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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 trade group.

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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 plans?

"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 says.

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 account."

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.


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-- Posted: Dec. 16, 2004

40-year mortgages: lower payments, slower equity



'Alternative mortgages' gain a foothold


National Mortgage Rates
Rates may include points.
30 yr fixed mtg 4.01%
15 yr fixed mtg 3.12%
5/1 jumbo ARM 3.52%

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