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September 13, 2016


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I couldn't agree more, I just refinanced our 30-year mortgage to a 15-year one a few months ago. Monthly payments stayed the same, but I dropped the interest rate by a full point, down to 2 and 7/8.

I was already 10 years into my 30-year mortgage, so I didn't save quite as much as your calcs, but it will still save me over $22,000 after taxes and it only took me 90 minutes to do.

You can check it out here if interested:

I don't agree - the $95k in saved interest isn't a real amount that you can save over time (you can only save the difference in monthly payments or the full monthly payment after the end of the loan).

If the person can equally afford either the 30yr or 15yr loan, that means they could save $556/month by going with the 30-year loan. If they kept saving for the full 30 year term @ 8%, they'd have ~$830k at the end. Whereas if they saved the $1642/month for 15 years (after the end of the 15-year loan term) @ 8%, they'd have ~$570k. This doesn't account for the additional potential tax deductions from the increased interest payments, either.

If the goal is to save for retirement, it seems like the 30-year loan is the way to go in your example!

@BK --

I haven't run your numbers, but let's assume they are right.

What you're basically saying is that someone could save the difference, invest it at 8%, and make more money.

This could be true in theory. The problem is, no one will do it.

I don't think I've ever seen a person "invest the difference" in anything -- insurance, debt, whatever. What they do is "spend the difference". So practically, the 15-year mortgage forces them to do this and thus works better.

I will run your numbers later to see if they hold out. I'm off to breakfast now. ;)

Well, I'd also disagree with that... (about no one saving the difference, not about getting breakfast :) I realize it isn't the norm, but I'm sure plenty of people will increase savings when they get a raise, have reduced costs (yay, no more day care!), or have some other event that increases income or reduces expenses (for what it's worth, we do). It may require additional discipline, or setting up an automatic withdrawal to help the process, or something like that.

It also makes a difference whether the goal is to save for retirement or not. If it is, that $556/month is simply additional retirement savings, and should be treated as such. If not, it's additional spending power that may be used to improve quality of life, which can't easily be quantified but can also be considered a benefit.

Just saying it's not a black-and-white easy calculation of the difference in the cost of interest.. lots of things to consider!

Shouldn't inflation be considered as well?

Over 30 years your monthly payment is still the same, but each dollar is also worth less. So your $1086 payment each month may only be worth $800 of today's dollars. This is true of the 15yr as well, but you have an additional 15 years of inflation with the 30yr.

On the flip side, when looking at investing the difference, inflation plays a factor here as well. First of all, that money isn't really free to invest until after you're done paying the mortgage, right? So that's 15 years down the road. So the $6667 is only worth $5000 of what it was, plus that value keeps dropping each year.

That doesn't mean the 30yr is definitely the "winner", but like BK said above, there's a lot of factors that come into play!

The problem with the argument advocating for the shorter loan is that it ignores the time value of money.

It is certainly true that in absolute terms if you pay interest for a short period of time you will pay less interest. However, it is a tautology and as such doesn't provide much insight.


If you drive faster you will spend less time driving to reach the same destination.

If you carry your groceries in 2 bags at a time it will take less trips to get them into the house than if you only carry 1.

If you have a shorter mortgage so that you pay interest for less years you will spend less money before your mortgage is fully paid. (granted the 15 year also has a slightly lower interest rate but the majority of the savings comes from paying down the principal faster. Even if the interest rate is the same the 15 year will result in drastically smaller total cost than a 30 year)

None of these original statements are particularly insightful, but for some reason the mortgage one often seems profound to many people. Likely because the time value of money is a foreign concept to most people or at least not something they consider unless they are forced to. There are even these "mortgage secrets" about paying every 2 weeks instead of twice a month and it eliminating 7 years from a 30 year mortgage. (HINT: it's not true. It only works because if you do actually pay ever 2 weeks you pay 13 monthly payments a year instead of 12 and in the end you end up with what is pretty much equivalent to a 23 year mortgage.) People are attracted to secrets but there aren't actually any secrets here, just differences in the time value of money.

