Step 1: Define the details for both choices.

• Loan Amount: $195,000
• Loan Term: 15 years (180 months)
• Choice 1: Fixed interest rate of 7%, no points, $2,500 closing costs.
• Choice 2: Fixed interest rate of 6.5%, 5 points (5% of loan amount), $2,500 closing costs.

Step 2: Calculate the monthly payments using the formula:

$M = P \frac{r(1+r)^n}{(1+r)^n - 1}$ Where:

• $M$ = Monthly payment
• $P$ = Loan amount
• $r$ = Monthly interest rate (annual rate ÷ 12)
• $n$ = Total number of payments (term in months)

Choice 1 (7%)

$r = \frac{7}{100} \div 12 = 0.005833$ $n = 15 \times 12 = 180$ $M = 195,000 \frac{0.005833(1+0.005833)^{180}}{(1+0.005833)^{180} - 1} \approx 195,000 \frac{0.005833(4.482)}{4.482 - 1} \approx 1,754.59$

Choice 2 (6.5%)

$r = \frac{6.5}{100} \div 12 = 0.005417$ $M = 195,000 \frac{0.005417(1+0.005417)^{180}}{(1+0.005417)^{180} - 1} \approx 195,000 \frac{0.005417(4.291)}{4.291 - 1} \approx 1,707.74$

Step 3: Calculate the total closing costs for each choice.

• Choice 1: Closing costs = $2,500
• Choice 2: Closing costs = $2,500 + 5 points $\text{5 points} = 5\% \times 195,000 = 0.05 \times 195,000 = 9,750$ Total closing costs = $2,500 + $9,750 = $12,250

Step 4: Calculate total cost of the loan over 15 years.

Choice 1 (7%)

$\text{Monthly payment} = 1,754.59$ $\text{Total payment over 15 years} = 1,754.59 \times 180 = 315,826.20$ $\text{Total cost with closing costs} = 315,826.20 + 2,500 = 318,326.20$

Choice 2 (6.5%)

$\text{Monthly payment} = 1,707.74$ $\text{Total payment over 15 years} = 1,707.74 \times 180 = 307,393.20$ $\text{Total cost with closing costs} = 307,393.20 + 12,250 = 319,643.20$

Step 5: Discussing the choices.

• Choice 1 has higher monthly payments but lower closing costs. It is better for individuals with limited upfront cash and the ability to handle higher monthly expenses.
• Choice 2 has lower monthly payments but significantly higher closing costs. It might appeal to individuals who plan to stay in the house long-term and can afford the upfront costs.

Decision Factors:

• If you have the cash for higher closing costs and expect to keep the house for 15 years, Choice 2 minimizes monthly payments.
• If you prefer lower upfront costs and can manage slightly higher payments, Choice 1 is more practical.

Would you like a breakdown of each step, or do you have any other questions?

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Relative Questions:

1. What is the breakeven point to recover the upfront cost difference between the two choices?
2. How would refinancing opportunities affect this decision?
3. What other factors should be considered besides monthly payments and closing costs?
4. How do property taxes or insurance impact the affordability of each choice?
5. How might a shorter or longer loan term affect the decision-making process?

Tip: Always compare loan options with different time horizons in mind, considering your long-term financial goals and liquidity.