What Term to Choose
Most borrowers would wish to apply for the shortest term possible. However, you should always consider the pros and cons of a 15-year compared to a 30-year term. The differences between them are often surprisingly smaller than you would expect. Below are some advantages and disadvantages of each term.
Pros and Cons of the 30-year FRM
- Monthly payments are lower because the interest is amortized over a longer period.
- The lower monthly payments free up money that can be put into investments or other purchases.
- Lower monthly payments also provide a greater sense of security. You have a bigger safety margin should your income decrease at a future date.
- The higher interest component of your payments increases the tax-deductible amount. In certain circumstances, you could completely remove your income tax liability.
- You gain equity very slowly, because in the early years of the term your payments go mostly toward interest rather than reducing the principal.
- The total interest paid over the term is much higher because of the long amortization term.
- The interest rate is higher.
Pros and Cons of the 15-year FRM
- You gain equity more quickly because of a shorter amortization schedule.
- The total interest over the term is lower.
- The interest rate is lower.
- Monthly payments will be significantly higher.
- Because of the higher monthly payments, homebuyers are restricted to smaller houses than those affordable with longer-term loans.
Here is an example
Let us take a $150,000 loan at 7%.
You should also consider how long you plan to own the house. If this is less than 5-6 years, you may be better off with an ARM mortgage. Also, keep in mind that there are several ways to prepay your mortgage so that you can pay the loan off sooner than you originally planned.
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