Last year my husband and I shortened our 30 year mortgage term to a 20 year term by refinancing. Because interest rates were so low at the time, our monthly payment barely budged, and we were able to save over a hundred thousand dollars by cutting years off of our mortgage payments. By paying a little extra on the principal balance, we will be mortgage-free before our daughter enters college.
The 30 year term is certainly the most popular term out there. When I bring a 15 or 20 year term up to borrowers, they usually haven’t even considered it. I truly wish more borrowers would give it a second thought as the benefits of a shorter loan term are significant.
Let’s compare a 15 year term versus a 30 year term using today’s average interest rates. We’ll use a loan amount of $160,000.
|
15 Year Term- 3.75% Outstanding Principal Balance |
30 Year Term-4.375% Outstanding Principal Balance |
|
|
5 Years |
$115,669 |
$145,574 |
|
10 Years |
$62,875 |
$127,628 |
|
15 Years |
$0 |
$105,303 |
|
20 Years |
$0 |
$77,531 |
|
25 Years |
$0 |
$42,981 |
|
Total Interest Paid |
$45,886 |
$127,588 |
Based on this example, a borrower would save $81,702 over the life of the loan by going with a 15 year mortgage term as opposed to a 30 year term.
Since the average first time home buyer only stays in his/her starter home between 5-10 years, all of these savings wouldn’t be realized. However, with the 15 year term, a borrower would have $30,000 more equity in the property at 5 years and just short of $65,000 more equity at 10 years of ownership. This would mean more cash when selling the home to put towards the down payment on the next home.
I think most borrowers go with the 30 term because of the flexibility of the lower monthly payments but with the intent of making additional payments each year. However, I also think life happens and unexpected expenses come up (braces for the kid, tires for the car, emergency surgery for the dog) and they don’t end up making those additional payments. That’s why I’m a huge proponent of shorter loan terms: you have no choice but to reduce your principal balance faster and save money as a result. When you have to do it, you will make it happen by cutting unnecessary expenses. Conversely, when you have the flexibility to pay less, you will.
If you have any questions about different loan term options when purchasing your first or next home or if you’d like to look into refinancing your current mortgage to shorten the term, please contact me. I am licensed to work with borrowers in the entire state of Virginia. I can also refer you to other mortgage advisors I know and trust on the East Coast.
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