Purchasing a house is one of the biggest decision you will make. Part of that decision is deciding whether you want to get a 15 or a 30 year mortgage. Both options have their pros and cons and it’s important to consider all of the aspects of your current financial situation and the individual deal you got on your house.
Financial Stress
A main concern I bring up is financial stress. A 15 year mortgage option is going to come with a much higher payment that is going to strain your finances more. It may also mean you won’t qualify for as much of a mortgage, or be able to get other financing if you need it. I always tell people to think about the future. You never know when you will have an emergency and need the extra money. Plus you can take the savings you build up by having a smaller mortgage payment and invest the difference or build up an emergency fund.
Payment Difference
A big difference to think about is the payment difference. When a 15 year mortgage is originated, the payment is going to be significantly higher than that of a 30 year mortgage. Lets consider a $250,000 mortgage loan at 6.5%. Over 30 years that payment will be $1,580/month. You will also pay $318,861 in interest over the life of the loan. On the other hand for the 15 year option your payment would be $2,178/month and you would pay $141,998 in total interest. On the surface it seems that the 15 year mortgage is the better option, because you will spend $176,863 less in interest. But its important to also consider the investment side.
Potential Investment outcome
Rather than spend the extra $598/month on your mortgage you could invest that difference in an investment account like a Roth IRA. Now on the surface that may not seem like a large contribution. But once you see the numbers, you will be shocked. Using an annualized rate of return of 10%, a starting balance of $0, and a monthly contribution of $598 the estimated value of your retirement account is $1,351,771! That is a lot of money!
Now lets say that you went the 15 year route. It’s 15 years later and you have an extra $2,178 disposable income that you can now invest. Using the same annualized rate of 10% over 15 years your investment account is estimated to be worth $902,716. That is still a great retirement, but is $449,055 lower than if you chose the 30 year mortgage. Now yes that means you paid more interest over the 30 year mortgage, but you would have almost an extra half a million dollars in your retirment!
SO what is the better option?
This will really come down to your personal finances and your risk appetite. Not everyone wants to be invested in the stock market. And there is nothing wrong with choosing the 15 year option. But it is important to know the pros and cons of each route. The main pro to the 15 year mortgage is that you will pay off your house in 15 years and pay a significant amount less in interest over the life of your loan. The con is that you are tying up a lot of money and putting more stress on your finances for a long time. On the other hand with the 30 year mortgage option you will have a much lower payment, and the potential to have a pretty healthy retirement account!
