With all the various decisions that come with a home purchase, one of the most important is deciding between a 15-year mortgage and a 30-year mortgage. Both options have their benefits and drawbacks, so there’s no across-the-board “correct” answer. Besides, every home buying scenario is unique, so your rate will be unique to you as well. Weighing the pros and cons of both options is a great first step for finding the loan that’s best for you. For instance, let’s assume the 15-year rate for a loan is 4.0% and the 30-year rate is 4.5% and see how both affect a home-buying scenario.
Pros of a 15-Year Loan
15-year mortgages typically have lower rates — often anywhere from 0.25 to 0.5 percent lower than a 30-year mortgage rate. This means you’ll have substantial savings over the life of the loan. For example, a $200,000 loan with the above rates would have savings of almost $98,000 over the life of the loan.
Another pro of the 15-year loan is the accelerated equity build-up. After five years, the borrower would only owe $146,100 with a 15-year loan —more than $36,000 less than a 30-year loan.
Cons of 15-Year Loan
Traditionally, the monthly payments on a 15-year loan are 30-40% higher than on a 30-year loan. Using our example above, a borrower’s monthly payment would be $1,474 on a 15-year versus $1,009 on a 30-year loan. The borrower is obligated to make the higher payment regardless of any financial difficulties. If their financial situation changes and they are unable to afford the monthly mortgage payment, they will need to pay closing costs again and, most likely, a higher rate to refinance back to a 30-year loan.
Pros of a 30-Year Loan
The most obvious reason to choose a 30-year mortgage is the lower monthly payment. As in the example above, the monthly payment is $465 less with a 30-year than with a 15-year loan.
A favorable option with the 30-year loan is the ability to pay more toward the principal while retaining the lower payment obligation. There is typically no prepayment penalty and additional payments allocate extra funds toward the principal.
Cons of the 30-Year Loan
Because of the longer term of the loan, the interest rate will be higher hence borrowers pay more interest over time.
Another downfall to choosing the 30-year loan is that equity builds up slower over time. It will take the borrower longer to obtain equity in the home, even if they make additional home improvements.
Choosing Your Loan
It’s important to note that anyone contemplating a 15-year loan over a 30-year loan can voluntarily pay the 30-year on a 15-year schedule. In fact, in the example above, paying $1,474 voluntarily on the 30-year fixed mortgage will pay off the loan in 15 years and 9 months, while retaining the ability to make the $1,009 monthly payment should any unforeseen circumstances arise.
Typically, the only time a borrower should choose a 15-year loan is if they are 8 to 10 years into a 30-year fixed-rate mortgage and can refinance into a 15-year at lower rate without increasing their monthly payment. By shortening the terms, lowering the rate, and keeping payments the same, the borrower gets a win/win situation.
Rick Maines (NMLS: 457598) is the Inside Sales Manager for AAFMAA Mortgage Services LLC. He works in helping military families achieve the American dream of homeownership. Rick understands the military community, having grown up in Arlington, Virginia, with an Air Force Veteran father. After attending the University of Virginia, Rick commissioned into the United States Army and served from 1986-1989. After his military experience, he began his career in the Real Estate Industry as a Relator and Residential Real Estate Appraiser. In 2001, Rick shifted his career to focus on Residential Loan Originating. He continues to offer quality service to his clients and loves being a part of their home-ownership journey.
Rick currently lives in Fayetteville, North Carolina, with his wife, Melanie and their four children (Eric, Ross, Melanie and Riley) who are, one by one, spreading their wings and flying the coop.