When is 15 greater than 30? The big advantages of a short-term mortgage
There are so many mortgage options available to homebuyers that shopping for one can be stressful and confusing. It’s not just a matter of different rates—it’s also different lengths. In fact, in a 2018 analysis of Home Mortgage Disclosure Act data, the Consumer Financial Protection Bureau found more than “740 distinct values of loan terms” or lengths.
15-year vs. 30-year mortgages
Perhaps it’s not surprising that the vast majority of homebuyers chose the familiarity of the 30-year mortgage. Just over 80% went with a 30-year term, just like their parents before them probably did. The 30-year mortgage has been the standard definition of a home loan for decades. But that doesn’t make it the best option for everyone.
The second most popular mortgage term was the 15-year mortgage, comprising 8.9% of all mortgages. This type of mortgage typically offers a lower rate than 30-years’, but you’ll have to pay it off in 15 years instead of twice that amount of time. And while it’s less popular than its 30-year cousin, a 15-year or other short-term mortgage does have benefits that longer loans can’t match for certain homeowners. But there are barriers, as well.
Benefit: Pay less interest*
You’re going to be paying a lower interest rate. And you’re going to be paying interest for half the time that you would in a 30-year mortgage. Those two factors mean you could potentially save thousands on your home payments over the life of the loan.
Let’s look at an example: Say you bought a home for $300,000, putting 20% or $60,000 down.*
- On a 30-year loan, with a hypothetical rate of 2.75% (2.92% APR), you’d end up paying $352,720 on that original $240,000 loan, along with $5,600 in closing costs.*
- That’s $112,750 in interest to pay off the loan.
- On a 15-year loan, with a hypothetical rate of 2.125% (2.45% APR), you’d end up paying $280,489 on that original $240,000 loan with $5,600 in closing costs.†
- That’s $40,489 in total interest.
- Total difference of interest payments: $72,261
Barrier: Higher monthly payment
Even though the 15-year rate is lower, the monthly payment is higher because you have less time to pay it off. That means your monthly budget could take a hit for other expenses.
In the same example from above, the monthly principal and interest payments would be:
- 30-year: $979.78
- 15-year: $1,558.27
And keep in mind that these payments don’t include taxes, insurance or any other monthly expenses of owning a home.
Benefit: Faster equity
With less interest, you’ll be paying down the principal balance on your loan quicker and building equity in your home faster. Having more home equity gives you many financial options if you choose to tap into it.
Barrier: Lower loan amount
Lenders may offer less in total loan amount as they consider how much you’ll be able to afford each month with the higher monthly payments.
Benefit: Own your home quicker
Fifteen years after closing on your home, you’ll cut your last check to the bank. Wouldn’t that be a wonderful feeling? What could you do with that freed-up money?
Barrier: More money tied to your home
The extra money that you’d pay each month on a 15-year loan is money that you can’t use somewhere else. So, while you may decide that you can fit the higher monthly payments into your budget, doing so could leave you with less flexibility with your money.
A 15-year mortgage makes a lot of sense if you can use it to get the home you want and still have enough in your monthly budget to live the life you want. Because after 15 years you’ll pay off that loan, and then you’ll have much more available to spend each month.
* Example loan amount based on a purchase price of $300,000, down payment of 20%, 30-year fixed rate mortgage at a rate of 2.750/2.920 annual percentage rate (APR), and 360 payments of $979.78. Advertised rates and APR effective as of 04/08/21 and are subject to change without notice.
† Example loan amount based on a purchase price of $300,000, down payment of 20%, 15-year fixed rate mortgage at a rate of 2.125/2.450 annual percentage rate (APR), and 180 payments of $1,558.27. Advertised rates and APR effective as of 04/08/21 and are subject to change without notice.
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