Because of the present market climate, home appreciation is not a rational motive for owning a home, nor is it a means for acquiring personal wealth. These days, a more realistic motive is to view your home as a long-term place to live while thinking ahead to prepare for a financially stable future.
Keeping that in mind, which fixed rate mortgage should you choose when buying or refinancing a home?
Most standard fixed rate mortgage payment terms range from 10 years to 40 years. The most popular terms, however, are 15 and 30 years.
The case in favor of 15-year fixed rate mortgage loans
According to bankrate.com, the current 30-year fixed mortgage rate is 4.75% compared to a 15-year fixed mortgage of 4.30%. 15-year loans offer the definite advantages of an early pay off and a substantially reduced amount of interest paid during the term. For example, on a $200,000 loan, a 15-year mortgage could save more than $100,000 over the term of the loan when compared to a 30-year mortgage. The additional advantage is the interest rate is generally slightly lower with a 15-year mortgage. The difference is 1/4 percent to 1/2 percent depending upon current market conditions.
A 15-year fixed mortgage is best suited for those with upward employment mobility who are buying well below their means or those refinancing a home with substantial equity or significant cash reserves.
15-year mortgages have great advantages over 30-year mortgages; shorter payment term, lower interest rate, and rapid equity build up. There is one glaring problem with them as an option for most home buyers, though…
The case in favor of 30-year fixed rate mortgage loans
Because of the shorter term, the monthly payment in 15-year mortgages is significantly higher than that of the 30-year mortgages; so much so that it is out of reach for most home buyers. Although it costs $100,000 more in interest over the life of the loan, the monthly payments are lowered by at least $400 per month on a 30-year mortgage. The flexibility of making extra principal payments on a 30-year mortgage gives the option to pay it off early and to gain big savings on the interest.
Any unforeseen financial setbacks or job loss can cause the monthly payment on the 15-year mortgage to become a serious burden. Therefore, it is important to have a sizeable savings account to mitigate the risks. If a borrower does not have that, it is better to choose the 30-year mortgage and continue to build your savings. Or else, the only recourse is an expensive refinance to a 30-year mortgage which only works if the borrower’s qualifications have not been compromised by the negative events.
If you can afford higher monthly payments and have significant savings funds, a 15-year term is a much better option to own the home in less time. Fifteen years is not very long over a lifetime and the equity in a home with no mortgage can contribute to a very comfortable retirement. But, if your objective is more monthly savings, then that objective is additionally compromised with a 15-year mortgage because the monthly payment is significantly higher than the 30-year mortgage, negating some of the monthly savings. So, if you have an appetite for debt and risk, the money saved every month with a 30-year term can be invested elsewhere to gain higher returns.
You have to decide if it is more important for you to own your home quicker and have the peace of mind or if you would rather invest the extra income elsewhere to get much higher returns.