Blended Rate is the weighted average interest rate of all the loans against a real estate. In other words, it is the composite interest cost of all the loans against a real estate. It is used when you have different loans on a property at different rates and you want to calculate a composite rate that represents the total interest cost on the property.
It is also known as Weighted Average Cost of Loan or Weighted Average Interest Rate.
Assume you have a first lien loan of $75,000 at 5% and a second lien loan of $25,000 at 10%. The blended rate in this case is 6.25%, which represents the total interest cost of all your loans on your property. To illustrate further, annually you are paying $3,750 interest on your first loan and $2,500 interest for your second loan. The total interest expense is $6,250. This is the same as saying that you are paying 6.25% on your total loan amount of $100,000.
Blended rate can help answer two types of questions:
Blended rate is calculated by dividing the total interest expense of all the loans by the total loan amount. In other words, it is calculated by taking weighted average of the interest rates where the relative loan sizes act as weights. The formula used for calculation is below.
Rewritten as
Where,
| Rb | = | blended rate |
| rk | = | interest rate for loan k |
| Pk | = | Principal for loan k |
| n | = | number of loans |
This method is used when the loan amounts are not available, but the Loan-To-Value (LTV) is known. The Blended Rate is calculated using the formula below.
Or
Rewritten as
Where,
| Rb | = | blended rate |
| rk | = | interest rate for loan k |
| LTVk | = | LTV for loan k |
| CLTV | = | Combined Loan-to-Value (CLTV), which is the sum of LTV of all loans |
| n | = | number of loans |
Since sum of all LTV’s for the property is same as the Combined Loan-to-Value (CLTV),
The LTV method assumes that the compounding terms (compounding period) same for all loans. For example, you cannot use interest rate in the formula for LTV Method if one loan is compounded daily and another is compounded semi-annually. In such cases where the compounding terms are different you need to do use either of the following to calculate Blended Rate.
Assume that Amit has a first lien loan of $75,000 at 5% and a second lien loan of $25,000 at 10%.
Where,
| P1 | = | $75,000 |
| P2 | = | $25,000 |
| r1 | = | 5% |
| r2 | = | 10% |
Assume that Amit has a first lien loan of $75,000 at 5%, a second lien loan of $25,000 at 10%, and a third lien of $25,000 at 12%.
Where,
| P1 | = | $75,000 |
| P2 | = | $25,000 |
| P3 | = | $25,000 |
| r1 | = | 5% |
| r2 | = | 10% |
| r3 | = | 12% |
Assume that Amit has two choices for taking a loan - a single loan of 6% for $100,000 or two into loans comprising of a first lien of $80,000 loan at 6% and a second lien of $20,000 at 8%. Which option is better?
The interest cost for first option is 6.00%
The interest cost for second option is the blended rate of 6.40%
Where,
| P1 | = | $80,000 |
| P2 | = | $20,000 |
| r1 | = | 6% |
| r2 | = | 8% |
In this case the interest rate for the second option is higher than the first option. Amit would be better off taking the single loan.
Assume that Amit wants to refinance his existing loan of $100,000 at 6%. He is offered an option of taking a first lien fixed mortgage for $80,000 at 5.5% and a second lien of $20,000 at 8%. Should he refinance?
The interest cost for first option is 6.00%
The interest cost for second option is the blended rate of 6.00%
Where,
| P1 | = | $80,000 |
| P2 | = | $20,000 |
| r1 | = | 5.5% |
| r2 | = | 8.0% |
In this case the interest rate for both options is the same. There would be no reason for Amit to refinance.
Assume that Amit has a first lien loan with LTV 75% at 5% interest rate and a second lien with LTV 25% at 10% interest rate.
Where,
| LTV1 | = | 75% |
| LTV2 | = | 25% |
| CLTV | = | 100% |
| r1 | = | 5.0% |
| r1 | = | 10.0% |
Assume that Amit has a first lien loan with $60% LTV at 5% interest rate, a second lien loan with 20% LTV at 10% interest rate, and a third lien with 20% LTV at 12% interest rate.
Where,
| LTV1 | = | 60% |
| LTV2 | = | 20% |
| LTV3 | = | 20% |
| r1 | = | 5.0% |
| r2 | = | 10.0% |
| r3 | = | 12.0% |
Assume that Amit had a first lien loan with LTV 80% at 5% interest rate and a second lien with LTV 10% at 8% interest rate.
Where,
| LTV1 | = | 80% |
| LTV2 | = | 10% |
| CLTV3 | = | 90% |
| r1 | = | 5.0% |
| r2 | = | 8.0% |
Assume that Amit want to purchase a home that is valued at $125,000 and he needs a loan for $90,000. Milli, the loan agent, offers Amit two options - a single loan of 6% for $90,000, or two loans comprising of a first lien of $75,000 loan at 6% and a second lien of $15,000 at 9%. Which option is better?
The interest cost for first option is 6.00%
The interest cost for second option is the blended rate of 6.50%
Where,
| P1 | = | $75,000 |
| P2 | = | $15,000 |
| LTV1 | = | 75,000/90,000 = 60% |
| LTV2 | = | 15,000/90,000 = 12% |
| CLTV | = | 72% |
| r1 | = | 6.0% |
| r2 | = | 9.0% |
In this case the interest rate for the second option is higher than the first option. Amit would be better off taking the single loan.
Updated: Jul 22, 2013
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