It is 2019, and you work in finance for a large international media company. Your firm took out a $500m amortizing fixed-rate commercial mortgage on your U.S. corporate headquarters two years ago. The coupon rate on the mortgage is 5%, and the loan initially had a 25 year amortization period, and a 10 year balloon payment. (Note: Since two years have passed, this balloon payment will now occur in eight years time). Mortgage payments are monthly.

a). Calculate the monthly payment on this mortgage. Also calculate the current face value on this mortgage.

After a boozy lunch with some Wall Street mortgage bankers, your boss tells you that he has heard financing is easily available now, and that it would be possible to obtain new fixed-rate commercial mortgage financing on the corporate headquarters at a lower interest rate of 4%. He tells you to look into the costs and benefits of refinancing the existing mortgage to take advantage of lower rates. Looking at the mortgage contract, you notice that in order to refinance, you will be required to defease the existing mortgage. Assume that current long term Treasury yields are 3%, and the yield curve is flat. Also assume that if you refinance now, the new mortgage would have the same initial contract terms as the loan you currently have (i.e. 25 year term, 10 year balloon payment)

b). Assuming you refinance the mortgage in a way that involves a zero up-front net cash payment. In other words, when you refinance, you borrow exactly as much as it costs to defease the old mortgage. Under this approach, what would your new monthly payments be? Explain intuitively the reason why your monthly payment went up or down relative to your calculation in part a).

c) Given this answer from part b), do you recommend defeasing the loan to take advantage of the lower market rates/why?