15-Year Mortgages Can Mean Big Savings
If you’re in the market for a home, there are multiple factors to consider beforehand. Things like curb appeal and decor play a role in the purchasing decision; as do considerations about the neighborhood, location and proximity, school districts and community. But most importantly, it’s essential to think about the long-term financial factors of homeownership, such as monthly payments, financing options and current mortgage rates.
The most common mortgage in America is a 30-year, fixed-rate mortgage. While 90% of Americans opt for this option, 6% of Americans chose a 15-year fixed mortgage rate in 2016. Although the 30-year mortgage is the industry standard, a 15-year mortgage can mean big savings and have multiple perks in the long run. This article will guide you through the pros and cons of a 15-year mortgage, and help you decide if it’s the right option for you.
The average 15-year mortgage rate
As of this writing, the average 15-year fixed rate mortgage rate was 4.02% versus 4.53% for a 30-year mortgage rate, according to data compiled by the Federal Reserve. That difference of just 50 basis points can translate to tens of thousands of dollars in savings, as we illustrate in the table below.
Mortgage rates fluctuate frequently based on supply and demand, current economic behavior, GDP growth, national spending patterns, inflation and the unemployment rate, according to Tendayi Kapfidze, chief economist at LendingTree.
“When you get a mortgage, the lender is funding that mortgage with money from investors,” said Kapfidze.“When there are more investors trying to lend money than there are people trying to borrow, the mortgage rate will go down. Likewise, when more people are trying to borrow and fewer lenders trying to lend, [mortgage] rates goes up.”
Mortgage rates may also differ between banks and also between customers, depending on their credit score and level of risk.
Why are 15-year mortgage rates lower than 30-year mortgage rates?
When initially comparing a 15-year loan to a 30-year loan, there are some similarities.
“Any potential borrower still has to qualify for either loan,” said Mitch Mills, broker and owner of Mitchell Mortgage in Salt Lake City. “Also, all loans are underwritten the same way,” he said.
While the process of getting a loan is the same for either option, 15-year loans are almost always the cheaper option because they are shorter.
“Time is equal to risk. The 15-year rate is lower because you are borrowing the money for a shorter period of time, so it’s less risky for the lender,” Kapfidze explained. “Anytime a loan is a shorter duration, that loan will have a lower interest rate compared to a similar loan of longer duration.”
15-year fixed mortgage rates vs. 30-year fixed rates
The difference between a 15-year fixed mortgage rate and a 30-year fixed mortgage rate is typically 0.5%. This may seem insignificant at first glance, however, the long-term savings of a 15-year mortgage are substantial.
Let’s look at an example using a $200,000 loan.
|Length of Loan||Mortgage Rate||Monthly Mortgage Payment||Interest Paid by end of Loan||Total Cost of Loan|
Those who opt for a 15-year fixed rate mortgage would save just under $100,000 in interest. By choosing a 15-year mortgage, potential homeowners can save tens of thousands of dollars in interest, build equity faster and will own their home in half the time.
Is a 15-year mortgage right for you?
Saving thousands of dollars in interest is appealing to everyone. However, it may or may not be the best option for everyone. When comparing a 15-year mortgage with a 30-year mortgage, think about the long-term consequences and repercussions, and ask yourself some important questions.
Is the mortgage payment doable?
While you’ll save money on interest in the long run, you will have a much higher mortgage each month for the duration of the loan. Looking back at the example, the monthly payment on a $200,000 loan is $1,479, which is $466 more than the monthly payment on a 30-year loan.
“Ask yourself, are you comfortable with this payment for 15 years?” Mills suggested.
Is my career stable?
When thinking about a 15-year loan versus a 30-year loan, it’s essential to consider your job and career. For those who know they will have a dependable job with a consistent salary, the 15-year loan is worth considering. However, people in industries with fluctuating incomes — like business owners or those who are paid on commission — may not be able to afford the high mortgage each month. In this scenario, a 30-year loan would likely be a better option.
Keep in mind, with any loan, you can add to the payment intermittently or make additional payments to pay it off faster, saving interest in the process.
What is your current financial situation?
Before opting for a 15-year mortgage, take an honest look at your current financial situation.
Do you have money going toward a retirement fund and an emergency account? These are essential things to consider for your financial future. Paying your home off quickly is great, but you must have a retirement fund in place and an emergency savings fund that you can access if necessary.
Can you afford the higher monthly payment for 15 years? If an emergency happens that requires you to dip into your savings, can you still make your monthly payment?
Can you pay all your bills and still save? Take a look at all your expenses and ask yourself if you can pay them, save for the future and afford a higher monthly payment.
What are your spending habits like? If you like to travel, spend money on activities, education, or entertainment, taking on a higher mortgage might strip you of these opportunities. Think about your lifestyle habits and consider what a higher mortgage will do to your habits.
A 15-year mortgage is a great option for those with a stable income, a solid emergency savings fund, money being invested for retirement and a strong desire to be debt-free by a certain date.
There are many options when it comes to mortgages, and opting for a 15-year mortgage can save homeowners thousands over the years. Before making your decision, evaluate your future and consider all your options. You can also calculate what your monthly payments would be for different loan amounts using a loan calculator.