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Benefits of a 15-Year Mortgage

By Frugaling 2 Comments

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Benefits of a 15-Year Mortgage
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Most homeowners choose the standard 30-year fixed-rate mortgage when buying a home. While a 30-year mortgage offers lower mortgage payments, it also means paying tens of thousands more in interest. Many people buying a home automatically shy away from a 15-year mortgage due to higher payments, but the potential savings may be so high that it’s worth reducing your expenses or buying a smaller house to make it happen.

Here are the most important benefits of a 15-year home loan that you should consider before buying.

Reduced interest charges

Let’s assume you buy a home for $260,000 with $52,000 down for a total mortgage of $208,000. While the rate for a 30-year mortgage may be around 3.65%, the interest rate for a 15-year mortgage may be just 2.70%. This gives you a monthly payment of $957 for a 30-year loan and $1,407 with a 15-year mortgage.

While this big difference in monthly payments turns away many buyers, it’s important to focus on the cost of your mortgage over the life of the loan rather than focusing solely on the monthly payments.

Over the life of this 30-year mortgage, you will pay a total of $136,700 in interest. Compare tat to just $45,100 with a 15-year loan — a savings of more than $91,000! You can find out just how much you could save in interest with a 15-year mortgage by using a mortgage interest calculator.

Build equity faster

One of the most overlooked benefits of a 15-year loan is the ability to build equity in your home faster than with a 30-year loan. This is because fixed-rate loans have amortizing payments with the payment applied to interest and principal every month. A 15-year loan needs to be paid off faster, so more of your monthly payments will go toward the principal balance rather than interest.

In the above example, the first monthly payment of $957 for a 30-year loan will break down to $316 toward principal and $641 in interest. After five years, $379 of every payment goes to principal and $578 goes toward interest which means you will still be building equity very slowly. After five years of monthly payments, you will have built up just $20,800 in equity.

15-year mortgages work more in your favor. Your first payment of $1,407 breaks down to $939 in principal and $468 in interest. After five years, you will be paying $1,072 a month toward principal and just $335 in interest with total equity of $60,200.

Because you will build equity faster, you will have a buffer against changes in real estate prices and you’ll have equity you can tap with a home equity loan or HELOC if you need to. This can also potentially make refinancing your loan easier down the road because you will have a lower loan-to-value ratio with less risk for the lender.

Pay off your mortgage faster

Finally, a 15-year mortgage can help with paying off your mortgage early — a dream for many homeowners. Not only can you avoid having a mortgage hanging over your head for 30 years, you still have the option of making additional payments to principal over the course of the loan, whether you add a bit to your monthly payment or make lump-sum payments with your tax refund. A shorter loan term can help you live mortgage-free earlier in life so you can focus on savings or retirement.

About 85% of new mortgages today have a 30-year term, but it’s important to explore all of your options. A 15-year mortgage means making half as many mortgage payments and saving thousands in interest over the life of your loan while paying a lower interest rate. If you can afford the higher monthly payments of a 15-year home loan, there is almost no reason not to do it.

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Filed Under: Money Tagged With: mortgage

Comments

  1. Millennial Money says

    November 14, 2016 at 2:53 pm

    I mistakenly stared with a 30 year mortgage, but with interest rates so I low I ran the numbers and figured out I could save over $150,000 refinancing to a 15 year mortgage at 2.625%. Yes the payment is higher, more is going to my principal and I was able refinance at a much lower rate. It’s surprising how little information there is on the benefits of a 15 year mortgage. When I was originally looking I had a really hard time finding solid info. If you can afford it 15 year is likely the best way to do – even if you plan to move in the next 3-5 years. Thanks for sharing.

    Reply
  2. Millennial Money says

    November 16, 2016 at 5:31 pm

    This is just another way to save money. The more money you invest, earlier, the greater your rewards will be in the future. Thanks for breaking down the numbers for us.

    Reply

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