Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail
Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail

90,000 Reasons Why You've Got The Wrong Mortgage

Our parents, and even grandparents, never saw rates like these. A 15-year home loan now averages 2.84%, while a 30-year loan is 3.59%. And more homeowners are riding the refinance train with the shorter-term loan on board.

But there is one reason above all others for taking out a 15-year mortgage. And it's not necessarily what is foremost on your mind when you refinance.

Most people think a 15-year mortgage means double the payment of a 30-year. Not so, said Victor Benoun, president of The Mortgage Source Inc. If a homeowner is borrowing $250,000 at 3.5% interest on a 30-year loan, his monthly payment would be $1,140. A 15-year loan of the same amount at a 3% interest rate would cost $1,726, a difference of about $600 per month.

The numbers are stunning. Those who pay off their mortgage earlier can save tens of thousands of dollars in interest. A 15-year loan racks up $60,761 in interest vs. $154,140 for a 30-year.

But the real reason for taking out a shorter-term loan is not about saving money. The most compelling reason to spring for a 15-year mortgage? It builds equity faster.

The idea is appealing for baby boomers who want their house paid off as they enter retirement. Younger homeowners like the idea of paying off their home sooner and using the equity to upgrade as their family grows. Meanwhile, others who plan to stay in their home for only five years can benefit from quickly building up equity before selling.

Paying off a mortgage earlier also frees up cash that can be invested or used for other living expenses.

Financial attorney Leslie Tayne agrees that it's nice to eliminate a mortgage payment, but the ideal borrower should have nine to 12 months of savings, is still able to save every month and pay bills and carries little debt.

Mortgage Swapping

Refinancing is the most common way to take advantage of low 15-year loan rates. In the first quarter of 2012, 31% of borrowers paid off their 30-year fixed-rate mortgage and refinanced with a 20-, 15- or shorter-term loan, according to Freddie Mac.

Benoun, who has been in the mortgage business for more than 30 years, said about 15% of his clients choose the 15-year mortgage route. A smaller percentage prefers an even shorter term -- the 10-year loan.

"It's a great time to refinance, but don't assume there's only one program out there," he said.

Not For Everyone

After consulting with a mortgage expert, real estate attorney or tax professional, some borrowers determine that shorter-term mortgages aren't for them. Job security, retirement and missing out on tax breaks from mortgage interest are among their concerns.

"I find that people don't have savings anymore and they aren't putting enough into retirement," says Tayne, a debt management/resolution expert. "They need the cash to fall back on in case they lose their job or suffer an illness. Paying off the mortgage faster is great," but it can be a detriment if these other factors aren't in place.

It's all about the ROI -- return on investment -- and what you can afford.

[If you're ready to buy a home, use our Mortgage Calculator to see what your monthly principal and interest payment will be.]

One way to shave 10 years off a 30-year mortgage is to annually make a 13th payment. Write "for principal only" on the check and the lender will apply the funds to the principal and not the interest.

Tayne said December is a good month for the 13th payment because many people receive bonuses then. But it can be paid at any time of the year as long as it's consistent. 

"By making small monthly mortgage payments broken up over a longer period of time, homeowners can protect themselves from the risk of being stuck with a higher payment should their household income decrease for any reason," she said.

No one knows when these killer interest rates will retreat to higher ground. Savvy borrowers will take advantage of the financing options while they are available.

The Investing Answer: Talk to tax professionals and an attorney to make sure a 15-year mortgage is a good fit with your finances. Fair warning: If you compensate for higher monthly mortgage payments by paying for expenses with high-interest credit cards, you've defeated the purpose of a shorter-term loan.