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Dad spent Sunday afternoon studying the finance papers on his mortgage. The loan amount was $87,500
at 8.5 percent for 360 months. His monthly payment was $801.51 including $128.71 per month for insurance
and taxes. Originally, insurance and taxes were just $69.33 per month but they had increased over the
years. Of course the base monthly payment for the fixed-rate loan, $672.80, stayed the same year after
year.
By multiplying the base monthly payment times 360 months, Dad discovered that he was paying $242,208,
almost a quarter of a million dollars, for a $98,000 home! And that was after he had made a down payment
of almost $10,000. Subtracting the original loan of $87,500 from the total revealed that the bank was
making $154,708 off the deal or about one and three-quarters times the original loan amount. Their
average profit was $429.74 per month for 30 years!
The numbers were mesmerizing. Double checking the figures, he made sure there were no errors. For the
first time in his life he understood the personal impact of compound interest. Like most people he
thought of loans in terms of monthly payments—you either could or could not afford that payment. There
were no real choices; if you wanted to own a home you made the payments. It was the only game in town,
or for that matter, in the world.
To see the effect of a 1 percent increase in the interest rate, Dad recalculated the loan. At 9.5
percent the payments ballooned to $735.75 per month. That 1 percent increase cost an extra $62.96 per
month. Thirty years of payments became $264,870 or about three times the loan amount. Buy yourself a
home at 9.5 percent and you bought the bank two homes!
Dad knew that banks monetize a borrower’s debt, effectively creating the principal loan amount out
of thin air and charging a fee for that service. After the initial paperwork, the bank had only a single
bookkeeping entry to make each month, taking maybe 10 or 15 minutes of an employee’s time to ‘earn’
that fee. Dad’s $429.74 monthly service charge suddenly seemed exorbitant. And $492.70 profit per
month for the same service was absolutely scandalous!
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