Rates, Home Prices Make 15-Year Mortgage More Attractive
Consider this: right now, you can purchase a home with a 15-year mortgage and end up with a monthly payment that is far less than you would have paid for the same property under a 30-year loan only three years ago. Sound interesting? Read on.
A 15-year fixed rate mortgage is something that many potential homebuyers consider, but eventually pass on because the monthly payments are considerably higher than an equivalent 30-year loan - about one-third again as much under current terms. It's often the choice of those who are refinancing a mortgage after paying on it for a number of years, so the 15-year term offers a lower rate without greatly changing the time left on the mortgage.
But right now, not only have home prices dropped an average of 30 percent over the past three years, interest rates are way down as well. According to Freddie Mac, interest rates on a 30-year fixed rate loan were around 6.75 percent in mid-2006, when the housing market was at its peak. Right now, they're around 5 percent and you can get as low as 4.5 percent on a 15 year loan (according to Freddie Mac). That's 2.25 percent lower! A full-one-third less than the old 30-year rate!
Many people are taking advantage of the current housing and mortgage rate markets to buy a better home than they could afford a few years ago. But another option is to buy a similar home and pay it off more quickly.
Same house, shorter mortgage, smaller payment
Consider: A $300,000 mortgage on a home bought in mid-2006 on a 30-year fixed rate mortgage would run $1,945 a month. Assuming a 30 percent price reduction since then (the U.S. average according to Standard & Poor's/Case Shilling), the same house today would cost only $210,000 (for simplicity, we'll assume a proportional down payment). So a 15-year fixed-rate mortgage at 4.5 percent would run only $1,607! That's more than $300 less a month!
Of course, a 30-year fixed rate mortgage would be even less - $1,127 at the current rate of 5 percent. But the point is that for many potential home buyers, their incomes have held up better than the housing market has. So instead of looking at the current housing and mortgage market as allowing you to buy a house more cheaply, you might also consider it as allowing you to pay for it more effectively as well.
The biggest advantage of a 15-year mortgage is that you pay off your home in half the time. That's a major consideration if you're looking at other major financial demands 15 years down the road, such as sending children to college, retirement, eventually starting a business or a desire to travel.
A 15-year mortgage will also enable you to build up equity in your home more quickly, protecting you against the possibility of becoming "underwater" on your mortgage should housing prices fall again. And, of course, you'll pay far less in interest over the life of the loan - often as much as 60 percent less.
Downsides to a 15-year loan
A 15-year loan may not be as attractive if you're planning to move in a few years, although you'll still have the additional equity built up in your home when you sell. You also won't be able to claim as much of a mortgage interest deduction on your taxes over time, although the deductions don't come close to balancing out the extra interest you pay on a 30-year loan.
Probably the biggest downside to a 15-year mortgage is the bigger monthly payment. As mentioned above, it's substantial. And even if you can afford the bigger payment, a 30-year loan does offer more flexibility in your monthly finances - it's easier to get over a temporary rough spot with an $1,127 monthly mortgage than with a $1,607 one.
But if you have the means and the discipline to handle a 15-year mortgage, and you're planning to stay in the home a long time, it can be a way to get a major financial hurdle out of the way in a relatively short time and free up a big chunk of your finances afterward. Especially now.