Quite often people who are buying homes, often for the first time, are not financially prepared to do so. They still have a lot of debt and other liabilities that’s eating away at their monthly paycheck. They don’t have much of anything for a nest egg and in all reality can’t reasonably afford a mortgage payment. Instead of stepping back, being patient, and waiting a few years to buy a home until they’re debt free and are doing better financially, they play creative games with their mortgages in order to make it easier to get into a home.
Most people understand that getting adjustable rate mortgages, mortgages with balloons, and 50 year mortgages are generally a bad idea because of all of the interest and fees you’re going to be paying with these types of mortgages. Instead most people simply rely on the tried and true 30 year fixed mortgage, because that’s what everyone else has done. Did you know that there was a period when 30 year fixed mortgages were thought of in the same way that we think of 50 year fixed mortgages today? If you take a look at the mathematics, 30 year mortgages really aren’t that great of an idea either.
If you take out a 30 year fixed rate mortgage for $200,000 at 6% interest, you’re going to end up paying 360 payments of about $1,200 to finally own your home. This means that you’ll pay a total of $432,000 over the period of 30 years to own your home. You’re literally paying over twice the amount of money that your home is worth just to own it free in clear or 116% in total interest. Imagine if you paid for your car over that period of time. Would you pay $42,000 for a $20,000 car? Of course not!
So what’s the solution? In order to avoid being stuck on the losing side of compound interest, get a mortgage that will amortize as quickly as possible. If you got that same mortgage over a period of 15 years, you’d be paying $1,688 a month instead of $1,200 a month, but you’d only pay $303,840 for your $200,000 home instead of paying $432,000. By sacrificing now, you’ll have saved yourself over $100,000 over the course of owning your home!
Not everyone will be able to do a 15 year fixed because of inflated real estate markets, but that doesn’t mean you have to default to getting stuck in a 30 year mortgage and paying gobs of interest. There’s a pretty good chance that you can get yourself into a 20 year mortgage if you go to the right company, and that’s still a much better option than paying off your home over a period of 30 years. That way you’ll still be saving over $90,000 in interest and only be paying $1,430 a month!
Remember that you don’t have to start out with your dream home. Get something reasonable that you can afford, and make it so that you will pay down your mortgage as quickly as possible by amortizing it over a shorter period of time.