Should I Refinance to a 15-Year Mortgage?
Mortgage rates are at all-time lows once again. According to recent data from Black Knight, nearly 14 million homeowners would benefit from a refinance. While many folks will opt for another 30-year mortgage, some will consider a 15-year mortgage.
Shortening your loan term can be one of the best financial decisions you ever make. But it’s not the right move for everyone, and you might end up overestimating your ability to repay the loan.
Here’s everything you should know before refinancing into a 15-year mortgage.
Benefits of a 15-year mortgage
Let’s say you no longer want to commit to a 30-year loan. Sure, you may think to occasionally pay extra on your principal. The alternative, though, is switching to a 15-year term and enjoying the following benefits.
Most homeowners don’t make a sizable dent in their loans for years. Just look at your latest mortgage statement. Chances are the majority of your funds are going to interest, especially if you’re in the early years of repayment.
It’s a different story when we’re talking about a 15-year mortgage. The shorter term means that borrowers are responsible for a fraction of the interest. So you could be in line to save hundreds of thousands of dollars by refinancing into a 15-year mortgage.
More equity, faster
Equity is king when it comes to homeownership. As a refresher, you can calculate this figure by subtracting your loan amount owed from the property’s value. For example, if your home is valued at $300,000 and you have $250,000 remaining on your mortgage, you would have $50,000 in equity.
But how does equity growth vary between a 30-year mortgage and a 15-year mortgage? It all ties back to the interest. The faster you can pay down the interest, the faster you chip away at the principal — and the more equity you accrue.
Lower interest rate
Wanting to obtain the lowest interest rate possible? You may be able to get a rate that’s half a point lower than those advertised with a 30-year loan. What seems like a trivial disparity ultimately saves you even more money, depending on how long you stay in your home.
This is certainly the most obvious benefit of transitioning to a 15-year mortgage. Imagine what you could do when your house is paid off that much sooner! Once lofty goals of funding your child’s college tuition, upping your retirement contributions, or buying an investment property become easily attainable.
15-year mortgage vs. 30-year mortgage
There are a number of reasons why the average American homeowner prefers a 30-year mortgage. For one thing, it allows for greater financial flexibility. The lower payment gives borrowers the chance to build equity while also keeping up with other debt payments and stashing away cash for an emergency.
The ideal candidate for a 15-year mortgage typically checks two boxes: they have a stable job and no major debt obligations. Since this person can afford the higher monthly payment, it wouldn’t be smart for them to pay an additional 15 years’ worth of interest. However, would they be better off still going with a 30-year loan because of the associated tax deductions?
How do the tax savings compare?
We have an entire article dedicated to mortgage interest tax deduction. To summarize, homeowners are eligible for a credit every year in which they make payments on their mortgage. Many borrowers wonder if they would receive more tax savings on a 30-year loan as opposed to a 15-year loan.
It’s important to know that there really isn’t much of a difference. Granted, it’s nice to receive a larger interest deduction at tax time. But wouldn’t you rather own your home outright than watch your funds go primarily toward interest?
How much does it cost?
Unfortunately, refinancing your mortgage isn’t free. In fact, it’s common for borrowers to spend thousands of dollars over the course of this transaction. Do yourself a favor and ask your lender when your break-even point will be, as well as how much your refinance will cost.
Is it worth refinancing to a 15-year mortgage?
Just because your neighbor took out a mortgage with a shorter term doesn’t mean you should, too. Take an honest look at your financial situation and see if your family would benefit from such a move. If you’re even a little skeptical, hold off for the time being.
There are ways to get ahead of your mortgage principal without putting yourself at risk of foreclosure. You can start by rounding up your payments to the next $100 amount, as recommended by Nationwide. Better yet, make one extra payment a year and reduce the term of your loan by several years.
Should I refinance now?
Lenders are still trying to determine how mortgage rates will fare in a COVID-19 environment. Though it’s expected that rates will favor borrowers for the foreseeable future, we don’t know for certain. That’s why we suggest locking in an ultra-low rate as soon as you have the opportunity to do so.
Check out our mortgage calculator to see how much you could save with a refinance.