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# Two Forms of Debt

Please explain the differences between these two forms of debt:

(1) \$500,000 amortized five year loan with an annual interest rate of \$5.0%, payments are made twice a year (every six months).
(2) \$500,000 five year bond with an annual interest rate of 5.0%, coupon payments are made twice a year (every six months), maturing bond is due at the end of five years.

Your description should include payment schedules, the advantages and/or disadvantages of each debt to the issuer and the lender.

#### Solution Preview

QUESTION

Please explain the differences between these two forms of debt:

(1). \$500,000 amortized five year loan with an annual interest rate of \$5.0%, payments are made twice a year (every six months).

(2). \$500,000 five year bond with an annual interest rate of 5.0%, coupon payments are made twice a year (every six months), maturing bond is due at the end of five years.

Your description should include payment schedules, the advantages and/or disadvantages of each debt to the issuer and the lender.

TUTORIAL

Step 1: Develop the repayment schedules.

Loan principal \$500,000 (A)
Duration 5 (B)
Compounding 2 (C)
Interest rate 5% (D)
Discount factor of annuity 8.75 =(1 - ((1 + (D/C)^(-B * C))))/(D/C)
Monthly repayments \$57,129 =A/8.75

LOAN REPAYMENT ...

#### Solution Summary

Two forms of debt are examined. Interest rates for amortization payments are determined. A description to include payment schedules are given. The advantages and disadvantages of each debt to the issuer and the lender are provided.

\$2.19