15-Year Mortgage: An Overview
A 15-year mortgage is a loan for buying a home whereby the interest rate and monthly payment are fixed throughout the life of the loan. Some borrowers opt for the 15-year versus the more conventional 30-year mortgage since it can save them a significant amount of money in the long term.
There are several types of mortgage products available on the market today. The 15-year mortgage has some advantages and disadvantages when compared to the 30-year. However, both products share similarities, such as the interest rate can be impacted by the borrower's credit history and credit score.
A credit score is a numerical representation of how likely a borrower will pay back money owed. Timely payments, length of credit history, and how many open credit accounts are all factors that impact a credit score. Of course, both a 15-year and 30-year loan also require ample monthly income to cover the potential mortgage payment and other debts.
- A 15-year mortgage, like a 30-year mortgage, is a home loan where the interest rate and monthly payment do not change over the life of the mortgage.
- Deciding between a fixed 15-year or 30-year mortgage depends on your financial situation and goals.
- A 15-year mortgage can save a home buyer significant money over the length of the loan because the interest paid is less than a 30-year mortgage.
- If you are halfway done on a 30-year mortgage, refinancing into a 15-year mortgage may lower your interest payments while still paying off the loan in the expected amount of time.
- Because payments are significantly higher on a 15-year loan, buyers risk defaulting on the loan if they cannot keep up with the payments.
Advantages of a 15-Year Mortgage
Below are the advantages of a 15-year mortgage versus a 30-year. Both have fixed rates and fixed payments over their terms.
Less in Total Interest
A 15-year mortgage costs less in the long run since the total interest payments are less than a 30-year mortgage. The cost of a mortgage is calculated based on an annual interest rate, and since you're borrowing the money for half as long, the total interest paid will likely be half of what you’d pay over 30 years.
Lower Interest Rate
Since short-term loans are less risky and cheaper for banks to fund than long-term loans, a 15-year mortgage typically comes with a lower interest rate. The rate can be anywhere between a quarter-point to a whole point less than the 30-year mortgage.
If your mortgage is purchased by one of the government-sponsored companies, like Fannie Mae, you will likely end up paying less in fees for a 15-year loan. Fannie Mae and the other government-backed enterprises charge what they call loan-level price adjustments that often apply only to, or are higher for, 30-year-mortgages.
These fees typically apply to borrowers with lower credit scores who make smaller down payments. The Federal Housing Administration (FHA) charges lower mortgage insurance premiums to 15-year borrowers. Private mortgage insurance or PMI is required by lenders when you put a down payment that's smaller than 20% of the home's value. PMI protects the lender in case you can't make the payments. PMI is charged as a monthly fee added onto the mortgage payment, but it's temporary, meaning it ceases to exist once you pay off 20% of your mortgage.
Since the monthly payment is higher for a 15-year mortgage, financial planners consider it a type of forced savings. In other words, instead of taking the monthly savings from doing a 30-year and investing the funds in a money market account or the stock market, you'd be investing it in your house, which over the long run is also likely to appreciate.
Disadvantages of a 15-Year Mortgage
Despite the interest saved with a 15-year mortgage, borrowers should think about a few considerations and disadvantages before deciding on the term of their loan.
Higher Monthly Payments
A 15-year mortgage has a higher monthly payment than a 30-year since the loan needs to be paid off in half the time. For example, a 15-year loan for $250,000 at 4% interest has a monthly payment of $1,849 versus $1,194 for the 30-year. In other words, the 15-year monthly payment is 55% higher than the 30-year for the same amount at the same rate.
Most borrowers will have lower upfront fees with government-sponsored products, they'll likely pay these costs as part of a higher interest rate.
The higher payment might limit the buyer to a more modest house than they would be able to buy with a 30-year loan. Using our example above, let's say the mortgage lender will only approve a maximum of $1,500 per month. The borrower would need to buy a cheaper house—a $200,000 mortgage at 4%, for 15-years, results in a $1,479 payment.
On the other hand, a 30-year loan (for $250,000) would result in a $1,194 monthly payment—well under the $1,500 maximum, or the 30-year loan might let the borrower buy a bigger home or take on a larger mortgage. For example, a 30-year mortgage for a $300,000 home would cost $1,432 per month. The 30-year loan brings the payment under the $1,500 maximum and allows the borrower to take on a larger loan—presumably getting a bigger home or a better location.
Less Money Going to Savings
The higher payment requires higher cash reserves—as much as one year’s worth of income in liquid savings. Also, the higher monthly payment means a borrower may forgo the opportunity to build up savings or save for goals such as college tuition for a child or retirement.
Both college savings and retirement accounts are tax-deferred, while 401k retirement accounts have an employer contribution. Besides, a savvy and disciplined investor would lose the opportunity to invest the difference between the 15-year and 30-year payments in higher-yielding securities.
A 15-year mortgage costs less in total interest versus a 30-year
A 15-year usually has a more favorable interest rate
A 15-year is a forced savings since the extra money paid is invested in the home instead of spent
15-year loans have higher monthly payments
Less affordability with 15-year mortgages
Less money going to savings or retirement
Financial hardship might result if the borrower can't pay the higher 15-year loan amount
Example of a 15-Year Mortgage
A mortgage amount of $250,000 over 30 years at a rate of 4% would cost $429,674 in principal and interest payments by the end of the loan, and the total interest would be $179,674 for borrowing for 30 years.
The same loan amount and interest rate over 15 years would cost $332,860 by the end of the term. Total interest would be $82,860 for borrowing for 15 years. At 4%, you'd pay only about 46% of the total interest for a 15-year than you'd pay for the 30-year loan. The higher the interest rate, the more significant the gap between the two mortgages.
15-Year Mortgage FAQs
Why Should I Get a 15-Year Fixed-Rate Mortgage Instead of a 30-Year?
If you can afford the larger monthly payment that comes with a 15-year fixed mortgage, it can help you pay off your home, freeing up funds for retirement. You will spend less in interest over the life of the loan compared to a 30-year mortgage, and usually, a 15-year fixed mortgage means a better interest rate.
What Are the Differences Between 15-Year and 30-Year Mortgages?
A 15-year mortgage's monthly payments are higher than a 30-year mortgage, often significantly higher. A 30-year mortgage allows a borrower to stretch out payments over a long time and keep more of their monthly earnings. A 30-year mortgage has a higher interest rate than a 15-year mortgage, and you will pay more in interest rather than principal payments on a 30-year mortgage.
How Do I Pay Off a 30-Year Mortgage in 15 Years?
There are a few ways to pay down a 30-year mortgage in 15 years. First, you could consider refinancing your current mortgage into a 15-year fixed mortgage. Another way is to make extra payments towards the principal amount or make biweekly payments equally one additional mortgage payment per year. This might not get you to the 15-year mark, but the amount of principal would most certainly go down.
The Bottom Line
A 15-year mortgage can undoubtedly save you a lot of money in the long run. However, it's essential to consult a financial planner to discuss what you can handle monthly payments. Although the 15-year can pay off a mortgage sooner, if you lose your job or your income changes, that higher monthly payment versus the 30-year loan could cause you to go into financial hardship.