Buying a home comes with a hundred decisions, large and small. And some are easier to answer than others.
Do I have time (and patience) for a fixer-upper or should I shell out the extra cash upfront for a turnkey property? How committed am I to a big tree in the front yard? Do I opt for a 15-year or 30-year mortgage? (Record screeches.)
For a lot of homebuyers, that seems like one of the tough ones. And it can make or break your finances for years to come, so it’s wise to take it seriously. But if you work through the pros and cons, you can decide between a 15-year and 30-year mortgage with confidence.
15-Year Mortgage vs. 30-Year Mortgage
Some of the pros and cons of 15-year versus 30-year mortgages seem obvious. And on paper — or a chart on a computer screen — it looks pretty simple.
|15-Year Mortgage||30-Year Mortgage|
|Total Interest Paid||Much Lower||Much Higher|
|Need Mortgage Insurance||Shorter Term||Longer Term|
But the implications are often anything but simple. That’s especially true for young first-time homebuyers whose income and credit aren’t what they will be in a decade or so — for better or worse.
Buying a home on a 15-year mortgage rather than a 30-year one may mean you end up making higher monthly payments for less house than you could qualify for on a longer term. But saddling yourself with debt for long enough to raise several human beings to adulthood and beyond can add stress to an already stressful process.
Also note that the stress factor of this decision assumes you choose either a 15- or 30-year fixed-interest loan rather than an adjustable rate mortgage or more niche loans. Adjustable-rate mortgages are more complicated and riskier for a lot of people, and something like a balloon mortgage frankly isn’t a good fit for most homebuyers .
There are times when you should consider those, but most homebuyers should choose a fixed-rate mortgage, though you still need to choose a term.
But don’t let a mortgage lender push you into making a rushed decision. Take a beat, grab a cup of your favorite seasonally appropriate nonalcoholic beverage, and weigh the pros and cons of each option.
15-Year Mortgage Pros & Cons
Shorter loans make for a faster payoff. But that has consequences both good and bad, and you should explore them carefully before signing on the dotted line.
Short-term mortgages can be a heavy lift, at least at least during the loan. But for many borrowers, these benefits are worth it.
- Lower Interest Rates. Mortgage lenders charge lower interest rates for shorter-term loans. That’s because the faster you pay down the loan balance, the less risk they incur — and lenders price loans based on risk.
- Lower Total Interest. Even if you can get the same low interest rate, you still pay more in interest for longer-term loans because they accrue interest for longer.
- Build Equity Faster. Home equity is the dollar amount of the home you own outright. You can borrow against it, and if you need to sell the house before you’re done paying it off, having more equity means having to cough up less money at the settlement table. Plus, you can eliminate private mortgage insurance faster if your loan allows it. Private mortgage insurance protects the lender if you default. So when you’ve built enough equity to have just as much to lose as the lender and proven you’ll make payments, they let you stop carrying it.
- Fewers Years in Debt. Paying off your mortgage faster means a shorter horizon for becoming debt-free. That’s especially important since it’s best to focus on paying off your home mortgage debt before focusing on building wealth.
Many of the features that give 15-year mortgages their enormous advantages can cause equally substantial disadvantages for some borrowers. Beware of these drawbacks of 15-year mortgages.
- Higher Monthly Payments. Paying it off faster means paying more per month. If your pal has a 30-year mortgage with the same monthly payment as your 15-year one, they’re probably living in a house appreciably nicer than yours. Or maybe they borrowed the same amount over 30 years and have a much lower payment. Either way, you’re seeing less house for the same amount or tightening the purse strings while they’re living large(ish).
- Rigid Repayment. With a 15-year term, you must repay it in full in a maximum of 15 years. The only way to extend the repayment period is to refinance, which is expensive.
- Opportunity Cost. Mortgage loans offer the cheapest interest of any loan type. That means many borrowers can make more money than they’d save investing the monthly payment difference. For example, if you took the 30-year mortgage with a payment $1,000 lower, invested that difference and got just a 7% return, you’d have over $300,000 at the end of 15 years, which is (very) likely more than you’d have saved by taking the shorter-term loan.
30-Year Mortgage Pros & Cons
Despite the higher total interest over the life of the loan, 30-year mortgages come with their own perks.
Longer mortgage loans have almost as many perks as shorter ones, though they tend to be the opposite of a shorter loan’s disadvantages.
- Lower Monthly Payments. Lower payments fit into your budget more readily, making it easier to move into your (probably more expensive) dream home — or a better school district — today. With a shorter-term loan, you may have to reduce the overall budget price of the home (meaning less home and a potentially lesser school district) just to afford the monthly payments.
- Flexibility. A 30-year loan lets you control your own destiny. You can pay off the loan in 30 years — or 15, 24, or even 18.7 years if you so choose (just beware the dreaded prepayment penalty). Even if you plan to pay it off in 15 years, 30-year home loans reduce your minimum living expenses, which is handy when the unexpected happens, such as a sudden job loss. Likewise, lower living expenses means a smaller necessary emergency fund.
