Monday, 28 October 2019

15 Year Vs 30 Year Mortgage - Which One Is Better

15 Year Vs 30 Year Mortgage

In this article, we are talking about a 15 year versus a 30-year mortgage. Which one is better? We're comparing the pros and cons between a 15-year mortgage and a 30-year mortgage. 

Buying a home is one of the biggest purchases you're ever going to make in your lifetime. It really depends on what kind of mortgage you get. The ideal situation is to pay for a home in cash. But a lot of people don't have that kind of money laying around.

A mortgage is a loan against your home using the home as collateral. So If you don't pay the mortgage, the bank has recourse, and they can kick you out of your house which is known as foreclosure.

Let's get started with the pros and cons of a 15-year mortgage vs a 30-year mortgage.,


15 Years Mortgage

  1. Pros: Lower Interest Rate
  2. 25% To 1% Less Than 30 Year Mortgage
  3. Paid Off Faster
  4. Faster Principal Pay Down

Lower Interest Rate

The first pro is that the banks will give you a lower interest rate on a 15-year mortgage. The reason for this is because it's less risky for a loan. 

What does that mean? And why is it less risky? It's less risky because the term is shorter. 

For example, you're a banker and you're lending out someone money to buy a home. It's less risky as a banker because the term is not as long as a 30 years mortgage, there are fewer things that can happen to you whether it's a job loss, sickness. I hate to say it but even death.

A shorter-term mortgage, a 15-year mortgage is looked at less risky to the banks.

25% To 1% Less Than 30 Year Mortgage

The interest rates are also a quarter of a percent to a full percent lower than a 30-year mortgage. 


Paid Off Faster

You can also pay these off in a shorter amount of time.


Faster Principal Pay Down

What this means is the principal of a loan is the amount that you borrow. For example, you borrow $100,000 as a mortgage. There's going to be an interest on top of that $100,000 as well. So you have two parts to the mortgage or two parts to the loan. You have the principal and the interest. 

With a 15 year mortgage, more of your monthly payment goes down towards the principal pay down, which means, you're paying off the loan faster as opposed to a 30-year mortgage. In a 30 year mortgage at the beginning of it at least, a majority of your monthly payment is actually going towards the payment of the interest, not the principal.

Now, that I've touched on some of the pros of a 15-year mortgage. Here is the one biggest con and that is having a higher payment every month.


Con: Higher Payment Every Month

It just makes logical sense, if you're still borrowing the same amount of money. Let's use that $100,000 for example. Obviously, your payments are going to be lower if you stretch it out over 30 years rather than stretching it out over 15 years. It's just math.

However, I will get into some of the reasons why some people may actually prefer the 30-year mortgage with a low payment rather than having this con of the higher payment of a 15-year mortgage.

Now that we've talked about some of the pros and cons of a 15-year mortgage.

Let's get into some of the pros and cons of a 30 years mortgage. 


30 Years Mortgage

  1. Pros: Lower Monthly Payment
  2. Extra Funds For Investing

Lower Monthly Payment

The lower payment actually allows you to purchase more home than you can originally afford with a 15-year mortgage, again, because your payments are stretched out over 30 years.    


Extra Funds For Investing

This also frees up more funds for you to invest. So as long as you're earning more interest in your investments than what the interest is on your mortgage. That means you're netting a positive return. 

Think about it logically, if your interest rate on a 30-year mortgage is 4%, and your investments are earning you 7, that is a difference of 3% over the course of that 30 years. But again, that takes a lot of discipline to do. You can make some investments or in the stock market, you can put it into 401k with an employer match or you can even put it into a 529 plan for your child's future education.


Now let's talk about some of the con of a 30-year mortgage.


Con: Longer Pay Off Period

  • Slow Principal Payment Down

It takes much longer to pay off, it's obviously longer mortgage by 15 years. When comparing it to a 15-year mortgage. This could actually last you into retirement. And if you asked for my personal opinion, I do not want to be paying a mortgage into my retirement.


Slow Principal Payment Down

As I mentioned earlier in the 15-year mortgage, those principal payday loans are a lot quicker, because a majority of your monthly payment is going towards the principal of the loan. Not the interest, in the case of a 30-year mortgage. A majority of your payments are actually going towards the interest first, and then the principal. So you're not building a lot of equity in this process.

You've heard me mention multiple times in this article talking about investing the difference between the two payments of a 30-year mortgage versus a 15-year mortgage. 

Let's go through a real-life example with a real number that I did before writing this article. I did that just for simplicity. We're not going to do any math but you'll be astounded at the difference of interest in a 15-year mortgage versus a 30-year mortgage.

Let's take a quick example.


30 Year Mortgage

  • House Prince: $375,000
  • Downpayment: $75,000
  • Mortgage Amount: $300,000
  • Interest Rate: 4%
  • Monthly Payment: $1,432
  • Interest On Loan: $215,609
  • Total Cost Of Mortgage: $515,609

15 Year Mortgage

  • House Prince: $375,000
  • Downpayment: $75,000
  • Mortgage Amount: $300,000
  • Interest Rate: 3.25%
  • Monthly Payment: $2,108
  • Interest On Loan: $79, 441
  • Total Cost Of Mortgage: $379,441


In order to put 20% down on this house. We're going to end up putting down $75,000 as a down payment.

If you take $75,000 that you're putting down, your mortgage on this house is $300,000, the 30-year loan is probably going to be right around 4%, let's just use 4% for easy number. the 15-year mortgage is going to be about 3.25%, the interest over the course of a 15-year loan at 3.25% is $79, 441.

The 30-year loan interest that you're paying over the course of those 30 years is $215,609. That's a difference of $136,000.

Now if you take the two payments, the 15-year loan monthly payment is $2,108, the same loan on a 30-year monthly payment is going to be $1,43.

That's a difference of $676 per month.



Conclusion

There is a clear advantage to both 15 year and 30-year mortgages. But keep in mind, it is called personal finance for a reason. There is no one size fits all. Personal finance should be personal to your life and your life situations. 

In my opinion, I like to be mortgage-free even though the math makes sense and taking out a 30-year mortgage. There's something about the relief of not owing anybody anything and living in your home. Debt-free.

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