Choosing the Term of Your Mortgage

When looking for a mortgage, there are a lot of factors to consider. You’ll be deciding what type of loan to go with, how many points you want to pay, and what kind of down payment you want.

In addition, you’ll also probably be shopping for the best rate you can get. With all this to think about, you may be tempted to ignore the term of your mortgage. However, mortgage term can be an important part of your decision.

The loan’s term is, in a technical sense, the amount of time used to calculate the loan’s monthly payments. However, for most loans it also denotes the amount of time it will take the loan to amortize, or pay off fully. This can change with loan’s like balloon mortgages, or if extra payments are made to reduce the loan balance earlier than expected.

Longer terms on loans reduce the monthly payments, but also slow the borrower’s ability to build equity. Loans are generally available in terms of 30-years, 20-years, and 15-years, but 40-year and 10-year terms are also available. While longer terms decrease monthly payments, the amount of the decrease drops as terms get higher.

This is the reason 40-year mortgages aren’t particularly popular. For example, if a loan for $100,000 at a rate of six percent is extended from a ten year to a twenty year term, monthly payments drop by $364. However, the same loan, extended from thirty years to forty years, only produces a savings of $50.

When a shorter term is selected, payments are higher but the loan amortizes faster. This helps borrower’s build equity in their homes much sooner than those with longer term mortgages. Offsetting the higher monthly payments, a short term mortgage is usually available at a slightly lower rate than a longer term mortgage for the same amount. Short term mortgages also save borrowers’ money by requiring less overall interest over the loan’s life.

In short, a mortgage with a long term saves you money on the monthly payments. Short term mortgages, on the other hand, build equity more quickly and allow you to save money over the long run.