There is much debate on whether to buy a house with a 15 year or a 30 year mortgage. Advisers including Dave Ramsey say there is no debate and that you should take out a 15 year mortgage. Others like Graham Stephan say that a 30 year is better. In this post I will state my own opinions of which mortgage is better.
15 Year Loan
The basic argument for having a 15 year loan is that the loans will last shorter and will accumulate less interest than a 30 year loan. Assuming the average interest rate of 4.50% and the average mortgage of $220,759 a thirty year loan will cost almost double the initial mortgage with $402,679 and a monthly payment of $1,119. If the same mortgage is set as a 15 year loan with the same interest you will pay much less. The total cost will be $303,982 and the monthly payment of $1,689. This is much less than a 30 year loan. Up front this sounds like a much better deal.
This goes a step further though as 15 year loans will have a smaller interest rate. Usually this will be half a percent less. With that being the case an average 15 year loan would in fact require $293,927 and a monthly payment of $1,633.
Usually by taking a 15 year loan, the potential house value will be smaller than you can get with a 30 year loan since the monthly payment will be higher. Keep in mind the amount you pay in housing should be less than 30% of your income. This includes the repair costs.
30 Year Mortgage
The potential value of the house will be higher in a 30 year mortgage instead of 15 year mortgage. Therefore, you will have a broader choice in houses you can choose.
The interest will pile up higher and you will pay more for your house than a 15 year loan. Furthermore, the interest rate will be higher.
There Is Much More To Consider
As mentioned there appears to be little debate on taking a 15 year or 30 year mortgage while looking at the surface. However, there are many other factors that could affect which loan would be better. For starters, the interest rate may be offset by inflation. 30 year fixed rate mortgages can be good to combat inflation. When a fixed mortgage rate is agreed upon, the interest rate cannot be changed even if inflation is significantly higher. However, this could work against you if inflation rates are low like right now.
Furthermore, the mortgage interest is tax deductible in the current tax code. However, only around half of homeowners receive this tax deduction and even so the benefits are minimal. The tax deductions are not supposed to be a deciding factor in buying a house, but just a helpful tool. These are some things brought up by Graham Stephan and some others who support the 30 year. I can see some of their points, but these reasons seem to hardly benefit the homeowner.
Your Own Financial Needs
There are major benefits with getting a 15 year mortgage. If you plan on being a homeowner I highly recommend going with the 15 year loan. You will pay less over time and the benefits of inflation and tax deductions are shaky at best.
However, there are situations where I would recommend going with a 30 year loan. The first is if you want to go into real estate, especially if you are just starting out. While it would be better to pay less over time, there are still risks in finding clients and tenants. If something wrong happens then you should probably not try to take on more per month and risk missing payments.
The second is if the house you find is a must have for your NEEDS not wants. I will explain.
What I Need In A House
- Affordable and can avoid PMI
2. Does not have too high of property taxes
3. Nicely built and will not require too many repairs
4. Large enough house with space for my future children
5. Where my future kids will go to a nice school
6. A place where traffic is not terrible
7. Close enough to work
8. Has a very nice kitchen (love to cook)
9. Has enough of a lawn to play in and farm/garden
10. Does not have zoning laws that will prevent me from growing some crops much less keep me from starting a business
Why do I mention this? Because when the wife and I are thinking of buying a house, taking on a 15 year or 30 year mortgage is not even in the top ten of my concerns. And it is not as if we are not thinking financially. We want to be sure to put at least 20% down to avoid PMI. Furthermore, we want to make sure that on top of the mortgage. We do not have to pay too much in repairs. Hopefully we will pull off a 15 year loan, but the only thing I want on my list that is not a common house buying regret nor directly linked to financial decisions is 8). Sue me, I like to cook. Besides making good food at home keeps the going out to eat budget happy.
The idea is that you do not want to settle on a house you know you will not be happy with just because you want the 15 year mortgage. 15 or 30 year mortgage, it is a long-term commitment and you should avoid regrets. If the reasons for buying that house involve your immediate family and financial plans and you cannot afford it without the 30 year mortgage for now then the 30 year should be worth it. However, do not go for the 30 year mortgage simply because it is easier on your monthly budget.
Although deciding between a 15 year and 30 year mortgage is important. It is far from the most important financial decision you will make. For example, you could easily be tacked with hundreds or thousands each year, even after finally paying off 20% of your house if you put down less than 20% of a down payment thanks to the PMI. Repairs can and will cost even more. So let’s say you get a 30 year mortgage for your own home. At least put down over 20% and make sure there will not be massive repairs.
And the good thing about mortgages is you can always pay off more than the minimum monthly payment. In fact, your lender will be very happy about that. Even if you have to start with a 30 year loan, you can pay off more than the minimum each month and pay it off in less time.
Choosing whether to take a 15 or 30 year loan is an important financial decision. However, it is not going to be the prime factor in your path to forge your wealth.