A lender offers a monthly-payment, level amortizing loan with interest ateight percent per annum. Monthly payments are based on a 25 year amortization period, but the actual loan term will be much shorter. Two alternatives are available:

A.Afive-year loan term with a one percent front-end fee, or

B.Aseven-year loan term with a 1.5 percent front-end fee.

Required: Which alternative offers the lowest pre-tax effective interest rate, assuming:

(1) the loans run full term?

(2) they are retired through refinancing after three years (there is no prepayment penalty)?

Use a $100,000 loan to illustrate the answers.