Tag Archives: 30-year FRM

Savings from a 15 Year Mortgage

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MONEY CASE 5

MainStreet quoted me in Choosing a 15-year Mortgage Can Save You Thousands of Dollars. It opens,

Matt DeMargel and his wife, Misti, never considered obtaining a 30-year mortgage, because the amount of interest they would pay would equate to 60% of the cost of their house.

Instead, the public relations executive opted for a 15-year mortgage when he bought a 2,542-square foot home in Kingwood, Texas, a suburb of Houston.

“I hate debt, even the so-called ‘good kind’ of secured debt,” he said. “We are working to pay off our mortgage in five years. Even if we pull that off, we will have paid more than $30,000 in interest over that five year period.”

Dave Ramsey, a personal finance expert who is host of a radio show, said he always advocates choosing a 15-year fixed rate mortgage when buying a home.

“When you have a 15-year mortgage, it costs just a few dollars a month more,” he said. “It’s only 20% to 25% more per month than the traditional 30-year mortgage, but it saves you 15 years of your life in debt.”

The amount of money homeowners can save from paying less interest can easily help fund a large portion of their retirement, but determining whether a 15-year mortgage is right for your household can be more complicated.

Benefits of a Shorter Duration

Depending on your goals and lifestyle, a 15-year fixed rate mortgage is the quickest way to owning your home. If one of your plans is to receive a much lower interest rate, then choosing a shorter interval will meet your objective, said Brook Benton, a vice president at Atlanta-based PrivatePlus Mortgage.

“A 15-year loan is typically the lowest fixed rate you can obtain,” he said. “If you like the security of a fixed rate and the payment fits into your budget, this product is a home run.”

Paying off a mortgage quickly is a priority for some homeowners who detest shelling out more money for interest. If a consumer borrows $200,000 over 30 years at 4.17%, he or she will pay just over $150,000 of interest, said Craig Lemoine, an associate professor of financial planning at The American College of Financial Services in Bryn Mawr, Pa. A homeowner who opted for a 15-year note would pay a slightly lower interest rate of 3.29% and his total interest payment drops to around $53,600. (Even a 15-year note at the same rate of that 30-year loan would generate just under $70,000 in interest.)

“A reduction of lifetime interest paid can be quite attractive,” Lemoine said. “The lure of a shorter note is the vision of a paid-off home in 180 months. The emotional satisfaction is tantalizing.”

While you receive the benefit of a lower interest rate, a 15-year mortgage commits consumers to higher payments. If it fits within your overall budget, then paying more each month should not be a concern.

This route is also advantageous for homeowners who are refinancing their mortgage or contemplating downsizing to a less expensive or smaller home, said David Reiss, a law professor at Brooklyn Law School.

Homeowners who have lived in their house for a few years and want to refinance their mortgage should consider a 15-year note, because they have likely “paid down a significant amount of principal,” Reiss said. A combination of a lower interest rate and the possibility that the homeowner is now earning a higher salary means the monthly payments could be manageable, he said.

Reiss on Anatomy of a Mortgage

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MainStreet quoted me in The Anatomy of a Mortgage – Determining Which Fees You Need to Pay. It reads in part,

All mortgages are not created equal, so reading the fine print before you agree to a long-term commitment is crucial.

Mortgage lenders now have become “very risk averse” since the financial crisis and are doing everything “pretty much by the book,” said Greg McBride, the chief financial analyst for Bankrate.com, a New York-based personal finance content company. “The rules on the ability of a homeowner to be able to repay are stricter than ten years ago,” he said. “Niche products have gone back to niche borrowers.”

While lenders are offering fewer risky products such as interest only mortgages to run-of-the-mill consumers, there are still hidden fees and other deceptive practices to be wary of, said Jason van den Brand, CEO of Lenda, the San Francisco-based online mortgage company.

In 2013, the Consumer Finance Protection Bureau issued guidelines to protect consumers from the types of mortgages that contributed to the financial crash. In the past, lenders were approving mortgages that allowed consumers to borrow large sums of money without any documentation such as pay stubs and offered extremely low interest rates to lure people into buying homes.

 “It also doesn’t mean that the potential to get bad mortgage advice has been eliminated,” van den Brand said. “There aren’t bad mortgage products, just bad advice and decisions.”

Here are the top seven things consumers should consider carefully.

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Avoid choosing an adjustable rate mortgage or ARM when it makes more sense to select a fixed rate mortgage. Those low initial rates offered by ARMs are enticing, but they only make sense for homeowners who know that in less than ten years, they plan to upgrade to a large home, move to another neighborhood or relocate for work. Many ARMs are called a 5/1 or 7/1, which means that they are fixed at the introductory interest rate for five or seven years and then readjust every year after that, which increases your monthly mortgage payment said David Reiss, a law professor at Brooklyn Law School.

While many homeowners gravitate toward a 30-year mortgage, younger owners “should seriously consider getting an ARM if they think that they might move sooner rather than later,” he said. If you are single and buying a one-bedroom condo, it is likely you could sell that condo and buy a house in the future. “That person might not want to pay for the long-term safety of a 30-year fixed rate mortgage and instead save money with a 7/1 ARM,” Reiss said.

Mortgage Reform Schooling on 30 Year Term

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S&P has posted U.S. Mortgage Finance Reform Efforts and the Potential Credit Implications to school us on the current state of affairs in Congress. It provides a useful lesson on three major mortgage reform bills introduced in Congress this year.  They are the Housing Finance Reform and Taxpayer Protection Act of 2013 (Corker-Warner); Protecting American Taxpayers and Homeowners ACT of 2013 (PATH); and the FHA Solvency Act.

Given the current mood in D.C., S&P somewhat optimistically states that there “seems to be a bipartisan commitment to encourage private capital support for the U.S. housing market while winding down Fannie Mae and Freddie Mac, the government-sponsored enterprises (GSEs) that hold dominant positions in the mortgage market.” (1) S&P uses this report as an opportunity to “comment on the potential credit implications of these mortgage finance reform efforts on several market sectors.” (1)

In this post, I focus on, and criticize, S&P’s analysis of the appropriate role of the 30 year fixed-rate mortgage. S&P states that

The 30-year fixed-rate mortgage has contributed significantly to housing affordability in the U.S. And while some market players have looked at current rates on jumbo mortgages (those that exceed conforming-loan limits) and suggested that the private market could support mortgage interest rates below 5%, we think this view is distorted. Jumbo mortgage rates carrying the lowest interest rates, for the most part, are limited to a narrow set of borrowers who have FICO credit scores above 750 and equity of roughly 30% in their homes. We don’t believe that these same rates would be available to average prime borrowers, such as those with credit scores of 725 and 25% equity in a property. (3)

While I think that S&P is probably right about the limited usefulness of comparing current jumbo loans to a broad swath of conforming loans, I see no support in their analysis for the assertion that the “30-year fixed-rate mortgage has contributed significantly to housing affordability in the U.S.” First, a 30-year FRM typically carries a higher interest rate than an ARM of any length. Second, a typical American household only stays in a home for about seven years. Thus, a 30-year FRM provides an expensive insurance policy against increases in interest rates that most Americans do not end up needing.

While we may end up providing governmental support for the 30-year FRM because of its longstanding popularity, S&P’s mortgage reform school should be based on facts, not fancy.