By Sara Huebener
The Sunday Star Tribune featured an article debating the pros and cons of the 15-year mortgage. With "deliciously low" rates on a 15 year mortgage, the article discussed whether or not refinancing into a 15-year loan is the "thing to do" right now, or if the same or similar benefits can be achieved by staying in a 30 year mortgage, which, too, has attrractive rates. (Rates are hovering around 4.25 for a 30 year fixed and 3.75 for a 15 year fixed.)
Obviously, the pros to a 15 year refinance include rapid principal reduction, faster loan payoff (and hence, access to disposable income,) and a significant reduction in interest, resulting in substantial savings of out-of-pocket dollars. The cons include locking into a higher payment, meaning less financial flexibility, particulary if expenses down the road exceed projections, and tying up more money into your house, in a non-liquid form. Years ago this was a non-issue. Today, tapping this equity is not as easy.
The article was relevant - It's been a very hot topic of discussion among many. Here are a few discussion points not mentioned that I want to highlight. Running some simple numbers lends absolute clarity. I will use a principal balance of $350,000 as an example. (Please excuse my attempts at creating neat columns in our blog software.)
| PRINCIPAL | $350,000 | ||
| Rate | Payment | Ttl Int Pd on Loan | |
| 30-Year | 4.25% | $1,721 | $269,844 |
| 15-Year | 3.75% | $2,545 | $108,150 |
| Difference | $ (824.00) | $ 161,694.00 | |
| Rate | Total of Pymts | Ttl Int Pd on Loan | |
| As % of Pymts | |||
| 30-Year | 4.25% | $619,844 | 77.10% |
| 15-Year | 3.75% | $458,150 | 30.90% |
| Difference | $ 161,694.00 | 46% |
Using the simple chart above, the reduction in the number of payments in a 15 year loan results in an increase of the mortgage payment by $824. While this figure seems steep, the savings on the loan of $161,694 over the course of 15 years is substantial. This is a savings of just under $11,000 a year, or $898 per month (ultimately more is being saved than is being paid in the additional mortgage payment of $824.) Also, the total interest paid as a percentage of total payments on the loan is noteworthy, with an almost 50% difference.
The Star Tribune highlighted some solid pros and cons that made sense, but I took its slant to be more against the refi than in favor of it. Ultimately the decision to refinance into a 15-year loan boils down to personal situations, and if personal situations cannot warrant a 15-year refi, then perhaps sticking with the 30-year fixed (getting the rate into the 4's if possible) and paying down additional principal, is always an option that will yield solid benefits without the higher payment requirement.
Finally, those who are quite certain they are not going to be moving in the next decade or so, AND who are able to finance a 15-year loan, might consider the savings on the interest payments over the life of the loan as a reduction in any loss currently estimated to be incurred on the property (without taking any future appreciation into effect.) Therefore, if one has $550K into his home and it is now worth $430K, that "loss" of $120K (without taking future appreciation into effect) can be bridged with the savings in the interest over the life of the loan (when sold in the future,) assuming no future declines take place.
A very simple-to-use loan amortization calculator can be found here.
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