Comparing 15 and 30 Year Mortgages

When comparing home loans, one of the factors that may affect your decision is the amortization term. Amortization refers to the way your loan’s repayment schedule is structured. While most home loans are structured with 30-year repayment terms, there are shorter term options available for many mortgages. There are a few drawbacks to choosing a short term mortgage, but for the right borrower, they can provide substantial and worthwhile savings.

If you’re curious about the pros and cons of each option, review the points below and consult a qualified loan professional for details.

30 Year Mortgages

With 30 year mortgages, the loan principal and interest is structured to be repaid over the course of 360 months. Although most people nowadays do not live in the same home for anywhere close to 30 years, especially when it comes to their first home, the 30 year mortgage can provide a more affordable way to manage mortgage debt by stretching the repayment out over three decades. Here’s an example:

  • $200,000 home at 4% interest rate w/ 20% down = $160,000 mortgage
  • $160,000 mortgage broken down into monthly principal & interest payments over 360 months (30 years) = $764 per month (this does not include taxes or insurance)
  • Total cost of mortgage over 30 years = $274,991
  • Total cost of interest over 30 years = $114,991

The benefits of 30 year mortgages are that they’re widely available for almost every type of home loan, including conventional and government loans, and that they offer lower monthly payments, making them an affordable choice for first time buyers or anyone on a tight household budget.

The downside to 30 year mortgages is that they take a considerably long time to pay off. This means the cost of interest on the loan will inevitably be higher.

15 Year Mortgages

With a 15 year mortgage, the loan principal and interest is structured to be repaid over the course of 180 months. Since these loans have amortization periods that are half as long as 30 year mortgages, they can be paid off in half the time. They also typically carry lower interest rates than 30 year mortgages.

However, since the repayment period is shorter, the monthly loan payments on 15 year mortgages are usually much higher. Using the same example above, let’s see the differences when using a 15 year mortgage instead of a 30 year mortgage:

  • $200,000 home at 3.75 % interest rate w/ 20% down = $160,000
  • $160,000 mortgage broken down into monthly principal & interest payments over 180 months (15 years) = $1,164 per month (this does not include taxes or insurance)
  • Total cost of mortgage over 15 years = $209,440
  • Total cost of interest over 15 years = $49,440

As you can see, the monthly mortgage payment for this loan is drastically higher than the payment required for the 30 year loan. However, since the amortization period is so much shorter, the total cost of the mortgage and the total cost of interest is significantly lower.

It should also be noted that, with a 15 year mortgage, homeowners are able to build equity in their homes at a much faster rate than they would with a 30 year mortgage. Equity is the amount your home is worth minus what you owe.

Using the same example, let’s look at how this home’s equity might differ between using a 30 year and 15 year mortgage:

Equity in a 30 year mortgage

  • Home is worth $200,000 at time of purchase, and homeowner makes 20% down payment = $40,000 in equity from day 1.
  • At an annual appreciation rate of 4%*, after one year the home is worth $208,000 with the homeowner owing approximately $157,182 = $50,818 in equity after the first year.
  • This represents an increase of $10,818 in equity within the first year.

Equity in a 15 year mortgage

  • Home is worth $200,000 at time of purchase, and homeowner makes 20% down payment = $40,000 in equity from day 1.
  • At an annual appreciation rate of 4%*, after one year the home is worth $208,000 with the homeowner owing approximately $151,899 = $56,101 in equity after the first year.
  • This represents $16,101 in equity growth in the first year of homeownership.

*Home prices typically appreciate nationally between 3-5% but can vary widely from location to location.

The Bottom Line

If you are able to comfortably afford the higher payments, a 15 year mortgage is usually a better deal in the long run. If you’re worried about the higher payments, you can consider lowering your home price range to keep the payments within your budget, or simply stick to a long term mortgage like the 30 year option.

Remember, the examples in this post are used purely for educational purposes and do not represent every borrower’s scenario. Consult your loan professional for up-to-date information on interest rates, programs and advice on which loan term would work best for you.

2017-08-09T19:54:35+00:00