The Money Mustache Community
Learning, Sharing, and Teaching => Real Estate and Landlording => Topic started by: mrshudson on January 31, 2015, 03:11:57 PM
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I have always assumed that 30 year mortgage, while providing higher immediate cash flow because of lower monthly payments is overall going to cost you more in interest payments in comparison to a 15 or 10 year mortgage. But after reading Mr. Frugal Toque's post, I'm wondering if it it's fiscally smarter to take a 30 year mortgage, pay more per month, and pay off in say 10 years.
To give you some math to compare, let's say the purchase price of the property is 275,000, with 20% down. My bank's rates for today are 3.5% for 30 year and 2.725% for 15 year. Can someone show me the math to compare interests paid to the bank for the two situations, where you take a 30 year mortgage at 3.5% but make one additional payment per month, vs. taking a 15 year mortgage and paying monthly payments only at 2.725%. FWIW, my bank charges 2.225% for a 10 year mortgage according to today's rates.
Insight and calculation is much appreciated. Thanks!
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Bankrate has a lot of good calculators for mortgages, I have found them helpful when making such decisions before.
http://www.bankrate.com/calculators/index-of-mortgage-calculators.aspx
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One thing to remember, if you take out a shorter mortgage you must make the higher payments. You can take out a 30 year mortgage and make extra payments and if something happens go back to the 30 year amount, no problem. You still are head of the game as all the extra payments made have already chopped time off of your mortgage. If you take out a 15 year mortgage and are a little bit short the bank will get quite cranky.
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The lower the interest the less you will pay in finance charges... example (all assume a static payment amount for 10 years)
$200,000 for 30 years at 3.5 will cost you $37,300 in interest (assuming $1977 per month constant payment)
$200,000 for 15 years at 2.725 will cost you $28,700 in interest (assuming $1905 per month constant payment)
$200,000 for 10 years at 2.225 will cost you $23,250 in interest ($1860 per month payment)
This is because if you do the same payment $$s then your payoff date changes. So I calculated with a constant 10 year and a variable payment number.
If you make the $1977 per month payment with the 10yr 2.225 you will save an additional $1525 in interest, and pay off your loan 7 months early.
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Bankrate has a lot of good calculators for mortgages, I have found them helpful when making such decisions before.
http://www.bankrate.com/calculators/index-of-mortgage-calculators.aspx
The http://www.bankrate.com/calculators/mortgages/15-or-30-year-mortgage-calculator.aspx seems relevant....
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The lower the interest the less you will pay in finance charges... example (all assume a static payment amount for 10 years)
$200,000 for 30 years at 3.5 will cost you $37,300 in interest (assuming $1977 per month constant payment)
$200,000 for 15 years at 2.725 will cost you $28,700 in interest (assuming $1905 per month constant payment)
$200,000 for 10 years at 2.225 will cost you $23,250 in interest ($1860 per month payment)
This is because if you do the same payment $$s then your payoff date changes. So I calculated with a constant 10 year and a variable payment number.
If you make the $1977 per month payment with the 10yr 2.225 you will save an additional $1525 in interest, and pay off your loan 7 months early.
This is exactly what I was looking for. Thank you!
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The lower the interest the less you will pay in finance charges... example (all assume a static payment amount for 10 years)
$200,000 for 30 years at 3.5 will cost you $37,300 in interest (assuming $1977 per month constant payment)
$200,000 for 15 years at 2.725 will cost you $28,700 in interest (assuming $1905 per month constant payment)
$200,000 for 10 years at 2.225 will cost you $23,250 in interest ($1860 per month payment)
This is because if you do the same payment $$s then your payoff date changes. So I calculated with a constant 10 year and a variable payment number.
If you make the $1977 per month payment with the 10yr 2.225 you will save an additional $1525 in interest, and pay off your loan 7 months early.
This is exactly what I was looking for. Thank you!
Excellent analysis by GuitarBrain. Thanks! I wish there were a way to upvote such responses!
I will add an orthogonal take from an experience of a close friend. Dude took a 30 year mortgage, inspite of the fact that he could pay a 15yr mortgage. But paid like a 15yr mortgage....for a jumbo loan mind you He used to say...I may need the money for something else and hence wanted to retain the flexibility...at the cost of a few extra dollars ofcourse.
A few years later, his wife had some baby delivery complication and could no longer work and dude himself lost his job...this was the 2008 downturn.
He dialed down his payments to the 30 year schedule (among other cost reductions) and survived almost 9 months with no salary. Once he got a job, he was back on the 15 yrs schedule. So, there is some flexibility in getting a 30yr mortgage and paying it off like a 15 yr one.
Hope this helps.
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I will add an orthogonal take from an experience of a close friend. Dude took a 30 year mortgage, inspite of the fact that he could pay a 15yr mortgage. But paid like a 15yr mortgage....for a jumbo loan mind you He used to say...I may need the money for something else and hence wanted to retain the flexibility...at the cost of a few extra dollars ofcourse.
A few years later, his wife had some baby delivery complication and could no longer work and dude himself lost his job...this was the 2008 downturn.
He dialed down his payments to the 30 year schedule (among other cost reductions) and survived almost 9 months with no salary. Once he got a job, he was back on the 15 yrs schedule. So, there is some flexibility in getting a 30yr mortgage and paying it off like a 15 yr one.
Hope this helps.
While GuitarBrian's analysis is great, this is the "right" answer, in my experience. The flexibility and peace of mind are worth far more in the big game of life.
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I recently went through the exact same thought process. I considered dropping down to 10 years due to a lower interest option. The interest difference (assuming I make extra payments) came out to less than $3,000. It was going to be a tight payment every month with no room for error.
I stayed with the 30 year and just make extra payments. The flexibility was worth it to me as well.
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The option of having a lower minimum tilts the scale towards the 30 year for me, even with the added interest expense. It's the same reason I picked student loan repayment plans that resulted in the lowest monthly minimum. I view it as one side of the emergency fund coin. One side is to have some cash/credit line/whatever available. The other is to reduce your mandatory monthly expenses.