There are two truths here.

1. FMF is right that hardly anyone will save the difference. People are terrible with money. We already know this. Leading up to the housing crash tons of people got in trouble because they did what I used to think was a great idea. They took out a HELOC on their house at 4% interest and paid down 20K of revolving credit on the credit cards that was at 20% interest. This has to be a great idea right. Except that nearly every person who did that ended up with a 20K HELOC and 20K of new revolving debt on their credit cards in a short 1-2 years. I took a big lesson from that. What is a good idea for the small percentage of people who are financially responsible can be a horrible idea for the vast majority who are not. This is why Dave Ramsey is so successful. His debt snowball advice is actually mathematically and financially inferior to paying down the highest interest rate debt first. But for psychological reasons his advice works far better for most people who are in financial trouble than the more financially optimal advice. For most people a 15 year mortgage will have them in far better financial shape than a 30 year mortgage. (Although to be fair, if they can't save the difference in years 1-15, who says they are going to save the windfall when they no longer have a payment in years 16-30. At the end of 30 years perhaps they are both still in the same boat. One blew almost 7K a year extra for 30 years and the other one blew 19K extra for 15 years. Who knows.)

2. For those who can be financially responsible, who do not spend their excess, and who can use the difference from the smaller payment in a financially productive way, the current cheap interest rates give huge incentives to take the longest mortgage possible and let that cheap interest payment run as long as possible. Now it is true that the 15 year gets a slightly cheaper interest rate but the 30 year is still very cheap and the difference you can make elsewhere makes it financially more beneficial to take the 30 year mortgage. To BK's points Here is what a comparison would look like.

First I ran this simulation assuming all payments are accumulated and invested at the end of each year rather than each month so that I didn't need 360 separate formulas.

In that case the 15 year has annual payments of $19,704 which is invested each year from years 16-30 @ 8%. The 30 year has annual payments of $13,302 giving a remaining $6,672 available to be invested each year in years 1-30 @ 8%. After year 30 both mortgages are fully paid and the 15 year has $535,005 from investing the excess and the 30 year has $755,825 from investing the excess, $220,000 more. If the return you received on the money was 4.5% instead of 8% then the two models will return roughly the exact same amount. So anything higher than a 4.5% return on your money and the 30 year mortgage wins.

It is also the case that the 30 year has more interest paid by quite a large amount so there are more tax deductions available there. However the investment model also has taxes to be paid on the gains. I am going to presume those two things mostly cancel each other out. If you invested in items that did not have to be sold or turned over then the tax advantages of the 30 year will also be a benefit over the 15 year as it would defer more taxes until later.

The future time value of money is a bit of a complicated concept for most people to fully grasp which is why the nearly 100K savings of the 15 year mortgage sounds so awesome and so obviously better at first, but it is misleading in that it is not really better if you can use the time value of money to your advantage.

I personally use my home residence on a 30 year mortgage as well as a separate HELOC to invest in real estate and get cash on cash returns in the 15% range and net profit returns in the area of 20%. For my purposes paying down any debt early is always leads to poorer financial outcomes because I can use the funds so much more effectively than paying the 3-5% interest on the funds (I have some investment loans at 5.5%, which is still vastly profitable for me when I can get 15% cash on cash returns).

The one big advantage the 15 year has is the return is guaranteed. As I pointed out above you need to get at least 4.5% return to beat the 15 year. If you can't get that, you should take the 15 year. And even if you think you can get it you could be wrong. 4.5% guaranteed return is not too bad in this low return environment. It all depends on your ability to do something better with that time value of money.

@Apex --

I'm going to let you take over this blog. :)

Well done.

There are two ways to look at it:
1) Financially: BK is absolutely right. If you invest the difference in monthly payments and get a return even as low as 5% you will end up with a larger chunk and lower lost than with a 15 year mortgage.

2) Realistically/emotionally/psychologically: Most people will not invest the extra $556 per month.

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