There is a general assumption that a 15-year loan is smarter than a 30-year loan. The radio, television, and Facebook will all tell you how much money you will save with a 15-year loan. The funny thing is that it is the lenders and banks that are promoting the 15-year mortgage. If a 15-year mortgage really is the smarter loan and saves so much money, why are the banks trying to get you to use it? In fact, the United States is one of the only countries that has a 30-year loan. It was created with support from the government to help people afford houses. Banks would not offer a 30-year loan on their own because they do not make as much money with a 30-year loan even though it has a higher interest rate than a 15-year loan. I don’t think it is smart for most people to get a 15-year loan instead of a 30-year loan. A 30-year loan has lower payments, lower risk, and may be a better financial decision.
What are the differences between a 15- and 30-year mortgage?
The basic difference between a 15-year mortgage and a 30-year mortgage is how long it takes to pay back the loan. Mortgage payments are a mixture of interest and principal. The payment on a 15-year loan is much higher than a 30-year loan because the principal balance of the loan is being paid off 15 years sooner. A $200,000, 15-year loan with a 5% interest rate would have a $500 per month higher payment than a 30-year loan.
There is a lower interest rate on 15-year mortgages, so this is what the two payments would look like on both loans:
- Payment: $1,073.64
- Principal: $240.31
- Interest: $833.33
- Payment: $1,529.99
- Principal: $779.99
- Interest: $750
This assumes the 15-year loan has a .5% lower interest rate than the 30-year loan. You are paying more interest with the 30-year loan but also a much higher payment.
How much money do you save with a 15-year mortgage over a 30-year mortgage?
The interest rate is lower on a 15-year mortgage, and you are paying off the loan faster, which means you pay much less interest. The numbers below show the interest paid on the entire loan.
- Total interest paid: $186,511.57
- Total interest paid: $75,397.58
It seems smart to get a 15-year loan and save over $100,000 in interest, right? I like to look at all the money coming in and out, not just the money I am saving on the interest. Just like how much I pay in taxes to the government is not the most important thing to me, the most important thing is how much money I have left after paying taxes. When you get a 15-year loan, you save a ton in interest, but you also pay a ton more money into the loan. You would be paying $456.35 more every month because of the higher payment, which is $5,476.20 per year or $82,143 over 15 years.
Why I think it is unwise for most people to get a 15-year mortgage instead of a 30-year mortgage
A 15-year mortgage is like a forced saving plan. It forces you to pay a higher payment, which creates a savings account with your house. The problem I have with this plan is that a house is a terrible place to have a savings account. It is hard to get your money out of your house if you ever need it. Houses will go up in value, but they will go up or down no matter how much of the loan you have paid off. I think people are much better off saving the money and investing it.
If you invest that $456 per month into something that earns just 5% interest, you would have $134,505 at the end of 15 years. That is more money than the interest you saved by getting a 15-year mortgage. If you earned 7% interest, you would have more than $160,000. If you were me, you would invest all that extra money into real estate and make a lot more than 7% interest.
Is it safer to pay off a mortgage sooner than the loan term?
One of the biggest arguments I hear about paying off a mortgage is that is the safe and secure thing to do even if it doesn’t make the most money. I personally do not feel it is a safe thing to do. As I said before, a house is very hard to get money out of. You have to sell the house or refinance it, which can be very tough if you have no income or are retired. I talk more about paying off a mortgage here.
I think people are better off creating an emergency fund and investing their money instead of sinking it into their house.
Why do banks want you to get a 15-year mortgage instead of a 30-year mortgage?
There are advertisements all over about why a 15-year mortgage is better than a 30-year mortgage. Most of these advertisements come from banks and lenders. Why do banks want consumers to get a 15-year mortgage instead of a 30-year mortgage? There is one very obvious reason: lenders and banks make money when someone gets a new loan. Banks make their money when someone gets a new loan because they can charge origination and other fees. However, that is not the only reason that banks prefer people get a 15-year loan. Many banks do not even offer 30-year loans because they don’t want their money tied up for that long. They make money by keeping their money moving.
Inflation also plays a huge role in a 15- versus a 30-year mortgage. Yes, you pay more interest on a 30-year mortgage, and it takes longer to pay it off, but you pay much of that money in the future when money is worth less. A $1,000 per month house payment now is much more expensive than a $1,000 per month house payment in 15 years. Being able to lock in a long-term loan is a huge advantage because every year you make payments, money is worth less due to inflation. Banks do not want their money locked up for 30 years. If getting a 15-year mortgage was such a huge advantage for consumers, banks would encourage people to get a 30-year mortgage. But many banks do not even offer it.
I have never gotten a 15-year loan, even though my banks and lenders have encouraged me to do so. I have locked in low payments that allow me to keep investing my money. Every time I buy a new property, it makes me a ton of money, much more than the 5% interest rate I would be saving. I also have lower payments in case disaster strikes. It makes much more sense to me to have a longer-term loan with lower payments because of all the money I am saving now.