What length mortgage should you get?
Shopping for a mortgage is like buying a suit: One
size does not fit all. When it comes to choosing the length of a
mortgage, consumers have more choices than ever. The most popular
loans are still the 15- and 30-year fixed mortgages, but few buyers
realize that they can also shop fixed-rate loans in other five-year
increments that span 10, 20 or 25 years. Or they can adjust the
length of their mortgage by paying additional principal as they
go along. And some elect a 40-year mortgage to capture the house
of their dreams.
About 35 percent of home buyers are going for hybrid
loans, which offer a few years of a fixed rate before switching
over to an adjustable rate, says Doug Duncan, senior vice president
and chief economist with the Mortgage Bankers Association, an industry
With so many options, how do you select the right
one for you?
The three basic things to consider: What's the best
rate you can get? How much is the monthly payment? And, most important,
how does the payment and payoff date fit in with your financial
"The basic issue is one of affordability,"
says Jack Guttentag, author of "The Mortgage Encyclopedia"
and professor emeritus of finance at the Wharton School of Business.
The shorter the term, the lower the interest rate. So the shortest
term the consumer can afford is often the best overall deal, he
Ask yourself what payment you can comfortably afford
when you allow for savings, retirement and other obligations, says
Eric Tyson, author of "Mortgages for Dummies."
"The bigger issue that needs to be examined is,
how good a job is the person doing in saving money," he says.
"One of the drawbacks of a shorter-term mortgage with higher
payments is it may cause you to neglect savings into a retirement
Which mortgage length fits?
Here are some of your options:
15-year fixed-rate mortgage: You'll get a lower rate than
with a 30-year mortgage, but a stiffer monthly payment to go with
it because of the shorter term. Is it something you can handle comfortably
and still meet all your other financial obligations?
It can be a great strategy, but it's not for everyone.
It's riskier, so if you do it, you want to be prepared.
"You've got to have the emergency reserves and
the financial wherewithal that you can handle job loss or any other
curve balls that come your way," says Tyson. "It's a good
thing, but a riskier strategy."
30-year fixed-rate mortgage: The old reliable.
It offers a higher interest rate than the 15-year mortgage, but
sweetened with a lower payment. If you're really risk averse, you
may want a 30-year fixed loan, says Chris Farrell, author of "Right
on the Money!" "Then you lock in today's low rates forever."
40-year fixed-rate mortgage: You have to shop
it to see if it makes any sense for you. Is the monthly debt that
much lower to make it worth paying an extra 10 years of interest?
"Impact on the payment is very small," says Guttentag.
Guttentag's example: At a 6-percent rate, going from
10 years to 20 years on your mortgage will reduce the monthly payment
by 35.5 percent. Extend the loan to 30 years, and you slice an additional
16.3 percent. But going from a 30-year to a 40-year mortgage only
cuts the payment by 8.2 percent. At a 10-percent rate, the difference
in payments would be only 3.2 percent, and that could easily be
offset by an extra quarter-point increase in the rate, he says.
All in all, a 40-year plan is "hardly worth bothering
with," Guttentag says.