October 13, 2020
By Rahul Iyer
Mortgage rates are at all-time lows. Homebuyers and homeowners are seeing interest rates they’ve never seen in their lifetime with 15-year rates as low as 2.6% and 30-year rates at 3%. Whether you’re buying your first home or refinancing an existing home, it’s easy to want to jump on board right now. Most people opt for the 30-year loan because of its affordability but with today’s low rates, many are choosing the 15-year loan to snag that below 3% interest rate.
Don’t. Here’s why.
The low interest rate on 15-year loans is great, but the principal payments are much higher. You cut the term in half, which means paying a lot more principal each month in order to pay the loan off in full on time.
The higher payment could be a huge financial burden that you aren’t ready to handle. While it may be fine right now, what happens if you lose your job or have a financial crisis and can’t afford the higher payment any longer?
It sounds counterintuitive to take a longer-term mortgage with a higher interest rate, but there are reasons
You can more comfortably afford the 30-year payment. With 15 extra years to pay the principal, you have much lower and often, more affordable payments.
The interest rates aren’t that much higher. While it sounds better to have a 2.65% interest rate versus 3%, the difference isn’t mind-blowing, but the stress of the higher payment can be.
A 30-year loan is easier to get. You don’t have to worry as much about your debt ratio or income. 30-year loans have more relaxed guidelines and are easier for most people.
Here’s where the method to the madness starts. You take out a 30-year loan. You are obligated to make 30-year payments, but you may also make 15-year payments.
This is why it makes sense to take the 30-year term. You get the best of both worlds. If you can’t afford the 15-year payment, you are only obligated to make the 30-year payment. If you do, you won’t get hit for a late payment and damage your credit.
If you have a great month, few months, or year, you can make 15-year payments for as long as you want. If you can afford it for the entire term, then you pay the loan off 15 years early. But if you can’t afford it, you aren’t in hot water trying to figure out how to make your required mortgage payment to avoid foreclosure.
Think about your term carefully. Don’t jump at the 15-year term because of the low rates – all rates are low right now. If you’re unsure about your income, financial security moving forward, or just want the reassurance of a smaller payment, choose the 30-year term and know that you have the option to make the 15-year payment whenever you want.