What about qualifying for the loan? Is one better than the other?
For loan qualification, a borrower’s DTI (Debt-To-Income) ratio has to be below a certain threshold. Read more about DTI here.
When doing the DTI calculation, the payment for the mortgage in process is also taken into account. Given the loan payment for a 30-year is lower, it results in a lower DTI. Therefore, chances of qualifying are higher.
This is only binding when your DTI is high enough to be close to the threshold. When it’s sufficiently low, you’ll qualify for either of them equally and there is no difference between the two in such a situation.
What about other terms: 10-year, 20-year, 25-year?
For terms other than 15 years and 30 years, the same logic applies.
The lower the mortgage term:
- The lower the rate (typically)
- The higher the payment will be (just as you saw above with the 15-year).
- The lower the total interest paid over the life of the loan.
The tradeoff here is monthly payment vs. total interest paid.
What should I do if the 15-year rate is lower than a 10-year rate?
In some uncommon situations, the rate for a 15-year loan can be lower than the 10-year loan.
The reason for that is that most mortgages are sold to investors in the secondary market as a pool (i.e. collection of a few hundred mortgages, say). And depending on the need to complete the required pool when the lender is short a few, they can sometimes offer discounts by offering lower rates for those. These inventory imbalances can then lead to short-term anomalies like that.
Also, because the 15-year is a very commonly chosen term, those mortgages are very liquid (i.e. easily sellable). For that reason, lenders can offer better rates for those than for terms adjacent to it such as 14 and 16 years.
If the 15-year rate is lower than a 10-year rate, say, and there is no prepayment penalty associated with the mortgage , you can choose the 15-year loan to get the lower rate (even if you want to pay the loan off in 10 years).
Once you do that, you can pay the loan off by making the higher monthly payments of a 10-year loan, albeit at the lower (15-year) rate. In the end, you’ll pay less total interest because of the lower rate. Remember, a lender can charge interest only on the principal balance remaining.
When you are making that choice though, do carefully review your closing disclosures to confirm that there is no prepayment penalty.
What if I am still not sure whether to go with 15-year or 30-year?
We covered the major advantages and disadvantages of both loan types. Not only that, we reviewed many different situations which people commonly think about or run into.
In spite of that, it’s possible that you are still not sure about your decision and/or are not sure which one to go with.
If that’s the case, please feel free to reach out to us. At Stem Lending, our goal is to help you make the most informed mortgage decision. If you are already sure about it though, you can start right away at: stemlending.com/apply