What is the difference between a 15 vs 30 Year Mortgage?
A mortgage is a way to finance the purchase of a home/property. Depending on the lender and borrower, the terms can vary. One of the variations is the term of the loan: 15 year vs 30 year mortgage.
This post is about the differences between a 15 vs 30 year mortgage.
Let’s dive into the top 3 differences between a 15 vs 30 year mortgage.
1. Total Interest
The interest is based on 2 factors: the rate and principal amount. The rate is typically a variable that you can negotiate, depending on your credit score and history. The stronger your financial standing, the more leverage you have to negotiate the rate. The principal amount is the loan you’d like to take out to finance the home purchase. As you can imagine, there isn’t very much flexibility for the principal amount.
Interest accrues over the lifetime of the loan. The total interest you pay is an accumulation of the rate over the term of the loan. The higher the rate and longer the term, the more interest you end up paying. A shorter loan will mean you end up paying less in total interest over the lifetime of the loan.
2. Loan Repayment Term
As mentioned above, interest accrues over the lifetime of the loan. The longer the loan term, the more interest accrues. Therefore, a shorter loan term means less total interest accrued.
3. Monthly Payment
A lower rate and shorter term may sound great and all, but keep in mind, if the term of the loan is shortened, this means that the number of total monthly payments is decreased. Keeping that in mind, the monthly payments are higher for a shorter term vs a longer term.
How is that the case?
Well, take this as an example: the initial loan amount was $100,000. Lender A is offering a 15 year term, while Lender B is offering a 30 year term. To make things simple, we’ll keep interest completely out of the equation. Over the course of a 15 year term, the payments would be at least $100,000/15 which means $6,667 per year or $556 per month. Looking at a 30 year term, the payments would be $100,000/30 which means $3,333 per year or $278 per month.
$556 vs $278 per month – that’s a pretty big difference! And this is only looking at the monthly payments based on the term length, not including the interest rate.
Not convinced? Let’s look at an example!
Interest Rate: 3.5%
Loan Term: 15 years or 180 months
Monthly Payment: $1,715
Total Interest Paid: $44,878
Total Cost: $284,878 (loan amount + interest)
Loan Amount: $240,000
Interest Rate: 4%
Loan Term: 30 years or 360 months
Monthly Payment: $1,146
Total Interest Paid: $172,800
Total Cost: $412,800 (loan amount + interest)
As you can see with the above example, while the monthly payment is quite higher, the total interest paid on a 15 year term is significantly lower than that of a 30 year term.
With all of that said, mathematically, the 15 year mortgage is quite appealing because you pay less total interest. It also means you’ll be able to own your property much quicker than the 30 year term. Because it’s a shorter term with higher monthly payments, it is not surprising that 15 year loans will have slightly lower interest rates. Lower interests compounded with a shorter term make this option a very appealing one if your main goal is to spend the least on interest.
However, the increased monthly payments make it more challenging to commit to, as not everyone has the ability to feasibly make those increased payments. Additionally, the increased payments could be a concern for cash flow and investment opportunities. A 30 year mortgage would give more breathing room since its monthly payments will be lower. With the added breathing room, you could opt to diversify and invest elsewhere.
To reiterate, the top 3 differences between a 15 vs 30 year mortgage are:
- Total Interest
- Loan Repayment Term
- Monthly Payments
There you have it! Interested in learning more about how to prepare for purchasing a house? Check this post out for buying house fees.
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