When acquiring a mortgage (whether for a new home or refinancing an existing one), strongly consider the available options. That is, don’t assume a 30-year mortgage is the “way to go.”
In viewing mortgage rates available (at time of writing) we have the following “fixed rate” options to consider at my bank:
- 15-year at 3.5%
- 30-year at 4.375%
Let’s assume the home we wish to acquire (or the remaining balance of the one we wish to refinance) is $200,000.
The 30-year mortgage would require a monthly payment of $998.57 and the 15-year would require a monthly payment of $1,429.77.
Some may say: “Ouch, the 15-year option “costs” too much. I can’t afford that.” Perhaps the monthly payment is too high for the budget, but the “costs” are actually LOWER for the 15-year mortgage. Consider this:
If we add up the total monthly payments for each of the above options, we will save a SIGNIFICANT amount on the 15-year mortgage.
- 30-year mortgage) total of all monthly payments = $359,485.20. This option “costs” $159,485.20 more than the price of the home!
- 15-year mortgage) total of all monthly payments = $257,358.60. This option “costs” only $57,358.60 more than the price of the home and, more importantly, it costs $102,000 less to acquire the home than with the 30-year option above.
Note: To simplify matters, I’ve excluded the points paid at closing (which are often lower for 15-year mortgages), as well as tax and insurance.
The key point: we can save hundreds of thousands of dollars by selecting a shorter mortgage period. And, we can save further by accelerating payments. That is, if we are in a mortgage for which there is no benefit to refinance we can dramatically shorten the loan period (and reduce finance charges / costs) by increasing our monthly payment. Building on the prior post on eradicating debt, once the home mortgage is at the top of the prioritized “kill list” we can take the available cash that was previously being applied towards other debt and apply it directly to our home mortgage.
Consider this new found knowledge when refinancing. That is, don’t be coaxed into refinancing a loan that may have 15-20 years on it, into a lower interest rate AND extending the mortgage out another 30 years. While the monthly payments will be (far) less, the “costs” of acquiring the home will go up. An exception, of course, would be if this is part of your debt eradication plan and you have committed (to yourself) the difference between your old and new monthly (mortgage) payment towards higher interest debt.
Hope you found this simple math equation helpful towards shortening the distance to your financial freedom.
For more in-depth guidance on becoming financially fit, consider this recommended reading (if you haven’t already done so).