15 year versus 30 year mortgage

By admin | Tuesday, 12/15/2009

When deciding what mortgage is best suited for yourself, understand that numerous factors come into play when deciding if you should finance with a 30 year or 15 year loan.

A 30 year loan will afford the homeowner lower monthly mortgage payments compared to the homeowner who has selected to finance with a 15 year loan.  For the homeowner who decides they want a 15 year term loan and can afford the payments, in a way, it is ‘forcing’ them to save extra money by in actuality paying it against the loan itself.  There really isn’t a concrete answer which is the best loan to finance with: 30 year or a 15 year.  The answer simply breaks down to the fundamental elements required for qualifying the borrower. What may work for one person may not be the best alternative for another.

So now we have answer the question of which mortgage term would work best for your individual financial goals. Everyone understands that mortgage rates can fluctuate daily, but the same model prevails. Financing with a 15 year term loan results in considerably less money paid out over the life of the loan because of the lower interest rate and the amortization period is much shorter. With a 30 year loan, the borrower will be paying a significantly higher total paid interest during the course of the loan. Because the amortization is now spread over a longer period, the monthly loan payment becomes much lower.

So which loan is the best for you? We will evaluate the dollars saved on interest over the different loan years: 30 vs 15. Let’s take a 30 year mortgage with a fixed rate of 4.875% for a loan amount of $125,000. The total monthly payment which incorporates the principal and interest comes to $672.90. Over the course of the 30 years, the borrower would be paying a total of $118,938. The same loan amount of $125,000 on a 15 year mortgage with a rate of 4.25% would come to a monthly principal and interest payment of $956.52 and the total interest paid on the loan over the 15 years now just becomes $48,840.

There are numerous contributing facts to analyze when selecting the right mortgage. Someone financing a mortgage needs to carefully examine their total monthly expenses to determine exactly how much they can afford to set aside for a mortgage payment.  When factoring in your total monthly housing expense, besides the mortgage payment, you have to factor in Real Estate Taxes,  Homeowner’s Insurance and an Association fee (if applicable).

It is not uncommon for people to have other monthly financial obligations such as: student loans, car loans or credit card debts. With the ever changing lending guidelines, lenders want to see a total debt to income (DTI) ratio of 45% to nothing higher than 55% (for FHA).

Now here is an interesting concept to examine. Let’s go back to the 30 year mortgage payment on the $125,000 loan with a monthly payment of $672.90 (P&I).  Rule of thumb is that one extra mortgage payment per year will reduce your mortgage by almost 7 years. So someone financing into a 30 year loan who now decides to pay an additional $56.00 a month can turn that year loan into a 23 year loan. Pay an additional $112.00 a month and bingo, you have just shaved off another 7 years and you will be mortgage free in 15 years.  Of course, you have to make sure you are disciplined enough to make the commitment monthly.