# CFAT/ ERAT Debt Service

For calculating CFAT and ERAT, do you think they will give us the annual debt service cost/ interest expense and the outstanding mortgage balance? I was looking over Schweser Volume 1 Exam 1 Afternoon Questions 91- 96. In #94, they ask you for the ERAT, and hence you need to mortgage balance. I understand that the total mortgage will total \$32M (80% of selling price), but after 5 years, shouldn’t the balance be less than \$32M? They simply used the \$32M in the answer. I spent so much time trying to figure out the remaining balance on my calculator… In #95 when they have for the CFAT, is the debt service cost always just the interest cost on the loan? And why is this the same amount each year? (interest cost x mortgage total)… doesn’t your interest cost decline each year as you pay off the principal? I was trying to use my calculator to come up with the monthly mortgage payment and then multiply by 12 to get annual… but apparently they just really simplified things…

1. #94 my guess is that it sticks to the following assumption (also mentioned in Schweser notes ‘Investment Analysis’) - either the amortization schedule is provided - either it’s interest-only loan I think it uses ‘interest-only’ (which actually conflicts with the fact that it’s 30-year loan) - the mortgage balance won’t reduce much in the first 5 year though, so this approximation is still tolerable, I guess 2. #95 ‘interest-only’ => debt service equal to interest expense (no principal reduction!) 3. a better example is the one in the CFA book ================================== Debt contribution: a fixed-rate mortgage is obtained for \$393,750 at 8 percent per annum (compounded monthly) for 30 years. The monthly payment to amortize this loan is \$2,889.20 (Level II Volume 5 Alternative Asset Valuation and Fixed Income , 5th Edition. Pearson Learning Solutions p. 18). interest expense ??31,381 ??31,108 ??30,812 ??30,492 annual debt service = 34,670 (= 2889.20 *12) (I/Y, N, PV, FV=0 -> PMT = \$2,889.20 ) mortgage balance initial = 393,750 mortgage balance outstanding = 378,862 the difference between the annual debt service and annual interest expense is not so big relative to the amount of loan total difference (principal reduction) = reduction in mortgage balance = about 15,000