Right now, mortgage rates are incredibly low. You can borrow money for 30 years at a rate under 3%. The long-term average is just under 8%.
Rates like this have renewed interest in the 15-year mortgage, a product once reserved for Dave Ramsey loyalists.
Which mortgage is the better option for you? I believe you are predisposed and think three differences explain which option you’ll choose:
- Your view of debt
- Your objective in getting the loan
- Your aspiration
Which resonates with you?
While I won’t tell you which mortgage to get, I will tell you why I switched from a 15-year to a 30-year mortgage.
The 3 mindset differences
1. The Basics: Debt or Leverage?
15-year mindset: A mortgage is a debt to be paid off.
Those seeking a faster payoff of their mortgage opt for the shorter loan. Because a mortgage is an amortized loan, your payments consist of both principal and interest. A 15-year loan has a higher amount going toward principal right off the bat.
I find proponents of a 15-year mortgage view it as a debt, not unlike a car or student loan.
They see all debt as something to be paid off as quickly as possible. Likewise, working toward the end of this debt can be a point of pride.
30-year mindset: A mortgage is an opportunity to leverage my assets.
This person is comfortable holding onto a mortgage. Unlike other loans, they see a mortgage as attached to an appreciating asset (not like a car loan or an unsecured loan).
A word I often find this type of person using is leverage.
Especially with our historically low borrowing rates, they see a mortgage as an opportunity, not a debt. Even people who can afford large down payments choose a lower amount in order to gain leverage.
2. The Objective: Minimize Interest or Maximize Cash Flow?
15-year mindset: I want to limit the total interest paid.
If you’ve ever calculated the total interest cost of a mortgage, it’s staggering. Using a 15-year loan drastically cuts down on interest. For most, this alone is enough to get a 15-year loan.
The mindset is to give less money to the lender by shortening the loan. Additional money can also be funneled to the mortgage in an effort to expedite the process.
30-year mindset: I want to increase my current cash flow.
By lengthening your loan term, you have a lower monthly payment.
Those of this mindset place a greater emphasis on increasing their monthly cash flow rather than limiting interest costs. The monthly savings can be put to work elsewhere, often getting a higher rate of return than the interest rate of the mortgage.
3. The Aspiration: Safety or Flexibility?
15-year mindset: A paid off mortgage is a safe investment.
In this post, I made a strong case to get a 30-year mortgage and invest the difference. However, emotions play a powerful role in financial decision-making. Despite the numbers, some still choose a shorter mortgage term.
Why? The act of paying down a liability is a guaranteed thing. There is no relying on external rates of return or surviving bear markets. A paid-off mortgage brings peace of mind.
30-year mindset: Peace of mind comes from flexibility.
Those borrowing for 30 years also seek peace of mind. Instead of getting it through paying down debt, this person feels at ease with the increased flexibility of the longer duration loan.
This type of person knows cash that goes to your house isn’t accessible (unless through another loan). In addition, they appreciate the lower monthly payment and ability to increase their net worth through additional investing.
Why I switched from a 15-year to a 30-year mortgage
My wife and I bought our first house in August 2011. We utilized a 30-year mortgage but refinanced to a 15-year loan just a couple of years later.
Fast forward to buying our current house in February 2020. This time, we thought it best to use a 30-year mortgage. We valued a higher monthly cash flow and opted for flexibility with other investment opportunities and were excited to borrow at next to nothing.
There was another factor I didn’t understand when we bought our first house—inflation.
Inflation benefits long-term borrowers
Inflation means the purchasing power of currency erodes over time. Thus, cash today is worth more than cash in the future. However, my mortgage payment is fixed for the life of the loan. This means I get to pay back my loan with cash that is worth less than when I borrowed it.
Let’s say I borrowed $5, with the promise to pay it back in 30 years. In 30 years, this $5 will only be worth $2.06 due to inflation. In the meantime, I received the $5 when it was worth more.
Another effect of inflation is rising wages. Now that I’ve locked in my mortgage payment for 30 years, it becomes a smaller and smaller percentage of my income as time goes by.
For example, my current mortgage payment is 15% of my income. If my income grows at 3% yearly, my mortgage payment drops to 13.3% of my income at year five, 11.5% at year 10, and 9.9% at year 15. After 30 years, projections say my mortgage payment would be only 6.3% of my income.
Consider all aspects of both loans
The 15-year mortgage isn’t new; it’s making a fierce comeback as interest rates dive to historic lows. I believe ultra-low rates make a stronger case for the 30-year mortgage.
If you can borrow next to nothing, pay it back with cash that’s worth less than when you borrowed it, and have a higher monthly cash flow, why not opt for a longer mortgage?
I make the case here that most financial products are amoral—neither good nor bad. The important thing is to weigh the benefits with your overall financial picture.
If a 15-year mortgage gives you better outcomes—great! If a 30-year makes more sense—fantastic!
Don’t get stuck believing there is only one right decision.
Schedule an appointment with one of our mortgage advisors to discuss your options.