Corporate debt versus traditional mortgages

the type of debt that most of us are most familiar with are mortgages that we might take out on our home so what I want to do in this video is clarify how a mortgage is different than the type of debt that many corporations would take on so if I were to take out a million dollar mortgage what happens is is that the bank figures out a fixed payment that I could pay really every month and as I pay that payment and that payment will not change over the course of the term of that mortgage so it may be it's a 10-year mortgage the payment won't change but as I pay that mortgage I pay some some part of it is interest and some part of it is actually paying down the mortgage so early on in the life of the mortgage maybe this is the first payment here most of the payment is going to be interest is going to be interest and a little bit of the mortgage is going to be the mortgage payment is going to be principal and when I say principal that little pink part right there that's actually being used to pay down the debt on the mortgage so after this first payment now the debt is a little bit less I'm going to make the same total mortgage payment but since the debt is now less the total debt is now less the amount I'm taking the same interest rate I'm assuming it's a fixed interest rate here but the amount of interest is going to be less because I paid off a little bit of the principal already so on the next payment the amount of interest is going to be a little bit less and for that sit fixed payment that I'm making I'm now going to be able to give more principal and we keep doing that so we keep doing that so I went to that same color so the next payment after that no that's not the same color the next payment after that even though it's the exact same payment it's going to have less interest because I've paid down more of the debt now so it's going to have less interest and normally doesn't happen this quickly but I hopefully this gives you the idea and it's also going to have more principal so that you fast forward all the way to near the end of the term so this is many payments later this is the end of the 10 years if I I think I said this was a 10-year mortgage loan on that last payment even though every payment was exactly the same amount the mortgage payment was the same dollar amount every month that last payment is going to be very little interest going to be very little interest and mostly principal and then after that last payment you would or if I'm about person taking out the mortgage loan I would have paid off of the paid off the loan so loan paid off loan paid off and I own the house I own the house outright in a traditional fixed-rate mortgage with corporate debt it's not always like that in fact it's not usually like that corporate debt is usually interest only dead and there's there usually there might be some things where the corporation has to pay off certain amounts of the loans at certain types but it isn't the model where you have a fixed payment and you pay off the debt over a certain amount of time most corporate debt let's say a corporation takes a million dollar in debt and let's say it's a 10-year loan as well but the corporation is just going to pay the interest only it's going to pay the interest only the entire time so whatever this amount was roughly is what the what the corporation will pay every month so they'll pay exactly that much every time period maybe every quarter every year whatever it might be and then you fast forward you fast forward to the end of the term of the loan so they continue paying that same amount and at the end of the term of the loan they have to pay that amount plus all of the principal at once plus all of the principal at once now most companies won't have all of that principal sitting around so whatever it might be they have to pay all of the principal at once at the end of the term of the loan and what they have the cash they could pay off the loan but if they don't have the cash and most corporations would not have the cash in this situation that's why they borrowed it in the first place what they would do is they would take out a new loan so they would take out a new loan for the same amount of principal so they'll maybe do the same Bank maybe a different bank but it might now have a different interest rate different loan terms whatever so they'll now take out a new loan at the end of the term period use that to pay the principal on their old loan and then they'll continue paying interest for the term of this new loan so it's a slightly different process and I just wanted to make sure you understood that and the other thing this isn't all corporate debt and that could be fixed interest rate floating interest rate there's often things called covenants covenants that the bank will place on the corporation to make sure that the corporation isn't doing dangerous things that will make it less likely that they'll eventually be able to pay off the debt or less likely they can eventually get a loan to pay off the current loan so it's it there are controls that the bank has to make sure that the the company is good for this near the end of the term but as you can see it's a fundamentally different process than most mortgage loans