When the Hobfoll family moved into their current Des Moines, Iowa home, they took out a 30-year mortgage, even though they could afford a 15-year loan.
30-year loans typically have a higher mortgage rate than a 15-year loan, but lower monthly payments. Even though they could swing it, the Hobfolls struggled to justify the extra $500 to $600 a month the shorter-term mortgage would have cost them. Jordan Hobfoll recently transitioned into running his own business full time which he knew would reduce the family’s income as he’s building the business.
“The flexibility of the 30-year [loan] became more appealing,” said Hobfoll. “If worse comes to worst, you’re not committed to the higher payment.”
Losing income isn’t something that most borrowers can plan for. That’s why some experts recommend 30-year home loans for the majority of homeowners even if a 15-year mortgage can fit into your budget. You can always pay off the loan early, but a 30-year loan’s smaller monthly commitment provides the option to pursue other financial goals, such as investing for retirement, handling a financial hardship, or building an emergency fund.
Here’s Why a 30-Year Loan Could Be Better Than a 15-Year Loan
With a smaller monthly payment you’ll have greater flexibility to pursue a wider range of financial goals and you’ll be better able to weather economic uncertainty.
Two of the main benefits to shorter mortgage repayment terms, like the 15-year, is it ends up being cheaper over the long term and you can pay off the mortgage faster. However, you can still pay off a 30-year loan as quickly as you’d like. By law, there can’t be prepayment penalties after three years.
Since there’s no additional cost to paying off a 30-year loan in half the time, “it seems to be a wise course of action as a consumer to go with a 30-year mortgage and then make a conscious decision on your own to pay it off in 15 years,” says Mitria Wilson-Spotser, director of housing policy at the Consumer Federation of America, a nonprofit consumer advocacy organization.
Here are two reasons why experts say a 30-year loan could be a better option than a 15-year loan.
1. Ability to Handle Economic Uncertainty
A 15-year loan’s monthly payment is typically about 50% higher than a 30-year loan of the same amount, even factoring in the lower interest rate.
Shorter loans allow you to build equity in your home more quickly, but all that equity may not help you very much when times get tough. If you lose your job or your income is reduced, turning your home’s value into cash with a home equity loan, home equity line of credit (HELOC), or a cash-out refinance becomes more out of reach. Without proof of steady income it becomes more difficult to qualify for these equity options.
“We keep calling these major financial crises in America unprecedented events, but they keep happening,” says Kyle Seagraves, a certified mortgage advisor with the homebuyer education site and YouTube channel “Win The House You Love.” Many households’ finances were stretched thin during the last financial crash and the COVID pandemic. In those situations, Seagraves says he would much rather be committed to a 30-year loan with a lower payment than to a 15-year loan.
2. Flexibility to Pursue Other Financial Goals
While building equity in your home may be appealing, it’s worth considering what you could do with the cash you free up with longer-term financing.
The Hobfolls have taken advantage of the extra money in their monthly budget and built up their short-term emergency savings. “Part of flexibility is not just monthly budgetary flexibility; it’s how much money you have in the bank,” Hobfoll says.
Andrew Lokenauth recently purchased his first home in Tampa, Florida and opted for a 30-year loan, even though he could have managed a 15-year repayment term. Lokenauth says he did this so that he could invest the difference. For him, it was all about opportunity cost: “I’m thinking long term. In 30 years, I’d rather compound this money into a big investment to retire than to save a couple thousand dollars.”
The S&P 500 index has had an average rate of return of between 10% and 11% since 1926, which is significantly higher than the interest rate discount you’d get with a 15-year loan. Lokenauth estimates he’s saving almost $1,000 a month with a 30-year mortgage. “Instead of putting that extra $1,000 to save 1%, I’d rather put the $1,000 to gain 11%,” he says. “I wanted my money to grow long term.”
Investing the Monthly Savings From a 30-Year Loan
If you have a $250,000 home loan, here’s what your payment could look like:
| Interest Rate | Monthly Payment | Total Interest Paid on Mortgage | |
|---|---|---|---|
| 30-Year Loan | 3.5% | $1,122 | $154,309 |
| 15-Year Loan | 2.82% | $1,704 | $56,920 |
| Difference | 0.68% | $582 | $97,389 |
Even though you would pay $97,389 more in interest with a 30-year loan, you can still come out ahead by investing early. If you invested the $582 difference each month into an S&P 500 index fund and had a conservative average return of 7%, here’s what your investment would look like compared to paying off your mortgage.
| Amount Invested Each Month Through Year 15 | Investment Balance at Year 15 | Amount Invested Each Month: Years 16-30 | Investment Balance at Year 30 | |
|---|---|---|---|---|
| 30-Year Loan | $582 | $184,472 | $582 | $710,023 |
| 15-Year Loan | $0 | $0 | $1,704* | $540,104 |
| Difference | $169,919 |
In this situation, the 30-year loan borrower invested early with a lower contribution and the 15-year loan borrowers waited until after the loan was paid off to invest. Even with the higher monthly contribution of $1,704, the rate of return (ROI) is higher by starting to invest earlier, even with the lower contribution amount. Based on this scenario, the 30-year loan borrower would have $169,919 more at the end of 30 years. Accounting for the extra interest the 30-year borrower paid ($97,389), they are still up $72,530 overall.
Do What Makes the Most Sense for Your Specific Circumstances
The loan that makes the most sense for you depends on your goals and personal situation.
If your top priority is to pay off your mortgage as quickly as possible, a 15-year loan is a more cost efficient way to accomplish that goal. The above example loan had the 30-year paying $97,389 more in total interest. Taking out a 15-year loan can be a good way to incentivize yourself to stay true to the goal of paying off your mortgage the fastest. In that situation, the safest way to proceed is with a fully stocked emergency fund to weather any financial storms. You may also want to balance paying off your mortgage with funding tax-advantaged retirement accounts.
It’s also important to take an honest look at what you’ll do with the extra money if you opt for a 30-year loan’s lower monthly payment. If you’re not going to invest or save what you would have spent on a larger 15-year mortgage payment, then the potential benefit of a 30-year loan is diminished.
