Table of Contents
When you decide to begin your home search, choosing between a 15- or 30-year mortgage term is one of the most crucial decisions you will make. Along with factors like the size and location of the home, the monthly and total amounts you repay will have serious implications on the way you live your life.
There’s a variety of pros and cons to both mortgage term options. To help you decide, personally consider questions like:
- How much can I afford to pay for my mortgage each month and still have enough money left over to meet other financial goals?
- How long do I plan to stay in the home?
- How does the pay-off date fit in with my financial goals and dreams?
If you’re asking yourself, “Should I do a 15- or 30-year mortgage?”, this article will help you compare costs, as well as explore the advantages and disadvantages of each option so you can walk away confident in your decision.
Pros and Cons of a 30-Year Mortgage
A 30-year mortgage is considered the standard for most first time homebuyers.
They have lower monthly payments, which helps minimize the financial barrier to entry and helps borrowers purchase more expensive houses. However, the longer mortgage term results in higher total interest costs over the life of the mortgage, and it takes longer to build significant equity in the home.
|-Lower monthly payments, as mortgage repayment is spread out over a longer term
-Easier to qualify for due to the lower monthly payments
-Allows you to purchase a larger home, as you can borrow more
-Lower expenses can help you save more, leading to more financial flexibility
|-Increased mortgage annual percentage rates (APRs), ranging from 0.25-1% higher
-Vastly increased total interest cost due to higher interest rates and longer mortgage term
-Slower equity buildup, as initial payments are directed more towards interest than the principal
-Longer commitment to debt
A 30-year mortgage is likely right for you if you’re looking to buy your first house, or if you’re looking for lower monthly expenses. You’ll have more day-to-day financial freedom at the cost of a higher interest rate and a larger overall investment when all is said and done.
Pros and Cons of a 15-Year Mortgage
A 15-year mortgage is typical for a homebuyer in better financial standing. They offer lower interest rates and a faster timeline to repayment, but they also decrease the amount of money you’re eligible to borrow and require significantly higher monthly payments.
|-Lower total interest costs due to lower interest rates and shorter mortgage term
-Faster equity buildup, as a higher percentage of initial payments are going towards the principal
-Shorter commitment to debt
-Favorable Loan-to-Value ratio, which is advantageous for refinancing or selling the home
|-Higher monthly payments, as the the mortgage term is shorter
-Less financial freedom due to greater housing expenses
-Requires better financial standing to qualify for
-Limits the maximum price of a home you will be eligible for
A 15-year mortgage won’t be the right choice for every homebuyer, but if you have high enough required income, you should definitely consider one. You’ll have to commit more to your monthly payments, but you’ll save hundreds of thousands in interest due to the mortgage term being cut in half.
» MORE: See today’s refinance rates
15- Vs. 30-Year Mortgage Example
Now that we’ve covered the pros and cons of both 15- and 30-year mortgages, let’s explore a practical example of how each might play out in the real world.
Imagine that you intend to purchase a $400,000 home. After a 20% down payment of $80,000, the principal balance of the mortgage will land at $320,000. Let’s say you’re deciding between a 30-year mortgage with a 7.1% interest rate and a 15-year mortgage with a 6.75% interest rate.
To calculate the total cost of each mortgage term, we will first need to find the monthly payment amount using the following equation:
Monthly Payment = P[r(1 + r)^n] / [(1 + r)^n – 1]
P = Principal mortgage amount
r = Monthly interest rate (APR / 12)
n = Number of payments (mortgage term in months)
Once you have found the monthly payment amount, you can find the total cost by multiplying the monthly payment amount by the number of payments.
With that math completed, our results are as follows:
320,000[0.5917(1 + 0.5917)^360] / [(1 + 0.5917)^360 – 1]
Monthly Payment Amount – $2,134.91
Total Cost – $768,367.60
320,000[0.5625(1 + 0.5625)^180] / [(1 + 0.5625)^180 – 1]
Monthly Payment Amount – $2,936.89
Total Cost – $528,040.20
As you can see, the 30-year mortgage has a lower monthly payment but results in a significantly higher total cost over the life of the mortgage due to the longer repayment duration and higher interest rate. The 15-year mortgage has a higher monthly payment but significantly lower total interest costs and a shorter mortgage term, allowing you to own the home outright in half the time.
15- Vs. 30-Year Mortgage Amortization Schedule
When consulting with a mortgage lender on your mortgage term options, they may mention the mortgage’s “amortization schedule.” While this phrase may initially seem complex, it’s simply a calculation or breakdown of the periodic payments on a mortgage, detailing how each payment is allocated between interest and principal over the mortgage’s duration.
Mortgages have a repayment structure that changes over their lifetime. This isn’t to say that your monthly payment amounts will change; rather, your payments are divided between principal and interest amounts. In the beginning, you will be paying a higher amount towards interest. The amounts gradually shift, and near the end of the mortgage term, you will be mostly paying down the principal debt.
15- and 30-year mortgages have different amortization schedules, due to their differences in factors like interest rates, monthly payment amounts and more. Your mortgage lender can provide you with a detailed breakdown of potential amortization schedules for each mortgage term.
The Best of Both Worlds: When to Refinance
For many homebuyers, a 30-year mortgage is the best place to start. But, life changes and financial situations improve. There may come a point when you’re ready to refinance to a 15-year mortgage, making you privy to lower interest rates and a faster payment schedule.
To be eligible to refinance, homeowners need to reach their lender’s equity requirement, typically around 20% or more. They’ll also need to have a stable job and sufficient income to cover the higher monthly payments.
Before you commit to a refinance, it’s essential to carefully consider the timing and circumstances. Make sure you have built an emergency fund for unexpected expenses such as medical emergencies and home maintenance. Additionally, you should assess your other financial goals, such as saving for retirement or education, and ensure that refinancing won’t hinder your ability to meet those goals.
Choosing between a 15- or 30-year mortgage is a big decision, but with proper financial planning, your choice can set you up for a lifetime of security and comfort.