15 or 30 Year Mortgage: Which is Best?

After you've decided which type of mortgage -- fixed or adjustable -- you want, you may think that your mortgage quandaries are behind you. Unfortunately, they're not. You also need to make another important choice -- typically between a 15-year and a 30-year mortgage. (Not all mortgages come in just 15- and 30-year varieties. You may run across some 20- and 40-year versions, but that won't change the issues we're about to tackle.)

If you're stretching to buy the home that you want, the choice of how long-term your mortgage will be may very well not be yours to make. You may be forced (we should say forcing yourself, because you choose what home to buy) to take the longer-term, 30-year mortgage. Doing so isn't necessarily bad and, in fact, has advantages.

The main advantage that a 30-year mortgage has over its 15-year peer is that it has lower monthly payments that free up more of your monthly income for other purposes, such as saving for other important financial goals (such as retirement). You may want to have more money so that you aren't a financial prisoner to your home and can just have a life! A 30-year mortgage has lower monthly payments because you have a longer time period to repay it (which translates into more payments). A fixed-rate 30-year mortgage with an interest rate of 7 percent, for example, has payments that are approximately 25 percent lower than those on a comparable 15-year mortgage.

What if you can afford the higher payments that a 15-year mortgage requires? Should you take it? Not necessarily. What if, instead of making large payments on the 15-year mortgage, you make smaller payments on a 30-year mortgage and put that extra money to productive use?

If you do, indeed, make productive use of that extra money, then the 30-year mortgage may be for you. A terrific potential use for that extra dough is to contribute it to a tax-deductible retirement account that you have access to. Contributions that you add to employer-based 401(k) and 403(b) plans (and self-employed SEP-IRAs or Keoghs) not only give you an immediate reduction in taxes but also enable your money to compound, tax-deferred, over the years ahead. Everyone with employment income may also contribute to an Individual Retirement Account (IRA). Your IRA contributions may not be immediately tax-deductible if your (or your spouse's) employer offers a retirement account or pension plan.

If you have exhausted your options for contributing to all the retirement accounts that you can, and if you find it challenging to save money anyway, the 15-year mortgage may offer you a good forced-savings program.

If you elect to take a 30-year mortgage, you retain the flexibility to pay it off faster if you so choose. (Just be sure to avoid those mortgages that have a prepayment penalty.) Constraining yourself with the 15-year mortgage's higher monthly payments does carry a risk. If you fall on tough financial times, you may not be able to meet the required mortgage payments.

This Homebuyers Tip was excerpted from

ISBN#: 156884385