Mortgage Terms and Calculations

A common question for many homeowners has to do with what term or length of mortgage they should take.  Of course we all hear the buzz words on how much money you save on a 15 year mortgage, but the fact remains that most homeowners are not in a financial position to take on the 15 year payment.  Others can but choose not to due to the haze surrounding what is best to do.  For simple math, lets do a few comparisons to illustrate:

Lets say you take out a mortgage for $200,000.00 and compare a 15 and a 30 year payment.  Assuming the interest rate is the same for both what type of difference would you see?

Mortgage Terms
 
The 15 year payment is 1.6 times larger than the 30 year payment, but the 15 year loan charges less than half the interest (46%) due to the time difference on the two mortgages for a total savings of $65,995.00.  In most cases however the interest rate is lower on the 15 year mortgage, so the payment difference is usually lower and the interest savings even higher.

Mortgage Calculations
To run a comparison on your own situation, please use our 15 year vs. 30 year mortgage
 
It would seem clear that the 15 year mortgage is the way to go if the payment is affordable.   The follow up question then becomes, well should I do a 20 year mortgage, or a 25 year mortgage, 10 year and so forth.  Some lenders even offer terms you dictated yourself.

My suggestion is to keep things fairly simple.  While there is usually a bit of a difference between the 15 and 30 year interest rates, there is typically not much of a difference between the 30 year and the 20 and 25 year rates.  As a result, the only thing those mortgages offer is forced self discipline.  Many borrowers want to pay off their mortgage early, but fear they won’t follow through.  That is used to justify a shorter term mortgage even when the interest rate is not reduced. However today’s mortgages do not have prepayment penalties, so you can pay a 30 year mortgage off at the 20 or 25 year pace whenever you choose.

The next question has to do tax deductibility.  The question I am often asked is “is the refinance worth it- I may lose some of my tax deductions with the reduced rates”.  To illustrate, I once had a client who had a 157,000.00 mortgage sitting at 13.5%.  The current rates were 6.5% and I visited him to give him the exceptional news.  He would save a bundle.  To my surprise he said he didn’t want to refinance.  He said he would lose too much of his tax deductibility with the reduced rate.  In an attempt to illustrate a point, I said “Well then, I have a deal for you.  We have a new mortgage out at 21% interest.  Your tax deductions will go through the roof” He screamed that I was just trying to rip him off when it suddenly hit him.  Of course the tax deductions could never offset the interest savings.  You see, for every dollar you pay in interest you save anywhere from 0-35% of that dollar in taxes.  Assuming you pay the highest tax rate, you pay a dollar, save 35 cents for a loss of 65 cents.   The client moved forward with the mortgage and thanked me for helping him see the light.  Simply put, unless you have a very complex tax situation we recommend pushing the tax deductibility out from your mortgage term consideration.

To summarize, use the mortgage that fits your budget, but don’t get too carried away with the term.  Simply look for the best interest rate for the term that best matches your monthly budget.

Want to have some fun? Visit our calculator page at http://trillionmortgage.com/calculators/.  You can play with amortization, loan to value, term comparisons and more.

By: +Mark Schow

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