By Stewart Pelto on August 24, 2010
.jpg.aspx?width=75&height=75) Why agree to a 40-year mortgage when you could opt for a 15- or 30-year instead? Well, how do lower monthly payments and the option to afford “more home” sound? Pretty good, I guess… but do these perks justify less equity and more interest in the long run?
To answer that question, let’s ask a few more. Moving to a high-cost housing market, like California or New England? Buying your very first home, but have no down payment? Just want to step outside of your budget and gobble up that too-expensive house? All three of these “can-I-afford-it?” scenarios call for a 40-year mortgage.
So how does it work? If you can’t afford the standard 30-year mortgage, the bank can spread its cost over ten extra years to reduce your monthly payment. This does allow you to purchase more home, but watch out: the bank will charge you more interest – to the tune of an extra .25 to .34% – and the monthly payment isn’t really reduced enough to justify the loan.
Here’s an illustrative example from the folks over at LendingTree.com: $100,000 in loans will cost you $116,000 over 30 years at 6% interest. The same loan over 40 years at a higher 6.25% interest rate will add up to $173,000 extra. Paying $216K for a $100K loan is shocking and speaks to the importance of repaying loans quickly, but, quite frankly, it’s downright reasonable when compared to $273K – about $60K more reasonable, that is!
Despite my warnings, mortgages are not evil. Not enough people have the cash on hand to buy property outright and mortgages are designed to help us spread that cost over years and years of expected earnings. We pay hefty amounts of interest to say thanks to the companies that lend us the money we need to achieve homeownership.
If you decide to take out a 40-year mortgage, just be sure it’s for the right reasons (wanting to buy a bigger house when you really can’t afford it isn’t the right reason). You can always refinance into a 15- or 30-year mortgage a bit later on down the road.
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