It’s a tough time for homebuyers right now.
Typically a 15-year mortgage is the most cost-effective since the rates are lower, you pay off the mortgage sooner, and as result, pay less in overall interest. Despite paying more in interest over a longer period of time, though, what makes the 30-year loan so appealing is its lower monthly payment and the ability to keep more monthly income freed up for other costs, such as investing in retirement or unexpected home repairs.
Here’s what you need to know about these two popular mortgage options:
Also known as 30-year fixed mortgages, these loans are paid off over the course of 30 years. The “fixed” part means that the interest rate is locked in when you sign the loan — it won’t change based on market interest rates like an adjustable rate mortgage (ARM) will. That doesn’t mean you’re necessarily stuck with the initial interest rate for life, though; you can choose to refinance in the future to get a different interest rate, if it makes financial sense for you.
A 30-year mortgage is the most popular type of mortgage in the U.S., with 90% of mortgages lasting 30 years. Because 30-year mortgages have significantly lower monthly payments than 15-year mortgages, they’re often more affordable for homebuyers. Keep in mind though, that you’ll end up paying more in interest over the life of the loan.
Like 30-year mortgages, 15-year mortgages are also fixed — you’re just paying off the loan over 15 years instead of 30. These shorter-term mortgages have a higher monthly payment, but lower interest rates and a shorter loan term, which means you’re paying less over the life of the loan. You’ll also build equity in your home faster.
While 15-year mortgages are less common than 30-year mortgages — accounting for only 6% of the market — that doesn’t mean you shouldn’t consider one. If you can afford the higher monthly payments, a 15-year mortgage can help you save money in the long run and be debt-free sooner.
How Mortgage Terms Impact Your Cost
Which mortgage term you choose will impact the total cost of your loan in two ways: the total cost of the loan, and the monthly cost.
“You typically get a better interest rate by doing a 15-year term,” says Brian Grubbs, president and CEO of Raleigh Mortgage Group, a Raleigh, North Carolina–based mortgage broker. The difference between a 15- and a 30-year mortgage rate can be around 0.5%, according to recent averages.
Over the life of the loan, that half percentage point can add up to a difference of nearly $100,000.
Here’s the math: on a $250,000 loan, a 30-year mortgage at a 3.33% interest rate would come with an additional $145,648 in interest over the course of the loan. A 15-year mortgage at a 2.77% interest rate would come with an additional $55,808 in interest over the course of the loan.
Your monthly cost, however, is a different story. Even though you’re paying less overall with a 15-year mortgage, your monthly payment will be significantly higher because the loan amount is stretched out over a shorter time frame. In the example above, the monthly payment (excluding fees and taxes) for the 15-year mortgage would be $1,698 while the monthly payment for the 30-year mortgage would be $1,099.
For many people, that difference in monthly payment could make all the difference. “A lot of first-time home buyers have student loan debt that has to be taken into account,” says Grubbs. “Getting a 30-year mortgage is the difference between being able to buy a house that’s theirs versus not being to get a house at all.”
Other Differences Between a 15-Year and 30-Year Mortgage
Besides the cost, there are a few other factors to consider when choosing between a 15-year or 30-year mortgage:
Time it takes to pay off the mortgage
The biggest difference between a 30-year and a 15-year mortgage is obvious: the length of time it takes to pay off your mortgage. With a 15-year term, you’ll be making half as many payments, so those payments will be higher. With a 30-year-term, you’re spreading the amount over twice as many payments—which means you’re paying more interest over time.
Overall, a 15-year term is a better deal. “If someone has the financial capacity to take on a 15-year, it’s at least worth exploring,” says James McGrath, a licensed real estate broker at Yoreevo, a New York City real estate brokerage.
When you compare the amount of interest you’ll pay over the life of a loan, it’s clear that a 15-year-term is a better deal than a 30-year term.
Impact to equity
Earning equity in a home faster, which you’ll do in a 15-year mortgage, can help you get more back if you end up selling within a few years. If you don’t plan on selling anytime soon, having more equity also positions you to refinance your home sooner, either to get better terms or to cash out some of that equity.
“When you look at each amortization table, you see how much you pay in principal and interest each month,” Grubbs says. “It’s interesting to look at the 15-year mortgage because you cover a lot more ground more quickly.”
If you itemize your taxes, any interest you pay on a home loan of less than $750,000 can be used as a deduction, explains Alex Caswell, a wealth planner at RHS Financial. Homeowners who purchased their home on or before Dec. 16, 2017 can deduct interest on up to $1 million of their mortgage.
A 30-year mortgage naturally comes with more interest than a 15-year, potentially leading to a larger deduction. However, only 30% of Americans actually itemize deductions — the rest use a standard deduction, so this benefit doesn’t apply to the majority of taxpayers.
While a 15-year term can save you money on interest in the long term, it will also stick you with a higher monthly payment. So if you’re struggling to build an emergency fund, max out your retirement accounts, or pay down debt, a 30-year term will give you more flexibility each month to hit those savings targets.
|15-YEAR MORTGAGE||30-YEAR MORTGAGE|
|15-year payment duration||30-year payment duration|
|Lower interest rate||Higher interest rate|
|Higher monthly payment||Lower monthly payment|
|Equity built faster with higher payments||Slower equity building|
|Lower tax deductions||Higher tax deductions|
|Less cash flow to invest||More cash flow to invest|
What Mortgage Term Is Best For You?
Start with what payment fits your budget. “Most people buy according to a monthly payment,” says McGrath. A 30-year mortgage may help you afford a more expensive house, but that doesn’t mean it’s the best option.
How much do you plan to put toward a down payment? A larger down payment helps make either a 15-year or 30-year mortgage more affordable in terms of monthly mortgage payments.
How long do you plan to stay in the home? A shorter loan term helps you build equity in your home faster because the payments aren’t as front loaded with interest as a 30-year mortgage.
Do you have short-term or long-term goals or plans for your equity? For short-term financial goals that would benefit from tapping into home equity, a 15-year mortgage gets you there faster. A 30-year mortgage still builds equity, but is more suitable for long-term planning.
How does your mortgage fit in with other financial goals? Factor in your other debts and savings goals when determining the size of your mortgage. The length of your mortgage has a major impact, as does the price of your purchase.
Frequently Asked Questions: FAQ
Is it better to get a 15-year mortgage or pay extra on a 30-year?
That depends. A 15-year mortgage will be paid off faster, you’ll pay less in interest, they have lower interest rates, and you build equity faster. But they come with larger monthly payments. Sometimes, having the lower monthly commitment with a 30-year mortgage works better for people. Yes, you’ll pay more for the mortgage overall, but the lower monthly payment leaves room for other financial commitments such as unexpected home repairs, saving for emergencies, or retirement.
What is a disadvantage to having a 15-year loan vs a 30-year loan?
One main disadvantage of having a 15-year loan over a 30-year loan is the higher monthly payment. If you can reasonably afford the monthly commitment on a 15-year loan, and still have room for everything else — retirement, saving, etc. — then a 15-year loan is a clear winner. But if there is any doubt on its monthly affordability, the safer route is the 30-year mortgage. You can always choose to make extra payments towards a 30-year loan without the obligation.