The U.S. home-financing market has been dominated by the 30-year fixed-rate mortgage loan for decades.
Below is an example of what loan payments might look like for a 40-year fixed-rate mortgage loan, compared with typical 30-year and 15-year loans. Potential advantages of a 40-year loan The obvious potential advantage of a 40-year loan is a lower monthly payment. Before we make loan-term comparisons, here’s a chart from the Federal Reserve Bank of St. Louis, showing the movement of median U.S. home-sale prices since 1970:
Interest rates and amortizing loan payments Since the current mortgage financing market in the U.S. is dominated by 30-year and 15-year fixed-rate mortgage loans, we will compare both of these with a hypothetical 40-year loan. Adjustable-rate mortgage loans are also available. However, these have varying initial fixed periods.It is also worth considering that despite the recent upward surge in interest rates, residential loan rates are still at historically low levels.
For the 40-year loan, we’re using the same interest rate as a 30-year loan. One reason for this is that no average is available for a 40-year home-purchase or refinance market that doesn’t really exist yet.An amortizing loan payment is one that repays a loan’s principal balance over the term of the loan. So initial loan payments are heavily weighted to interest, and payments toward the end of the loan are heavily weighted to principal.
Advantages and disadvantages The 40-year loan has the lowest monthly payment of $1,504. But it represents “savings” of only $183 a month from the 30-year loan. When considering the total price of the home in this example, adding another 10 years to the life of the loan seems a steep price to lower the payment by less than $200 a month.
A counter-argument to the 15-year loan might include opportunities lost. The 30-year loan has an interest rate of 4.67%, and one could expect over the long term to benefit from a much higher rate of return from a broad investment in the stock market. But that raises the question of whether the $700 in monthly cash freed up by the 30-year loan will be invested. It might be tempting to spend that money on a more expensive vehicle than you would otherwise buy.
No