Not all home loans are the same, and finding the best deal can take some time. That's why understanding how mortgage terms work is so important. Knowing how shorter and longer terms affect your budget helps you choose the right mortgage for your needs. Let's take a look at how different terms work, what they mean for your payment, and how they impact the total amount you'll pay over time.
WHAT IS A MORTGAGE TERM?
When you take out a home loan, the mortgage term is the amount of time you have to repay the money you borrowed, along with the interest. Terms are usually driven by payment affordability. At Fibre Federal Credit Union and TLC, we offer several options: 10, 15, 20, and 30-year terms.
The term is the maximum time you have to repay your loan fully. If you have a 30-year term, it means you have 30 years to repay your home loan. However, you always have the option of making extra payments or a lump sum payment to pay off your mortgage early.
What Is the Average Home Loan Term?
In the U.S., the most common loan term is 30 years. However, the “best” term for you depends on your budget, long-term plans, and how quickly you want to build equity. There are several important pros and cons to consider, and your choice will affect your finances both now and in the years ahead.
What Is the Longest Term for a Home Loan?
Lenders other than Fibre Federal Credit Union may offer 40-year home loans, but they aren’t common. Although a 40-year loan might give you a lower monthly payment, it usually has stricter qualification requirements and a higher interest rate, which means you’ll pay significantly more in interest over the life of your loan.
How Your Loan Term Affects Your Interest Rate
When you compare lender offers, the interest rate is typically shown as an annual percentage rate (APR). Interest is included in the APR, but it also factors in loan fees and any mortgage points you choose to pay. That’s why it’s better to compare APRs instead of interest rates when choosing a home loan.
Short-term loans of 10 or 15 years usually have lower APRs because they’re considered less risky. It means mortgage lenders get their money back faster. With a shorter term, you’ll pay less interest each month, and it will significantly reduce the total interest you’ll pay.
On the other hand, longer loan terms of 20 or 30 years usually have higher interest rates. While they offer lower monthly payments, the extended repayment period increases the total amount of interest you’ll pay. Keep in mind that other factors will affect your interest rate, including your credit score, loan to value, loan purpose, and market conditions.
How Your Loan Term Affects Your Monthly Payment
One of the most important considerations for homebuyers is how much their monthly payment will be. Choosing a longer loan term of 30 years allows you to spread your payments out over more time, which lowers your monthly costs. This can make your mortgage easier to fit into your budget, and it may even give you the flexibility to afford a higher-priced home.
If you finance a home for 15 years, you will have less time to pay off your mortgage. The shorter term gives you a higher monthly payment, but you’ll have a lower interest rate. This can result in significant savings in interest over time. If your budget is tight and you want a shorter term, you may need to consider a less expensive home to keep your payments manageable.
How Your Loan Term Affects Your Overall Cost
Here’s the bottom line on selecting a loan term: To maximize your savings, it’s best to choose the shortest loan term that gives you a monthly payment you can comfortably afford. 15-year mortgages offer lower interest rates, help you build equity faster, and can potentially save you tens of thousands of dollars in total interest compared to a 30-year loan.
If you need a bit more flexibility, a 20-year term may be a good middle ground. It gives you a lower monthly payment than a 15-year loan while still helping you pay off your mortgage sooner than a 30-year option. Plus, you’ll save on interest compared to stretching your loan out for the full 30 years.
WHEN TO CHOOSE A SHORT-TERM HOME LOAN
A short-term loan can help you save money and build equity quickly, but it's not the best option for everyone. Let's take a look at three situations where a 15- or 20-year term might make sense.
You Can Afford a Higher Monthly Mortgage Payment
Although a shorter loan term will increase your monthly mortgage payment, it could help you save big. The less time it takes you to repay your mortgage, the more you’ll save on interest.
You Want to Build Equity Faster
With a 15-year mortgage, a larger portion of your payment goes toward the principal each month. This helps you build equity in your home faster. That equity could come in handy later if you need to apply for a home equity loan or a HELOC for a home remodeling project, to cover unexpected expenses, or to consolidate debt.
Paying off your mortgage sooner also frees up money you can use for other goals, like boosting your savings, investing, starting that business you've been dreaming about, or simply enjoying more financial flexibility.
You Don’t Plan to Stay in Your Home Long
If you know you will only live in your home for a few years, a 15-year mortgage can help you walk away with more money when you sell. You'll build equity faster, which means you'll likely have more to put down on a new home after you sell.
WHEN TO CHOOSE A LONG-TERM HOME LOAN
A long-term mortgage, such as a 20- or 30-year loan, can make homeownership more affordable by spreading payments out over a longer period of time. Let's take a look at some situations where choosing a longer loan term might be a better choice.
You Want a Lower Monthly Mortgage Payment
A 30-year loan provides more time to pay off your home, which lowers your monthly payment. This gives you more breathing room in your budget to cover daily expenses, build an emergency fund, contribute to retirement savings, or work toward other financial goals. A longer term can also make homeownership more attainable.
You Want the Flexibility to Make Extra Payments
Choosing a longer-term mortgage doesn't mean you're locked into paying it off slowly. You have the option to make extra payments toward the principal whenever you have extra funds. A longer term gives you the relief of lower payments, but it also offers the flexibility to pay off your home ahead of schedule if your finances allow.
You Want to Buy the Most House You Can Afford
A longer term can increase the loan amount you qualify to borrow, which gives you more flexibility when choosing a home. It could enable you to purchase a larger home, choose a property in a better neighborhood, or find a house that better suits your family's needs.
CHOOSING THE BEST MORTGAGE TERM
Choosing the right mortgage term is one of the most important financial decisions you'll make when buying a home. That's why it's important to run the numbers on different terms and think about how long you plan to stay in the home you are buying. The decision you make won't just affect your monthly budget. It will also affect the amount of interest you'll pay over time and how quickly you'll build equity.
Ready to get started? Explore Fibre Federal Credit Union and TLC’s low-rate mortgage loans and find the term that works best for your budget and goals.
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