Last week, Savvy Financial Latina asked why we chose a 15 year Fixed Rate Mortgage (FRM) when we purchased our first home in 2000. There are many reasons why we picked the 15-year mortgage, but the most important factor was that we could afford it. We were both making reasonable incomes and the house was more affordable back then. There were also other reasons to go with the shorter term.
- We could build equity faster;
- We would pay much less interest compare to a 30-year loan. The 15-year loan also had a lower interest rate;
- We would own the home sooner;
- We did not have much debt so it wasn’t a big problem to make the payments. We only had a small car loan at the time and no other debts;
- The interest rate was much higher in 2000. I think we got the 15-year loan with the rate of around 8%. The higher rate meant we would have paid a lot more overall if we went with the 30-year fixed rate mortgage.
Let’s crank some numbers.
The home value at the time of purchase was $210,000.
We put down 20% to avoid PMI so the loan amount was $168,000.
|15 year (circa 2000)||30 year (circa 2000)|
If we had gone with the 30-year mortgage, we would have paid $175,050 more in interest. That is more than how much we borrowed in the first place ($168,000.) The payment for the 30 year FRM was around $300 lower, but we didn’t think that was worth the extra 15 years. We were willing to sacrifice $300 in spending money to own the home 15 years faster. It was pretty easy to decide to go with the 15-year FRM because we could afford to do it. If we had more debt, it might have been a more difficult decision.
Now, a more interesting question is would I do the same thing in 2012?
Let’s add a couple of columns to our table.
|15 year (circa 2000)||30 year (circa 2000)||15 year (2012)||30 year (2012)|
The interest rate dropped tremendously since the year 2000 and we can see it makes a huge difference in both the monthly payment and the total interest.
With today’s interest rate, we would pay less interest on the 30-year FRM than our original 15-year term. That’s pretty interesting isn’t it? The low interest rate also makes it much more affordable to own a home. I think this is a great time to buy a house if you can afford the payment.
We probably would still choose the 15-year FRM if we were in the same situation today. If you can comfortably afford it, the 15 year mortgage is the way to go. On the other hand many people have one of more of these: student loans, car loan, credit card debt, alimony payment, health issues, small emergency fund, or other debts. If that’s the case for you, then it will be more prudent to go with the 30 year mortgage. It will give you more flexibility and you can make extra payments when you can.
The downside to going with 30 year FRM and making extra payments is that most people can’t stick with it. There will always be more things to spend money on and it’s difficult to send in the extra payment every month.
Current status of our first home:
We refinanced this home a few times to take advantage of subsequent lower rates. This home is a cash flow positive rental at this time and I’m not making any extra payments.
Amount owed: $80,000
Mortgage term: 10 year FRM @ 3.875%
Monthly payment: $1,000
Pay off date: 2021
It is good to refinance the rental home to take advantage of lower rates, but the pay off date reset, so it takes longer to own the home. It would be crazy to stick with the original 8% interest rate though. Have you taken a look at the latest interest rate lately? The rate is amazing and it might be time to refinance. Give Quicken Loans a call. They are fast and can get everything done very quickly. The downside is some of their sales people like to use high pressure tactics so be ready for that. That’s what I heard. The guy I dealt with was pretty reasonable and didn’t pressure me that much.
Disclosure: I receive a referral fee if you refinance with Quicken Loans through the links on this page.
For 2018, Joe plans to diversify his passive income by investing in US heartland real estate through RealtyShares. He has 3 rental units in Portland and he believes the local market is getting overpriced.
Joe highly recommends Personal Capital for DIY investors. He logs on to Personal Capital almost daily to check his cash flow and net worth. They have many useful tools that will help every investor analyze their portfolio and plan for retirement.