The Defeasance Calculator is a financial tool used primarily in the context of commercial real estate. Its purpose is to help stakeholders, such as property owners and investors, evaluate the feasibility and cost-effectiveness of defeasing existing debt.
Defeasance, in this context, refers to the process of substituting collateral for a property securing a loan. This occurs when a property owner wishes to sell the property but still has an outstanding mortgage. The Defeasance Calculator assists in determining the financial implications of this transaction.
Formula of Defeasance Calculator
To effectively use the Defeasance Calculator, you need to understand the key formulas and variables involved. Let's break them down:
Calculate PV(D):
The present value of the debt (PV(D)) is calculated using the following formula:
PV(D) = C * [1 - (1 + r)^(-n)] / r + FV * (1 + r)^(-n)
Where:
- C represents the periodic payment on the existing debt (e.g., monthly or quarterly).
- r is the periodic interest rate (e.g., monthly or quarterly rate).
- n is the total number of periods remaining until maturity.
- FV is the face value or final principal amount of the debt.
Calculate PV(R):
The present value of the replacement securities (PV(R)) is computed using this formula:
PV(R) = ∑(Cash Flow i / (1 + r)^i)
Where:
- Cash Flow i represents the cash flows from the replacement securities for each period i.
- i ranges from 1 to the total number of periods (n) for the debt being replaced.
Example of Defeasance Calculator
Let's put these formulas into action with an illustrative example:
Suppose you have a commercial property with an existing debt of $1,000,000, a quarterly interest rate of 3%, 10 periods remaining until maturity, and a final principal amount (FV) of $800,000. You are considering defeasing the debt and need to evaluate the costs. Using the Defeasance Calculator, you can calculate PV(D) and PV(R) to determine the feasibility of the transaction.
Most Common FAQs
In real estate, property owners primarily use defeasance when they want to sell a property with an existing mortgage. They substitute collateral to release the property from the mortgage while ensuring the protection of the lender's rights.
The Defeasance Calculator helps stakeholders assess the financial implications of defeasing an existing debt. It calculates the present value of the debt (PV(D)) and the present value of replacement securities (PV(R)), allowing users to make informed decisions about the cost-effectiveness of defeasance.