Choosing a 15 vs. 30 Year Mortgage
While house-hunting and finding the perfect home can be a thrilling experience, the process of deciding on a mortgage is considerably less exciting. Actually, it can be a little intimidating over an extended period of time. While this loan will help you to finance the purchase of your home, much of the language around mortgages can be confusing to first-time buyers.
If you’re not up-to-speed on real estate industry jargon and the terms of a mortgage, don’t worry! We’re here to give you the scoop on two of the most common types of mortgages and the pros and cons of each: the 15 year mortgage vs 30 year mortgage.
A 15 year mortgage is exactly what it sounds like. This type of mortgage is paid off over the course of 15 years. Typically, a 15 year mortgage has a lower interest rate than a 30 year mortgage. For instance, today’s 30 year mortgage rate may be set at 3.85%. By contrast, today’s 15 year mortgage rate may be set at 3.02 — over .80% less than its 30 year counterpart. While that percentage seems like a small amount, when you’re talking about repaying hundreds of thousands of dollars, that percentage point can shave off several thousands of dollars of interest you have to repay over time.
What is a 30 year mortgage?
Simply put, this is a home loan that is paid off over a 30-year period. The main difference between a 15 year and 30 year mortgage is that although the mortgage repayment rate on a 30 year mortgage will be higher, your overall monthly payments will be lower because they’re spread over a longer period of time.
Pros & Cons: 15 Year Mortgage vs. 30 Year Mortgage
Deciding between a 15 year mortgage and a 30 year mortgage boils down to how much money you have for your down payment, how much money you will need to borrow, and what you can afford to pay each month. There are definite upsides and downsides to each of these types of mortgages, but there is really no one-size-fits-all solution.
Depending on your answers to these questions, you can decide which type of mortgage is best for you. Although the repayment rate on a 15 year mortgage may be lower than that of a 30 year mortgage, your monthly payments will be higher. Essentially, you’re only giving yourself 15 years to repay what you could potentially pay off in 30.
Choosing a 15 year mortgage means you’ll pay less in interest and pay off the principal of the loan faster. While this is certainly attractive, committing to the higher monthly payments that accompany a 15 year mortgage can cut into your cash flow, leaving you with less to spend on renovations and repairs. It can also cut into your savings for college, a car, or your spending money. This is sometimes referred to as being “house poor” — having a home, but not having any extra cash on hand to enjoy life in that home. It’s up to you to decide whether being able to own your own home in 15 years is worth not being able to splurge on a trip to Cancun or order takeout a few times each week.
If you have the means to comfortably make your monthly payments on a 15 year mortgage, it may be a terrific option for you. If it doesn’t seem to fit your budget, however, a 30 year mortgage may be a better option. Although your repayment rate may be higher, your overall monthly payment will be lower for the duration of the home loan.
Overpaying: A Little Goes a Long Way
What many home buyers don’t realize about 30 year mortgages is that they can pay extra towards the principal each month. This is known as “overpaying.” While “overpaying” sounds like a scary term, this is actually a good thing.
During the first few years of repaying your 30 year mortgage, the bulk of your payments will be applied to paying down the interest on that loan. A smaller chunk of your monthly payments are applied to the principal. However, if your monthly payments are low enough and you have extra money each month that you’d like to use to pay down your home loan, you can “overpay” a little extra each month to whittle the amount you owe at a faster rate.
You’re not required to overpay, but you’re not penalized by your lender, either. For instance, if your monthly mortgage rate was $800 dollars, you could “overpay” by $100 and send your mortgage company a check for $900, requesting the extra $100 be applied towards the principal. By “overpaying” by $100 each month over the course of several years, it’s possible to turn a 30 year mortgage into a 20 year mortgage, paying off your home in-full at a faster rate than originally expected. Better yet — you will still have more money in your pocket to put towards home improvement projects, save for retirement, or to handle any emergencies that pop up.
We hope that we’ve been able to demystify your mortgage options as you’re starting off on your home buying journey. Let the RE/MAX New Jersey team help you find your dream home. Take a look at some of our NJ listings. And for veteran homeowners, did we miss anything? Tell us what you think or pass along some sage advice in our comments section below.
Happy house hunting!