Before you take out a mortgage, consider taking out a loan for less than 30 years. Most mortgages are stretched out over 30 years because the monthly payments are lower but by paying a little more every month you could greatly improve your long term financial health.
Let’s compare the long term outlook when you take out a $200,000 loan for 20 years as opposed to 30 years.
Family A takes out a 30 year loan with an interest rate of 6%. Their monthly payment would be $1,199.
Family B decides to take out a 20 year loan. The interest rate on the 20 year loan will always be lower than the 30 year rate so lets say that the 20 year will have a rate of 5.8%. That makes family B’s monthly payments $1,409.88.
We’ll assume that both families have the ability to pay that higher monthly payment. Family A the difference between the two payments, $210, into a savings account every month for the entire 30 years.
Family B pays off their mortgage in 20 years and then puts the entire payment of $1,409 into a savings account for the remaining 10 years.
At the end of the 30 years they both own their homes and they both have nest eggs. If both of the savings account paid interest at 4.8% over the 30 years, family A has accumulated 169,553.79. Not bad.
But lets take a look at how family B made out. At the end of the 30 years they have $220,805 in their savings account. They have a little over $51,000 extra dollars. Everyone made the same payments over the same period of time. The only difference was the term of their mortgage.
When you shop around for a mortgage, keep your long term financial goals in mind. Don’t just focus on that monthly payment. Sometimes small differences, like the number of years you take to pay back your mortgage, can have big implications long term.
Even if you decide to take out the 30 year loan, you might want to pay if off faster. Lets take this same example and instead of putting that extra $210 in the bank every month, lets say that family A puts that money in as an extra payment on their mortgage.
In this scenario, they now get their mortgage paid off in December of 2026. It’s just a few months behind the payoff date if they took out the 20 year loan. One big difference is that they have the flexibility to either put in the extra payment or not depending on their circumstances every month.
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