Brockett’s Ag Advice
Making Borrowing Decisions
According to some experts, the
new tax reform act should have a
depressing affect on interest rates.
That will be good news to those
who have to borrow money and bad
news to those who count on interest
income. According to these ex
perts, two of our major industrial
rivals have interest rates well
below those paid or charge^in this
country. Japan’s rate is in the 3 to
3.5 percent range.
As I mentioned in an earlier
column, there has been a lot of
activity among banks in offering
reduced fixed rate loans to clients.
Some of the rates offered have
been single digit ones. There are
several reasons for the banking
industry to be promoting lower
fixed rates at this time. One is to
win customers that some banks
had written off in the past few
years when we have had a short
supply of loanable money and
galloping interest rates. A second
one is to lock in interest rates at
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BMA
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By John E. Brockett
Farm Management Agent
Lewistown Extension Office
what appear to be low rates now
before they become lower. A third
reason is that bankers can see
some stability coming in the
market value of farm land and
other farm assets. So far banks
have been- moving back into the
farm lending field rather
cautiously. They are primarily
courting the best loan prospects,
which are often those who are the
most stable borrowers in the Farm
Credit system.
Some Possible Scenarios
As a result of this activity, the
banks, and in some cases, Farm
Credit are seeking borrowers and
offering loan changes. Many
farmer borrowers are asking the
question, “When or how do I make
that offered change?” First and
foremost this is a move not to be
taken lightly. It may cost more
than will be saved. Let us look at a
few scenes with some possible
things to consider.
Scene 1: You already have a
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variable interest rate loan with a
present interest rate of 9 percent.
You are offered a fixed rate Iban at
10 percent. What should you do?
First some things to explore before
making any moves. (1) What
points will the new loan cost? (2)
What will the payments be on the
new loan? (3) If the new loan is
with a new lender, will your
present lender match or better the
offer? (4) How long will the in
terest rate of the new loan be
fixed’ (5) Can the lender call the
loan for any reason before the due
date of the loan’ In other words,
there must be a reason other than
just interest rate for the change in
loans.
Scene 2: You already have a
fixed rate loan with a present rate
•of 12 percent and a monthly
payment of $4OO. You are offered a
new fixed rate loan for 10 percent
interest with a monthly payment of
$3OO. This becomes intriguing since
both interest cost and payment
amounts are lowered. Again ex
plore the same questions as listed
above. In this scene, one of the
above questions has been an
swered. You know there will be a
lowering of the payment. That
means this may be a more
lucrative deal. Before you leap
though, perhaps you should find
out what it will cost to make the
change (attorney fees, etc.). You
may also want to consider, whether
rates will decline further.
Scene 3: You have a fixed rate
mortgage with an interest rate of
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10 percent and a payment of $1,150
per month with 11 years of
payments remaining. You are
offered a variable rate mortgage
with rates fixed for one year at 8.75
percent. Payments will be $B5O per
month for this year and the
mortgage stretched out for 15 more
years. Go back to those questions
above in scene 1. One other point to
consider, “What will interest rates
do if the national administration
changes course after 1988’” Or
what will happen to interest rates
if Volker leaves the Federal
Reserve Board (where money
supplies are controlled) ?
It Is a Gamble
Those who decide to change in
scenes 1 and 2 are betting that we
are at or near the bottom of the
interest rate swing. They want to
lock in a rate that will carry them
through to the end of their loan. If
they have made a thorough
analysis of both their old loan and
the new loan and have explored
other options, including a new deal
with their present lender, the
decision would be reasonable.
Those who do not change in scenes
1 and 2 are betting on further
reductions in interest rates or are
concerned about the answers they
are receiving from some of the
questions they are asking. Or they
are content with the present
situation. If all questions were
answered satisfactorily, I would
probably stay with the present loan
program in scene 1 until I could get
a better handle on the affect of the
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i r n 5 , 'if
new tax laws on interest rates, i
would be inclined to make a
change in scene 2, although I might
bargain for a better deal if it was
possible.
Scene 3 is a much more com
plicated decision. Here the
borrower Would be gambling on a
longer period of time. Some of the
outside factors that could affect
the long term prospects of interest
rates are (1) politics, (2) world
wide recessions and/or depression,
(3) an oil shortage, (4) a protec
tionist fever that would mcrease
costs to all consumers, including
farmers, and (5) war. The
borrower who does make the
change in this model would be wise
to build a favorable cash reserve in
the event interest rates took off
again. Those farmers who can
handle money well would probably
gain financially by making the
change. Those who can not handle
money well will possibly be taking
an undue risk for the long haul.
If I was able to get my questions
answered satisfactorily, I would
probably be tempted to make a
change. If I did make a change,
half of the saved monthly payment
would go into an escrow account to
be used to pay off the loan early if
interest rates went up. I would also
be watching the effects of the new
tax law on long term interest rates
(Treasury bond rates are a good
indicator of this). If I decided
against the change, 1 would try to
use it as leverage to get a better
deal with a fixed rate mortgage.
/M
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