Friday, August 22, 2008

Mortgage Options, Consider a 15 Year Fixed

Since I will be moving soon (in the next 3 mos. hopefully) I've started read up more on real estate. One thing that has come up lately has been the mortgage I plan on using. So far, I've simply rented a room or shared a rental with a roommate. Being single, this has worked out fine and saved me quite a bit on my monthly living expenses. However, I'm ready to finally get a place of my own. I'd like to get something modest that can be used as a rental in a year or two.

As far as mortgages go, there are a lot of different choices. Traditionally, the 30 year fixed mortgage has been the standard. This means that there is a fixed interest rate for the life of the loan and that the loan will be paid off at the end of 30 years. Another common mortgage is the 15 year fixed, same deal but half the time. There are also interest only, where you never pay off the principal, and Adjustable Rate Mortgages (ARMs), which have fluctuating interest rates. In most cases, it is best to stick with the fixed rate mortgage. With the fixed rate you know exactly how much your monthly payment will be for the entire loan period and you never have to worry about it changing. Also, ideally, the payment will become easier to make as your career advances and as inflation reduces the relative costs of your payments.

When comparing the 15 year versus the 30 year fixed there are some surprising facts. Although many people think you can simply get a 30 year fixed and pay it off in 15 years, it doesn't exactly work out the same. If you do want to do that, you should make sure that there isn't a pre-payment penalty when you sign the mortgage. But even if you pay it off in the same amount of time, you will generally pay more interest on the 30 year. This is because banks offer better rates on the shorter, 15 year, loan. has a really good article about the differences, so I'll just show some highlights here.

  • "you end up paying less than half the interest over the life of the loan"
  • "While the monthly payments are somewhat higher on a 15-year mortgage, the interest rate is typically a bit lower, which offsets part of the increase in the monthly payment."
  • "by paying less interest you'll also get less of a tax deduction... However, tax deductions for mortgages are over-rated. Sure, if you're in the 28% tax bracket you save 28 cents for every dollar you pay in interest, but you're still paying 72 cents in interest to a lender."
  • You build equity much more quickly
  • You own your own home in half the time
  • The higher the interest rates, the more dramatic the savings in a 15-year mortgage versus a 30-year mortgage

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