- More Freedom to Invest. There’s no rush to repay low-interest loans if you can earn a higher return elsewhere. Paying off loans early pays you a return equivalent to the interest you would have paid on it. Historically, the S&P 500 has returned around 10% annually, so investing that cash in an index fund that tracks it may make more sense.
Just as the advantages of a 30-year loan reflect the opposite of a 15-year mortgage’s downsides, the cons are opposite of the shorter loan’s advantages.
- Higher Interest Rates. Lenders charge higher interest rates for longer loans. That means even if you plan to pay off your 30-year mortgage in 15 years, and simply want the added flexibility of the longer loan, you pay a premium for that flexibility.
- More Overall Interest. With longer loan terms come more total interest due. And not just a little interest either — it can easily be more than double.
- Slower Equity Gain. Paying down your mortgage more slowly means building equity more slowly. That means paying mortgage insurance for longer and a greater risk of getting to the point that you owe more on your home than it’s worth. Lacking equity in your home can leave you trapped in your home because you’d potentially owe a lot of money when you sold rather than getting a check.
- More Years in Debt. Who wants to take on a debt that lasts for the rest of your life? When I kick the bucket, I would just as soon leave my daughter with a free and clear home than one saddled with a heavy mortgage. Better yet, I’d prefer not to have any debt at all going into retirement. Less debt means a safer retirement, after all.
Imagine you borrow a loan amount of $400,000 at 5% interest. For the sake of this example, we’ll say the interest rate is the same for both loans (although as you know by now, the shorter loan would have a lower rate in real life). It would break down like this.
|Mortgage Term||Monthly Payment||Total Interest||Total Cost|
Even at the same rate, you’re looking at a $200K difference thanks to interest alone. And remember, the reality is that you’d have gotten a better deal on the 15-year mortgage. Then again, on a shorter-term loan, you’re paying over $3,000 per month for housing. That extra thousand dollars per month could easily pay for your kid’s private school — or net you almost half a million dollars after 15 years of investment, assuming 10% returns.
To help in planning, you can use a mortgage calculator to run the numbers with your own info. There’s also a handy investment calculator if you need that one.
The Verdict: Should You Choose a 15-Year or 30-Year Mortgage?
Your life stage matters when you’re deciding between a 15-year and 30-year term. So do your priorities, risk tolerance, and long-term financial goals. Taking those together, you can make a better-informed decision about which term to choose.
You Should Apply for a 15-Year Mortgage If…
A 15-year mortgage is a better fit for those on tight schedules who value added safety, at least in terms of the things life throws at you. You should apply for a 15-year mortgage if:
- You’re Planning for Retirement. If you’re in your 40s, 50s, or 60s and looking ahead to retirement, a 15-year mortgage positions you to own your home free and clear before exiting the workforce. That reduces your living expenses in retirement, which in turn reduces how much you need to save for retirement.
- You Don’t Like Risk. There’s no safer investment than paying off your mortgage faster. Besides, some people just sleep better at night knowing they own their home free and clear.
- You Might Need to Move Within Five Years. If you know you won’t be here long or tend to move frequently, it makes sense to pay it off faster. That prevents you from becoming upside-down or having to come out of pocket to cover closing costs when you sell.
- You Borrowed More than 80% of the Home’s Value. If you’re borrowing more than 80% of the value of your property, you have to pay mortgage insurance. But you can remove that once you pay your balance below 80%, so you can save money if you reach that point as quickly as possible.
You Should Apply for a 30-Year Mortgage If…
Some soon-to-be homeowners are at a point when other priorities and goals may need to take center-stage. A 30-year mortgage is a better fit if:
- Becoming a Homeowner Is a Struggle. For younger or lower-income first-time homebuyers, just getting your foot in the door of homeownership can be a challenge. You get that a 15-year loan would save you money on interest — but your priority right now is just buying your first home on a monthly budget you can afford.
- You Value Flexibility. You can still pay off your mortgage in 10 to 20 years by making extra payments on a 30-year mortgage. You’ll pay a slightly higher interest rate for that flexibility, but if you have variable income or expenses, it’s often worth it to pay a small premium for more flexibility. Just double-check your loan’s prepayment penalties before committing extra money to your loan.
- You’d Rather Invest More Elsewhere. I don’t mind calculated risks, and if I can borrow money at a cost of 4% to 5% and invest it at a 10% return, I’ll take that deal every day. If you feel the same way, it’s a sound plan.
Mortgage lenders, family, and well-meaning friends all throw advice at you about the best mortgage term. Ignore them all.
Carefully review the pros and cons of both a 15-year and 30-year mortgage, and pick the one right for you and your priorities. Whichever you decide, opt for a fixed-rate mortgage unless you have very niche needs, and don’t let wily mortgage lenders trick you into refinancing to extend your debt horizon even further.
If you have any doubts about your ability to keep up with higher payments, choose the longer term.