Mortgage terms — the period of time over which a loan gets paid off — are a crucial deciding factor when choosing a loan type, since loan terms will greatly impact your monthly payments. These terms are typically issued in increments of either 15 or 30 years. But which one should you choose?
Choosing which home loan type is best for you will depend on your unique financial situation. The Home Loan Expert is here to break down loan terms for you so you can make an informed decision on which option works best for you financially.
The 30-Year Mortgage Commitment
Home buyers usually opt for a 30-year loan term to make monthly payments more affordable. However, 30-year terms also tend to come with higher interest rates.
Interest rates are also higher on a 30-year loan because they are considered riskier to lenders than 15-year loans, because there’s a higher chance of the borrower defaulting on the loan. Essentially, you’ll be paying thousands in interest over the life of the loan—and you’ll be paying that higher interest rate over a longer period of time (as opposed to a 15-year term).
Although homeowners can save in the short run on monthly payments with a 30-year loan term, in the long run, homeowners will be making payments twice as long as they would compared to a 15-year mortgage. In fact, over the full life of a loan, a 30-year mortgage will end up costing more than double the 15-year option!
So why would a home buyer want to go with a 30-year mortgage term? There are some advantages to a 30-year term. Remember, choosing a loan term should fit within each home buyer’s unique financial plan of action. There is an opportunity cost tradeoff for some homeowners who choose the 30-year term option. Here are some reasons why a home buyer may decide to go with a 30-year mortgage plan:
- Affordability. Having lower monthly payments is a practical choice for some homeowners.
- More Purchasing Power for More House. Home buyers who opt for a lower monthly payment may be positioned to buy more house than they would be able to afford with a 15-year loan. This is possible because the same monthly payment would allow the borrower to take out a larger loan over 30 years.
- Build Wealth Through Financial Investments. Homeownership is not the sole asset to consider for those looking to build wealth. Home buyers may want to be able to distribute income more evenly among other financial investments. Having a lower monthly payment frees up funds, potentially allowing homeowners more flexibility.
- Accrue Savings. Similar to wealth-building, allotting a portion of your income in a savings capacity can also be accomplished with lower monthly payments.
The 15-Year Mortgage Commitment
You may be wondering how paying higher monthly payments is the better bargain between a 30-year and 15-year term mortgage deal. Calculating other costs that get rolled into a home loan — like higher interest rates over a prolonged period — helps explain why those who are in the position to do so would benefit more economically from a 15-year mortgage plan.
The top selling points of a 15-year loan term are:
- Paying A Lot Less Over the Life of the Loan. Interest rates on a 15-year mortgage are lower compared to interest rates on 30-year loans. The average interest rate for a 30-year mortgage was around 0.5–1% higher than a 15-year mortgage for the past several years. In addition to paying a lower interest rate, homeowners will also be paying interest for less time over the life of the loan resulting in more savings.
- Getting Out of Debt Sooner. With a 15-year loan term, homeowners will be in debt for half as long as they would on a 30-year mortgage and will pay off the principal on the loan more quickly. This allows homeowners to more readily free up their income, giving them peace of mind and an opportunity to make other financial investments.
- Build Home Equity Faster. Equity is determined by calculating the value of your home minus what you still owe on the principal balance. If more of your monthly payment goes towards paying off the principal on the loan versus the interest on the principal on the loan, you will be able to build that equity more quickly. That equity can then be applied in a variety of ways like debt consolidation, home renovations, and other investment opportunities to put homeowners in a better financial position.
The converse opportunity cost of a 15-year mortgage term compared to a 30-year mortgage term is the amount of income that gets eaten by monthly payments. For some homeowners, this may mean that they can’t afford as much home as they’d like or they will be on a tighter financial budget with less flexibility. Each home buyer will need to crunch the numbers on their own to determine what works best for them financially.
Which is Better: The 15-Year Commitment or the 30-Year Commitment?
As a fable, the Tortoise and the Hare sends us a pretty clear moral in its resolution: slow and steady wins the race. However, when it comes to mortgage terms, each individual home buyer’s situation is unique to their own financial location at the time of purchase. For some, paying off a loan with a 15-year mortgage is the fastest route to the finish line.
For others, steadily paying off a loan over 30 years to make space for other financial obligations is the most direct route as part of an all-encompassing financial plan to establish better financial freedom. Plus, for homeowners with a 30-year mortgage who may find themselves in a more advantageous financial position down the road, there is always the option of refinancing to a 15-year mortgage term.
How Can The Home Loan Expert Help?
We’re proud to employ some of the nation’s best and friendliest lending experts on our The Home Loan Expert team. Even throughout our nationwide expansion into multiple states, we’ve never lost sight of our original goal to get home buyers the best deal possible when purchasing their dream home. We’ve managed to keep our promise to provide loan financing services using expert loan officers from the same communities we serve. Over the years, we have steadily built a customer-focused lending team dedicated to providing top-notch customer service. Our friendly lending Experts are knowledgeable about all loan types, helping us guide you in finding a loan that is suitable to your unique needs while getting you the best possible rates. If you need help deciding whether a 15-year mortgage term or a 30-year mortgage term is right for you, we can help walk you through that process.