The current mortgage rates are still very low, with a 30 year fixed mortgage hovering in the 4% range and 15 year fixed mortgages at 3.625% (3.855% APR). With rates this low, many people are thinking about either buying a new home or refinancing.
But does it make sense to do a 15 year mortgage instead of a 30 year mortgage? A 15 year mortgage can save you hundreds of thousands in interest over the life of the loan. Meanwhile, the 30 year home loan has lower payments, but you will pay much more in interest over the long term. Let’s take a close look at both options and you can decide which the best is for you.
15 Year Mortgage Saves You Money
Using a 15 year mortgage to finance your home will give you a higher monthly mortgage payment. The advantage is that you will save a huge amount of interest by paying interest for only 15 years, rather than 30. A 15 year mortgage is often the best choice for people who want to save money in the long term, for two reasons:
- As we showed above, the current rate for a 15 year mortgage is lower than a 30 year mortgage. Right now, that difference is approximately ½ of a point. The 15 year loan holder will pay less interest each month, so the bank or lender makes less.
- After 15 years, there is no more mortgage to pay. This is half the time that you pay on a 30 year mortgage. You will have no mortgage payment 15 years sooner, which will make your life easier, at least for most of us.
These two factors combined means that the typical 15 year borrower will save several hundred thousand dollars over the life of the loan.
Look at it this way:
- With 15 year mortgage rates, your first payment is roughly 66% principal and 34% interest.
- With a 30 year mortgage, your first payment is roughly 35% principal and 65% interest.
A 30 year loan does not include the same principal to interest ratio until year 18. So, a 15 year mortgage can be a great fit for someone who can afford the higher payments, and wants to do other things with that mortgage money after 15 years.
Many people decide to get a 15 year mortgage and once it is paid off, they can use that money to travel or to possibly invest in real estate or other finance investments.
15 Year Mortgage Refinance Is Popular
Because 15 year mortgage rates are under 4%, quite a few homeowners have been choosing the shorter loan term. In fact, mortgage companies report that approximately 30% of homeowners are switching into a 15 year mortgage from a 30 year mortgage for the year 2015. This is many times more than the beginning of the decade.
Because rates are so low for the 15 year mortgage, some people are able to switch to a 15 year mortgage and see only a small change in their payment.
15 Year Loan Considerations
As with any financial product, the 15 year refinance mortgage does not suit every situation. It does provide people with enormous, long term interest savings, but it is not for every borrower.
For most people, the monthly payment on a 15 year mortgage will be up to 50% higher than a 30 year mortgage. That type of increase can be beyond the budget of many people. Many homeowners are in their 20s and 30s, and may have children. They may simply not be able to afford that much of an additional payment and still care for their families.
Also, it is harder to qualify for a 15 year mortgage, given the debt to income requirements. The lender will look carefully at your financial documents and weigh if you will be able to afford that type of payment every month.
Before you decide that you want to do a 15 year mortgage, you really should look at your financial situation. Decide if you will be able to dedicate the extra money each month to your mortgage without coming short on funds for other needs.
If you still want to have the benefits of a 15 year loan most of the time, there is another option.
There is nothing illegal about refinancing into a lower rate, 30 year mortgage, and then send an additional 50% to the lender every month.
You will benefit from a lower interest rate and you will reduce your loan term by 15 years. If you ever think you cannot make the extra monthly payment, you are under no obligation to do so.
There is no perfect mortgage for all borrowers. But many financial advisors will counsel borrowers to get a 15 year mortgage if they are able to handle the additional financial strain. The savings over the life of the long are so large, it really does make sense for many people to go for the 15 year loan.