How long a term should I take in my real estate mortgage?
The question is as old as the mortgage market. The “basic” answer is that the length of the term should be just long enough that the payment is not a strain on your personal finance, but gets you out of debt as quckly as possible.
Taking a look at the mortgage rates provided by Fifth Third Bank’s Bill Channell on Friday afternoon, we see the difference in a 15- and 30-year fixed rate conventional mortgage based on dollars and cents.
| Description | 30% Conventional | 15% Conventional |
|---|---|---|
| Purchase Price | $125,000 | $125,000 |
| Interest Rate | 5.125% | 4.625% |
| Down Payment (20%) | $25,000 | $25,000 |
| Payment | $544.49 | $771.40 |
| Total Payments | $196,015.31 | $138,851.49 |
Balancing your family's budget is the only way to select a mortgage product. (art by ivan petrov)
Okay, so we assumed 20% downpayment to avoid introducing private-mortgage insurance (PMI) into the equation.
The first-thing we notice is that by going 15 extra years on your mortgage you’ll save 29 percent, or $226.91, per month. However that “benefit” will also cost you nearly $60,000 in extra interest charges.
If you are a follower of David Ramsey, then you’ll know his response would be to go with the 15-year loan and put yourself in a financial position to pay it off quicker. Ramsey and those like him are “interest avoiders” and will do anything to avoid paying extra – or any – interest on purchases.
While this is a noble concept, there is another side to the coin — those that have to keep the budget in mind. If I was independently wealthy, then it would be easy to hand-out the advise of the interest avoiders, but for the majority of Americans the concept is “will it work within my monthly budget”. I realized just how prevelant this had become when I recently was looking at a new car and they wouldn’t give me a price, but only the cost per month.
Which is better?
Well like I have to say a lot on here — that depends on your situation. Do you want chocolate or vanilla? Well now that you’ve selected chocolate do you want the Ghiradeli or the local-store brand? Each one has its benefits and can be beneficial to you — but it just depends on what is best for your financial situation at today and into the future.
We are so use to seeing the 15 or 30 year option that we completely forget about a 20 year option. A 20 year loan right now would put the payment at around $660 a month. This option cuts 10 years from the 30 year option and the payments won’t make your budget as tight as a 15 year option. I still prefer the 15 but I think the 20 should be considered.
I agree with Bryan, I think some buyers get so consumed by ‘whatever is cheaper’ in a monthly payment that they don’t see the long term savings of paying just a few more dollars a week. I wish more lenders took the time to spell these options out.