Today I’d like to discuss kind of the costs and benefits of choosing a 15-year mortgage versus a 30-year mortgage. So let’s just say that you decided to buy a home and you’d like to borrow $90,000 from a lender. Let’s just say that you’re initially thinking “Hey I could do a 30-year mortgage at 6.75% interest let’s say that that’s your option. Well, what mortgage payment is that gonna come out to on a monthly basis? It’s about $584 a month. That’s your mortgage payment right if you had a 30-year mortgage.
Then you have a friend who comes over and says “Hey wait a minute why don’t you get a 15-year mortgage? Why don’t you consider that instead of the standard 30-year mortgage?” Now let’s just assume here that it’s the exact same interest rate, in practice that’s usually not the case but let’s just assume here for a minute. So we compare apples to apples and let me check out what my monthly payment would be and the monthly payment is going to be $796 a month.
Now you say “Wait a minute, why would I choose this 15-year thing? Now I’m paying $796 a month whereas before I was paying $584. So basically, you increased my monthly payment.” The difference is $212, it looks like $212 high when we do this 15-year mortgage. That’s a lot of money, every month when you go to make the payment under the 15-year mortgage you’re gonna be paying an extra $212. So you might have difficulties affording that or you might think hey I had other uses plan for that money and so you might be wondering well why would anyone deliberately say I want this 15-year plan when I’m actually going to have a higher monthly payment?
Why do we choose a 15-year mortgage?
There are several reasons why somebody might choose to go with that 15-year mortgage and the first and probably the most important reason is you’re gonna pay less interest. You pay less interest over the life of your loan. Now that might be counterintuitive to you, you might be thinking hey I have a higher payment here in a 15-year mortgage, how it’s cheaper?
When choosing between a 15 and 30-year fixed-rate mortgage, most Americans opted for the 30-year option because the payments are smaller, but a 15-year mortgage is not without its benefits. Over the life of the loan, a 30-year loan costs much more than its 15-year. Counterpart you’re borrowing the same amount of money as with a 15-year loan, but for twice as long, that means an additional 15 years of Interest occurring on the loan. Also, 15-year loans, tend to have lower interest rates compared to 30-year loans. That’s because shorter loans are less risky for banks and they’re able to recoup their money faster.
Here’s an example. Say you have two loan offers for $300k a 30-year, loan at 4% and a 15-year loan at 3.25%. With the 15 years loan, you’ll pay just under $80000 in interest, with the 30-year loan you’ll pay just over $250000 that’s nearly two-thirds more.
But there are a catch higher monthly payments. On the hypothetical 15-year $300k loan. The monthly payment is $2108, compared to the monthly payment of the 30-year loan of $1432. That’s a difference of $676 each month.
There is a Best of Both options just get the 30-year loan, and make larger payments on it so long as the mortgage has no prepayment penalty. This allows you to make payments faster when you can, and when money is tight, you can always fall back on the lower payments of the 30-year schedule.