The 30-year mortgage is the most popular loan program. It could be because of its lower payment, which makes it more affordable, especially for first-time homebuyers. Before you jump on board and take out your mortgage for 30 years, though, consider the following reasons not to use take out the 30-year loan.
You’ll Pay a Lot of Interest
It’s a given, you are going to pay interest on any mortgage, but you can control how much you pay in some cases. The 30-year loan always costs more in interest than any other term. That’s because you pay the interest for 30 years. That’s the longest term available (in most cases).
If you could cut that term in half and take a 15-year term, you would pay half as much interest. Even if you cut the loan term down to 20 years, you’d still save a significant amount of money. For example, on a $200,000 loan with a 4% interest rate, you would pay the following total interest over the life of the loan:
- 15-year loan – $66,287
- 20-year loan – $90,870
- 25-year loan – $116,702
- 30-year loan – $143,739
As you can see, there’s a $77,400 difference in interest paid between the 30-year and 15-year term. Even if you couldn’t afford the 15-year payment, but wanted the 25-year term, you could save $27,000!
You’ll Pay Higher Interest Rates
In the above example, we used the same interest rate for all of the terms, just for simplicity’s sake. In reality, the 30-year loan term usually has the highest interest rate. Lenders base your interest rate on the risk level that you pose. By default, the longer that you borrow the money, the higher the risk that you pose.
It’s not unusual to see much higher interest rates on 30-year loan terms versus 15-year loan terms. Even 20 and 25-year terms have lower interest rates, though. If you are trying to minimize how much extra you pay for a loan, you may want to consider a shorter term.
You are Going to Move Soon
If you know this home is a permanent move for you, don’t make the mistake of taking out a 30-year loan. You take out a 30-year loan because you intend to live in the home that long, which makes the higher interest somewhat worth it since you may need the lower payment.
If you are going to move soon, though, you want to build equity faster so that you can turn on a profit on the purchase. You aren’t going to make much of a dent in your principal if you have a 30-year payment. If you move too soon, you could find yourself upside down on your loan when you go to sell. No one likes to be in that position. You would rather walk away with money in your hand rather than have to pay to sell your home.
You are Going to Retire Soon
If your retirement plans don’t include working so that you can pay off your mortgage, don’t take a 30-year loan. Unless you are a young adult with many years ahead of you before retirement, you may want to focus on the shorter terms that will allow you to pay your loan off faster.
If you try to retire with a mortgage payment, a large majority of your fixed income will have to cover your mortgage payment. That’s probably not how you imagined living your golden years. Instead, take the shorter term, make the larger payments now, and then enjoy the cash flow when you are able to enjoy life the most.
You Want to Build Equity Fast
There’s no slower way to build equity in a home than with a 30-year loan. You pay much less principal on a monthly basis with a 30-year loan than you do with any other loan term. This means that your equity increases at a much slower rate.
If you have PMI and are waiting for the day that you can cancel it, you take the slow boat when you take a 30-year term. If you take a 15 or 20-year term, your payment covers a lot more of the principal, which means greater equity in your home at a much faster rate.
The 30-year loan does have its place in some people’s lives, especially for those that can’t handle a larger mortgage payment right now. But if you can help it, you may want to take the chance at a shorter term. You’ll pay much less interest, get a lower interest rate, and have a much greater amount of equity in the home at a faster rate.Click to See the Latest Mortgage Rates»