Great Deals on 15-Year Mortgages

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The 15-year fixed-rate mortgage has fallen to an all-time low, charging just 4.2%, according to Freddie Mac (Stock Quote: FRE).

Each survey uses a slightly different methodology, and one by BankingMyWay.com puts the rate at 4.5%. But there’s no point quibbling: the 15-year rate is awfully appealing.

But that doesn’t necessarily make it a slam dunk. The 30-year mortgage is pretty cheap too. Freddie Mac puts it at about 4.8%, BankingMyWay.com at just more than 5%.

The problem is that, despite the lower rate, the 15-year loan demands a higher payment, since the loan balance, or principal, has to be paid off twice as fast. For every $100,000 borrowed, a 15-year loan at 4.2% would charge $750 a month, the 30-year deal at 4.8% just $525, according to the Mortgage Loan Calculator. Total interest cost would be $36,000 over the life of the 15-year loan, about $89,000 for the 30-year deal.

The bigger payment will make the 15-year deal a non-starter for many borrowers, whether they are buying or refinancing. But suppose you can afford it? Does it make sense?

The first thing to consider is the commitment. Even if you can afford the bigger payment now, do you want to be saddled with it for 15 years? What if you or your spouse or partner loses a job? Will you face college costs before the loan is paid off?

Many borrowers assume their incomes will rise over the years, making payments easier to handle. Unfortunately, many have been wrong about that. Before taking out one of these loans, make a clear-eyed assessment of your earnings prospects.

The second issue has to do with what economists call "opportunity costs." Any money put into your mortgage is not available for other things you might buy, or other investments that might be more promising.

Getting a 15-year loan is like making extra principal payments on a 30-year loan. It produces big interest savings because you pay interest for only half as long. The investment return on these payments is equal to the loan rate, 4.2%.

Right now it would be hard to find another fixed-rate investment paying 4.2%. Five-year certificates of deposit average just about 2%, according to the BankingMyWay.com survey. That suggests the 15-year loan is a good investment.

However, you could earn more in stocks, though at greater risk. Also, there’s a good chance rates will go up on fixed-income investments, if not right away sometime in the next 15 years. If you could earn 5, 6 or 7% on a CD or short-term bond fund, you’d beat the return on the 15-year mortgage. And your money would be more accessible. You might kick yourself for committing to those bigger loan payments.

Another option is to get the 30-year mortgage and voluntarily make extra principal payments to retire the debt sooner. That can dramatically reduce your interest costs over the life of the loan. You would shoulder a slightly higher loan rate, but you wouldn’t have to make those bigger payments if money were tight or you had a better use for it. Use the Mortgage Payoff Calculator to see the potential savings from extra principal payments.

—For the best rates on loans, bank accounts and credit cards, enter your ZIP code at BankingMyWay.com.

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