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" What Is The Blended Interest Rate And How Is It Calculated?"

Perhaps the best way to explain a blended interest rate is to begin by explaining what it is not. It is not an average interest rate. That is, it is not determined by adding each interest rate and dividing by the number of interest rates (or, stated slightly differently, summing each interest rate and dividing by the number of loans).

Average Interest Rate

Examples #1:

In this example, 7.25% is in fact the average interest rate. However, this can be very misleading when it comes to making financial decisions based on this average. Let me explain. Let’s assume that the total of the three loans equals \$100,000:

Illustrated below are monthly payments for a 30 year mortgage with various interest rates.

In this example, if you could get an interest rate of less than 7.25% for a loan amount of \$100,000, presumably, this would result in wise financial decision. Example #1 assumes that any one of these lower than average interest rates would provide financial benefits for the borrower. However, consider the following:

Examples #2:

Let me try to explain this concept using the above

examples. The “ blended interest rate” takes into account the amount of each loan in relationship to the total amount of loans. The amount of total loans would be equal to 100% and the amount of each loan (if more than one) would be less than 100% but when all loans are totaled, they would equal 100%.

Blended Interest Rate

Example #3:

Once you have established this specific loan to total loan relationship, you then multiply that percentage by the interest rate for the specific loan. This number represents an interest rate factor and the summation of each of these factors equals the “ blended interest rate ”.

Blended Interest Rate

Now then, given the “ blended interest rate” of 6.65%, if an individual can secure a lower rate, they would have made a wise financial decision. In fact, an interest rate of 6.50% for the loan amount of \$100,000 would yield a monthly payment of \$632.07 which is \$10.50 lower than the existing payments for all three loans… once again, a wise financial decision.

For those of you who would like to calculate your current blended interest rate, please go to Calculators on this web site and click on “Your Blended Interest Rate”.

Source: www.preferredfinancial.com
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