What loan should you get? 15 year vs. 30 year loan comparison!

You've finally decided to buy a house, but now you don't know what term loan is best for you. Should you do a traditional 30 year loan? Or would a 15 year loan be better? Continue reading and I'll point out the pros and cons of each.

Before I start, it is important to understand that everyone's situation is different. You might think one is better than the other depending on whether you are buying it as an investment property, primary residence, short term rental, or any other type of purchase. Not everyone's finances are the same either, so what is comfortable for one person might not work at all for another. That's ok. This is just to show you the difference between your options. Another thing I'd like to mention is your interest rate will be lower on a 15 year loan as well. In this scenario, I have kept them both at 3.25% to make comparing fair. Finally, this is assuming the property does not appreciate a single dollar. It maintains its current value of $550,000 over the entire time you own it. As you know, prices fluctuate. Over time, real estate appreciates quite nicely. For the sake of making this comparison easy to follow, let's just assume the house maintains the $550,000 valuation. In my local Woodland, CA real estate market, this is roughly what the average home sells for.

First, let me set some general guidelines. I am basing this scenario on the purchase of a home with these numbers:

Purchase price..........$550,000

Down payment.........$55,000 (10%)

Interest rate..............3.25%

Property taxes...........1.25%

Property insurance.....$1,000/year

PMI (private mortgage insurance) will not be added to my calculation and I'll explain why later

We are also going to assume this is purchased when the buyer is 35 years old.

15 year loan			30 year loan
monthly payment	$4,134		monthly payment	$2,811
total payments	$744,203		total payments	$1,011,788
total interest paid	$131,078		total interest paid	$280,538
total equity year 5	$194,060		total equity year 5	$107,932
total equity year 10	$357,621		total equity year 10	$170,189
loan paid by age	50		loan paid by age	65

Looking at the chart above, there are some huge differences. One that hopefully sticks out is this: if you bought your house on a 30 year loan, you actually end up paying over $1,000,000 (that's one million dollars) for it. But the house you bought only cost $550,000? How can this be? This is what 30 years of interest does to you. It isn't pretty. It also should not be overlooked. These numbers are also including property tax and insurance payments, which are the same no matter what loan term you choose.

Another big difference is how equity grows in the property. After 10 years on a 30 year loan, you only have $170,189 in equity. On a 15 year loan after 10 years, that number is $357,621. Why does that matter? Well, let's say you want to sell in 10 years. Thats a difference of $187,432 that you would not be making on the sale if you bought with a 30 year loan. Or, maybe you want to do a home equity line of credit after 10 years. That means you are missing out on $187,432 of potential money you could be using for updates to the home.

There are a few advantages to using a 30 year loan. The first is it makes it more affordable to anyone who otherwise could not afford to make the mortgage payment. In this scenario, the monthly payment goes from $4,134 to $2,811. Also, if you plan on buying an investment property, buying it on a 30 year loan will lower your monthly payment and increase cash flow. It really does depend on the situation to decide what is the best option for you.

Now, let's revisit PMI. I did not factor that in to the monthly payment above. That is because in most cases you can call your lender and ask them to remove the PMI once you have reached 20% equity in your home. Remember how I was saying it's important for that equity to build? So, on a 15 year loan, you can have the PMI payment removed after 36 payments (3 years later). On a 30 year loan, you have to make 75 payments (6 years and 3 months later). Just one more reason why a 30 year loan should be avoided, in my opinion.

If you still don't know which one is best for you, I want to share my experience with you. The first houses I bought were all on 15 year mortgages. I bought at a great time and they were great deals. They cash flowed immediately even on 15 year loans. They actually fall into the 2% rule, which I can talk about in another article. Since then, though, I've started buying homes on 20 year loans. I think 20 year loans are great. They get paid down quickly while equity builds up fast, yet they are easier to afford than a 15 year loan. I also like to put 20% down, but again that's another blog post I'll write at a later time. Here is the total cost breakdown of the same home purchased on a 20 year loan:

20 year loan
monthly payment	$3,464
total payments	$831,329
total interest paid	$178,829
total equity year 5	$150,435
total equity year 10	$262,685
loan paid by age	55

Take a look at this chart and see what you think. The 20 year term is a great option for some one looking to build equity and pay the house off quick ,but not quite as big a payment monthly as the 15 year loan. I think a 20 year loan is the sweet spot.

Thanks for reading. If you would like me to cover any other real estate related topics, please feel free to message me and let me know. I am a numbers guy and this sort of thing is what I enjoy doing most.