your monthly payment is $1826.36 and your first month's payment goes $1449.25 to interest and $377.11 to principal. That interest charge makes sense-- it's what you'd pay to borrow $330,000 at 5.27% for 1 month.

If the payment was split evenly between interest and principal, the bank would only get $913.18 in interest. That would mean they were lending money at an interest rate of 3.32% for the first month.

913.18 = 330000 * (x/12)
x = 3.32%

But, you might argue, they'd make up for it at the end of the loan. True, for the last payment, you'd owe the bank 913.18 and you'd be charged 913.18 in interest for that month. That means the bank would be charging you 1200% interest in that last month.

913.18 = 913.18 * (x/12)
x = 1200%

Mechanically, there is no way to disclose a mortgage whose effective interest rate goes from 3.32% to 1200% over the term of the loan. Legally, that rate of interest over the last few months would be illegal usury pretty much anywhere. And practically, no bank regulator is likely to ever sign off on such a thing.

But there are more issues. Most mortgages are paid off early because the borrower decides to refinance or move or because the borrower dies. If a bank offered a mortgage like you propose, someone would put together a quick calculator that would tell a borrower when their effective interest rate got to the market rate so they could refinance. All the bank's borrowers would pay less in interest so long as it was advantageous to them but would never get to the later payments where the bank is making back the interest they didn't charge at the beginning of the loan. The bank (or whoever held the bank's mortgages) would get wiped out.

To prevent that from happening, the bank would need to set up some sort of prepayment penalty. In theory, you could have a prepayment penalty that required the borrower to pay the principal balance plus the foregone interest plus interest on foregone interest in order to end the loan before the 30 year term. Functionally, though, that would mean that the borrower's increased equity was illusory. If you made your first payment and the bank said you had $913.18 in equity but you now have a $556.06 prepayment penalty ($913.18 - $377.11) if you wanted to access that equity by selling and buying a new home, you'd be effectively in exactly the same place you were with a conventional mortgage. But figuring that out would be much harder. And the bank would be at much, much higher risk that a regulator would say that their disclosures were unfair or deceptive and hit them with a big fine.

And that's before considering the time value of money. A $20 in my hand today is much more valuable than a $20 payment in 30 years time. Inflation is going to reduce the value of the future $20 payment. Probably by a lot. Even if you found a legal way to force people to make 30 years worth of payments and all you did was change when the bank made its interest, that would be a huge blow to the profitability of the loan because you're moving a lot of interest to the end of the loan. So the bank has to get money from depositors and pay interest with relatively valuable 2023 dollars and get repaid from borrowers with relatively devalued 2053 dollars. If inflation is just 3% a year for 30 years, the 2023 dollars are more than 2.4 times more valuable than the 2053 dollars. Mortgages are a pretty competitive business-- banks spend a lot of money on things like underwriters, loan officers, etc. in addition to the expense of getting the money they need to lend out. If you moved a lot of your interest 30 years into the future, you'd be taking a loss on every mortgage loan you made and you'd soon be out of business.

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There is a big debate regarding mortgages: should you pay them off quickly and slowly. I am going to ignore the debate while answering this question.

I had a different understanding of what you wrote:

  • My question is are there any type of home mortgage loans where the amortized monthly payments are equally distributed towards the interest and principal?

  • However would it not give a lender a significant competitive advantage if they advertised and offered a mortgage repayment schedule where monthly payments were more equally distributed to interest and principal from the start of the loan instead of slowly increasing against principal and decreasing against interest over the duration of the loan?

  • In my example of payments being split 50/50 between interest and principal from the start of the loan, the borrower would build equity a lot faster and therefore have the ability to refinance and use that equity to purchase another property, thus needing to obtain another loan and helping fuel the economy even further.

I saw a few ways to do this.

  • While keeping the Principal and interest total level, vary the interest rate. That would be tough to justify by the bank. Too many of their customers would bail after the early years of low interest, before the rate jumped. The is especially true if the interest rates for new loans at their competitors drop 5 years from now.

  • The other approach is to make the principal payment that first month equal to the interest owed for that month. This is done by sending in an additional amount for principal. This describes what happens when somebody gets a 15 year or a 10 year mortgage. In fact the requirement to make the first principal payment equal to the interest makes it closer to a 13 year mortgage.

Under this plan, equity grows faster, and if paid until the end a significant amount of money is saved. Also banks tend to charge a lower interest rate for 15 year mortgages so additional money can be saved there as well. The downside is that you are committing to a higher monthly payment which can be harder to qualify for.

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  • “Too many customers would bail after the early years of low interest”. Isn’t that what happens if you have an ARM (refinance when the low rate expires)?
    – RonJohn
    Oct 10, 2023 at 15:56
  • @RonJohn as another answer explained the initial rate would start at a couple of points below the average and then would grow to a rate that might not be legal. Everybody would bail before that happens. They would be losing money in the early years and never get it back. Oct 10, 2023 at 19:44
  • That's what happens regarding OP's "idea". But aren't ARM mortgages, too, lower than fixed rate loans? You could refi when the ARM rate increases.
    – RonJohn
    Oct 10, 2023 at 19:53
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    @RonJohn - Isn't that what happened in 2008? The ARMs were a ticking bomb. When they went up, people couldn't refinance, and had some crazy rates for that time. That caused the domino effect of the housing bubble crash. Oct 11, 2023 at 10:44
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    @RonJohn - Yes. The regulating authorities, for whatever reason, were not effective. (That is my polite way of avoiding being very aggressively offensive). When an ARM will change and the borrower can't afford the first adjustment, no good could come of it. It was an accident waiting to happen and very few were held accountable. Oct 11, 2023 at 22:07

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