Fixed Rate Mortgages-15 year versus 30 year Loans

If you plan on using a fixed rate mortgage, you will have two main options: a 15-year loan or a 30-year loan. Although there are other terms available, the vast majority of lenders offer these two loan options.

So what makes one better than the other? The main difference between a 15-year loan and a 30-year loan is rather obvious. With a 15-year mortgage, you will pay higher monthly payments but less interest overall. By contrast, 30-year loans feature lower payments but more interest. In the long run, you will end up paying more for your home if you opt for a 30-year loan.

Although the differences seem relatively simple, there are other considerations that might make your decision more complicated. Buyers should take a hard look at their finances, budget, retirement plans, and long-term goals. It is also important to run the numbers to determine exactly how much you will pay versus how much you will save.

Doing the Math

As an example, assume a borrower is looking to finance $160,000. To get an accurate calculation, you must also factor in the borrower’s tax rate and the loan’s interest rate. In this case, taxes are 25 percent and interest rates are at five percent for a 30-year loan, and four-and-a-half percent for a 15-year loan.

With a 30-year mortgage, the borrower will end up paying $859 per month plus taxes and insurance. Over the loan’s lifetime, the borrower will also pay interest in the amount of $149,211, bringing the total price of the home to $309,211.

With a 15-year mortgage, the borrower’s mortgage payments will be $1,224 per month, which is $365 higher than the 30-year mortgage. On the other hand, the borrower will pay just $60,318 in interest over the life of the loan, bringing the total price to $220,318. This is a savings of $88,893.

Other Things to Consider

Although the math is fairly straightforward, life is not always so clear cut. Before you finance what will likely be the most significant purchase of your life, consider several other important factors.

Can You Afford a Higher Payment?

If your budget is always stretched thin, a 15-year mortgage might not be for you. It is better to pay more interest over time than to fall behind on your mortgage. Aside from the obvious foreclosure risks, missing too many payments can wreak havoc on your personal credit. If you dislike the thought of paying more interest, you can pay down your loan faster by making double payments whenever you have the funds.

What Are Your Long-Term Investment Goals?

Do not sacrifice your other assets and investments just to pay off your home more quickly. Think hard about the state of your investments. If you are nearing retirement age, financial planning experts like Kerry Hannon of Forbes.com recommend taking less risks with your money.

A 15-year mortgage could stretch your budget too thin, you won’t have anything left over to contribute to your retirement funds. If retirement is a long way off, you can probably afford to take on a bit more risk. In that case, a 15-year mortgage makes more sense.

Because buying a home involves such a significant amount of money, it is always wise to consult with a knowledgeable mortgage lending expert before making a final decision. Your lender can advise you of the pros and cons of the various mortgage options so you feel confident about your choice.

Gus Ruballo