When buying a new home, one of the very first steps you need to take is to apply for financing and get pre-approved. Your mortgage lender will determine if you are likely to be approved based on your income, credit, assets, and other factors. You may also be asked to choose whether you want a 15-year or 30-year mortgage. Many home buyers struggle with this decision, as there are clear pros and cons on both sides.
There isn’t a cookie cutter answer to this question, because every home buyer’s situation is different, and the correct path will vary from person to person. Here are a few things to consider when choosing between the two fixed rate terms:
Can I afford the mortgage payments?
Mortgage interest seems to be defying the odds and clinging to the extremely low rates we have been enjoying for the last few years. Right now (early October 2017), BankRate.com has the national rate for 30-year mortgages at 3.82% (and up) and the 15-year mortgage at 3.05% (and up). The rates for 15-year mortgages are almost always less than 30-year rates. However, the difference is in the payments. You will have to pay off all the principle in half the time with a 15-year loan, so naturally your payment will be higher for the shorter term. But how much higher?
Below is a snapshot of the BankRate.com calculator to compare 15- and 30-year mortgages. Using a mortgage amount of $600,000 and the current national mortgage rates, you can see how the two mortgages differ. The monthly payment for the 15-year mortgage is nearly double that of the 30-year mortgage. Of course, the trade-off is that you’ll own your home in much less time.
If you want to choose the 15-year option, you’ll need to evaluate all your other monthly expenses: childcare, food, insurance (auto, life, health), maintenance and upkeep on your home, medical expenses, utilities, retirement contributions, 529 contributions, etc. These are costs that the mortgage lender will not factor in when qualifying you – they will only look at your other debt and credit lines. Just because you may qualify for the higher mortgage payment, doesn’t mean it will be comfortable when added to your other bills.
Just a special note about retirement contributions: Depending on where you are in your career and the time you have until retirement, you want to carefully consider how a much higher mortgage may impact your ability to contribute to your retirement. If you are forced to lower or stop your contributions altogether, because you are having trouble making your mortgage payment, this could have a considerable impact on your retirement. For instance, even a small contribution of $100 per month now could exponentially grow over 30 years if invested wisely. You will be missing out on that growth, which could amount to much more than the future value of your home.
How stable is my situation?
While you may have a great paying job right now, and you easily qualify for the 15-year mortgage option, you’ll want to carefully consider how that situation might change in 15 years. Are you in a stable industry? Does your employer have a history of regular layoffs? How could future life events impact your earnings: birth of a child, illness, caring for aging parents, etc.?
What may seem like a comfortable payment now may begin to constrict as your situation changes. And depending on what happens, you may or may not be able to qualify to refinance to a 30-year option. If you don’t foresee future life events impacting your ability to continue your mortgage payments for the next 15 years or so, then the 15-year mortgage may be a great option for you.
What is my timeframe?
We mentioned previously that you don’t want your monthly payment to interfere with your ability to contribute to your 401K or other retirement plan. Another consideration is how much time you have until retirement.
Common sense might say that homeowners nearing retirement would want to make sure that their home is paid off before retiring, so they don’t have to worry about making mortgage payments on a more limited income. However, if you are lucky enough to have a nice retirement nest egg, plus social security or military pension or other retirement income, you may benefit more from having the mortgage tax deduction to help you lower your taxes.
What are the alternatives?
You can take control of your mortgage, without signing up for years of larger payments. You can decrease the term of your mortgage simply by making extra payments. If you can afford to add an extra $100 or more to your payment every month, you can shave months or years off your mortgage. Others will make an extra payment at the end of the year. Or, double up on payments and pay every two weeks. Even a few extra payments here and there will reduce the amount you pay in interest over time, and will shorten the overall term. This gives you the flexibility to fall back on the lower required payment when times are more lean, without having to refinance.
The Gresh Team can help you find the perfect home that fits your budget, and we can recommend high quality experts in our area, to help you make the best possible decision. If you have any questions about the selling process, give me a call at 703-328-3434 or send me an email at Janet@TheGreshGroup.com.