The 40 year fixed rate mortgage will have the same interest rate and payment over the entire 40 year life of the loan. As one of the longer loan terms available, 40 year fixed loans offer lower payments, but you will pay more in interest over the life of this loan than a similar loan with a shorter term. It is a relatively newer option in the lending industry.
This loan can be especially appealing to buyers trying to afford a larger or more expensive house. By stretching out the mortgage over 40 years, monthly payments will be lower than a mortgage for 30 years or less. That can increase the price of the house that you can afford. However, even though it means lower monthly payments, a 40 year mortgage also means much higher interest rates. Therefore, not much of the monthly payment goes toward principal.
Here's how a 40 year fixed rate mortgage works. You need to borrow $300,000 for a home purchase at an annual interest rate of 7.0%. With a 40 year fixed rate mortgage, the monthly payment for that amount is $1,864.29. With a 30 year fixed rate mortgage, the monthly payment would be $1,995.91 at the same interest rate. At this loan amount, the 40 year fixed rate mortgage makes the monthly payment more affordable. However, when shopping for loans, the interest rate may be higher lessening the difference in monthly payments.
There are drawbacks to a 40 year fixed rate mortgage. It may not lower the monthly payment that much more than a 30 year fixed. With a loan for $200,000, the difference in payments is not nearly as significant ($1,242.86 for a 40 year fixed versus $1,330.60 for a 30 year fixed). Also, most of the mortgage payment goes toward interest, making it harder to build up equity in the home. If you do stay in the home for the full 40 year term, it makes the overall cost of the house significantly higher since the mortgage is lengthened over an extra decade. Borrowers opting for a 40 year fixed rate mortgage rarely plan to keep the loan full term.
For buyers in an expensive market or needing an innovative way to keep monthly payments somewhat lower, a 40 year fixed rate mortgage provides an interesting option. Examine all of your mortgage options before opting for it, though.