As I’ve mentioned before on this blog, my husband and I are currently in the process of selling our current home and buying a new one. It’s a process that’s been full of more than a few headaches, and – quite frankly – one that I can’t wait to end. Now, we’re starting to consider a new mortgage move: taking out a 15-year mortgage instead of a more traditional 30-year fixed loan.
The Nuts And Bolts
If you haven’t gone through the home loan application process, here is a quick tutorial.
The most popular mortgage out there is a 30-year fixed loan; according to the LendersMark Financial Network, more than 70 percent of homeowners opt for this loan. Why? Because if offers a stable interest rate for three decades, giving you a chance to pay down even a hefty principle gradually over time. The downside, however, is the interest. Even at today’s interest rates in the mid-fours, you’ll still pay more than double your original loan amount thanks to interest.
Adjustable-rate mortgages – called ARMs – got a bad rap in the first decade of the 20th century as the housing market crumbled. However, these mortgages offer homeowners a much lower interest rate – and, thus, a far lower monthly payment – at the cost of a shorter term. A 10/1 ARM gives you a ten-year introductory period with that low rate, but once it expires, you could be paying market values, increasing your monthly payment by hundreds of dollars. Shorter ARMs – like a 3/1 loan – give you an even lower rate, as well as an even shorter introductory period.
So what’s a well-meaning homeowner to do? There is middle ground – the 15-year mortgage. This fixed-rate loan comes with lower interest rates – not quite as low as ARMs, but lower than 30-year loans – and a shorter time frame as well. Because of this shorter term, you’ll pay a higher monthly payment, but you’ll also pay less in interest over the life of the loan than you would with a 30-year fixed.
The Pros of a 15-Year Mortgage
Let’s break down the numbers to see exactly how much a 15-year mortgage could save
you. Actually, not you – me. Because I’m going to use the actual numbers from my loan application, as well as the mortgage calculator from our preferred lender.
Right now, we could get a 15-year mortgage on a principle balance of $200,000 at a rate of 3.5 percent; by comparison, the rate for a 30-year mortgage would be 4.25 percent. Factor in the $2500/year tax and $1000/year homeowner insurance fees, and we’d be looking at:
- $1275.55/month for the 30-year mortgage (paying a total of $459,196.72 over the 360 payments)
- $1799.24/month for the 15-year mortgage (paying a total of $302,271.51 over 168 payments – that’s actually 14 years!)
(Because our lender offers PMI-free mortgages with a minimum 10 percent down payment – an industry rarity – we would save more than a hundred dollars a month as opposed to going with a loan that required private mortgage insurance.)
With the 15-year mortgage, we’d be paying about $524 a month more than with the longer term loan. However, over the life of the loan we’d pay a whopping $156,925.21 less.
Not So Fast…
Of course, these calculations aren’t as simple as they seem. The numbers from the a basic mortgage calculator only show part of the story. They assume that once you reach the end of your loan’s term that you won’t be paying escrow any more – but, as we all know, there are two certainties in life: death and taxes (and, in this case, homeowner’s insurance). I’ll be paying those two things for as long as I own the house, regardless of whether I’ve paid off the loan or not. That bumps the overall savings from $156,925.21 down to $104,425.21 – a difference of more than $52,000.
There’s another factor at play here, too: the impact on your taxes. Right now, the mortgage tax reduction allows homeowners to deduct the interest paid on their home loan. By losing that tax deduction for a period of 15 years – with our marginal tax rate of 25 percent – I’d lose out on another $7,586.21.
Also, what could I do with that extra $524 a month I’d be putting toward a 15-year mortgage? Say I invested it every month for 15 years in a Roth IRA with a modest return of 6 percent. By the time I was eligible to withdraw from the Roth at age 59 1/2 (29 years from now), I’d have amassed $354,012.05. Of that total amount, $259,692.05 would have come from interest. That far outweighs the $156,925.21 I’d be able to “save” with a 15-year mortgage – although it also assumes I’d do my due diligence by habitually investing the difference in monthly mortgage payments, without fail, every month… and we all know that’s easier said than done.
Reader, do you have a 15-year mortgage or a 30-year loan? What was the deciding factor for you in your home loan decision?