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40-year mortgages: lower payments, not for everybody

Lenders are quietly pushing 40-year mortgages again as a way to help borrowers cope with the higher interest rates seen in 2000.

The loans help reduce monthly payments by stretching out the time that a customer has to pay the money back. While that can help, experts caution that the unfamiliar loans aren't for everybody. They come with a catch -- a radically higher interest bill over the life of the loan.

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"The advantage is lower payments, but that's really the only attraction," says Monika Fitzgerald, a branch manager in Richmond, Va. with Mid-Atlantic Financial Group.

"Usually when the rates rise, lenders are looking for attractive products that the public will accept so that they can buy a home or refinance or whatever they're needing to do," she adds. "That's kind of when it's suggested again."

Not every lender offers 40-year loans even though they've been in existence for several years and not every lender who does writes them the same way. Some just offer a 40-year amortization option on their regular adjustable rate mortgages. A customer might get a 5/1 ARM with five years of fixed payments, but 35 years of annual rate and payment adjustments thereafter rather than the usual 25. Other mortgage brokers sell straightforward 40-year fixed rate loans. Except for the longer amortization schedule, they're essentially the same as the old reliable 30-year fixed rate mortgage available everywhere.

The benefit is lower monthly payments
In a few cases, 40-year borrowers will have to put more money down or pay a bit more in points than conventional customers, though experts say that's uncommon. No matter how the loan is structured, the benefit to the borrower remains the same: lower monthly payments.

A $150,000 5/1 ARM at 6.875 percent costs about $985 a month on a 30-year payoff schedule, for instance. But the monthly principal and interest payment drops to $919 on a 40-year schedule, according to Christine Bell, owner of the Pottstown, Pa.-based mortgage brokerage Allegiance Mortgage Services.

"The payment's less and there's no add-on to the rates or fees," Bell says. "They can make the lower payment and it's not costing them anything."

Additional purchasing power, too
If somebody doesn't need a lower payment, but does need some added purchasing power to get the right house, a 40-year loan can help, too, according to Henry Savage. The president of PMC Mortgage Corp. in Alexandria, Va. writes a weekly mortgage column for the Washington Times.

What a 40-year mortgage
would do for you

Say somebody could only afford to spend $2,000 a month for a mortgage. When rates were around 7 percent, that borrower could have afforded a 30-year loan for about $301,000. But with rates at 8 percent, the same customer can only borrow a maximum of $272,500. If the lender upped the repayment term to 40 years, however, the customer could borrow just under $288,000 for the same two grand a month.

"I can still buy that same house and keep my payment the same because I can spread out the loan for 40 years," Savage says.

Of course, there's no such thing as a free lunch. Any time a borrower adds years to a mortgage term, the overall interest bill rises. The $150,000 ARM that Bell described would cost almost $384,000 in interest over 40 years -- some $121,000 more than it would if the term was only 30 years. That's assuming the rate stayed constant after the first adjustment five years out.

"When the loan officer sits down with the consumer, he or she can give the consumer the option or the choice," says Savage. They might say, " 'If you want to buy this house on a 30-year loan, your payment is going to be this, your interest is going to be this. If you choose a 40-year loan, your payment is going to be lower, which is nice, but your interest is going to be higher.' "

Takes longer to build equity, though
It takes 40-year borrowers much longer to build up equity, too. On a $150,000, 30-year loan at 8 percent, $100 of the first $1,100 payment goes toward reducing the principal balance. Extend the loan to 40 years and only $42 of the $1,042 payment goes toward principal.

Because 40-year loans come with these advantages and disadvantages, consumers should consider what they want to get out of a mortgage before deciding whether one is right for them.

Experts say the loans can work well for first-time home buyers or other people who need all the help they can get purchasing a home. As times goes on, their salaries should increase enough that they can prepay their loans or refinance into shorter-term mortgages to lessen their interest costs. High-income borrowers might want to look at 40-year loans, too. That's because the only tax deduction available to them is often the one for mortgage interest.

On the other hand, older buyers will probably want to stay away. Most don't want to be carrying mortgage debt into their 70s because they won't have the income to support the payments after retirement.

"Everyone who is interested in keeping their payment low is going to be interested," says Shari Steiner, a real estate broker who co-authored Steiner's Complete How to Talk Mortgage Talk. But "it isn't a great idea for older people to put their home in hock for that long."

Other ways to reduce payments
Consumers can also use a variety of other methods to reduce their payments, at least in the first few years of the loan term. Their options include shorter-term ARMs and buydown loans. With the latter, a home seller or builder pays a few points to the borrower's lender to reduce, or "buy down," the rate and payment early on in the mortgage.

"There are so many products out there that will offer a lower rate than a 40 year and the result is the same payment," says Mid-Atlantic's Fitzgerald. "Three year, 5-year adjustables, 1-year adjustables, interest-only loans -- there is just a huge array of products we can offer the customer that will keep their payment down."

Nevertheless, experts say 40-year mortgages will likely become more common this year if interest rates stay high. They aren't easy to find yet, however, so borrowers who want one may have to devote some extra time to the search.

"I haven't seen that many of them and I work as a real estate broker, so I'm out there talking to lenders all the time," says Steiner. At the same time, "Some have said, 'We're getting a 40-year product coming up but we don't have it on line yet.'

"It's kind of a rate situation," she adds. "People are looking at other things they can do to keep people's payments low and this is one of the things that has been suggested."

-- Posted: March 16, 2000




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