{"id":79023,"date":"2018-07-28T05:00:35","date_gmt":"2018-07-28T11:00:35","guid":{"rendered":"https:\/\/www.biggerpockets.com\/renewsblog\/?p=79023"},"modified":"2024-02-19T08:07:22","modified_gmt":"2024-02-19T15:07:22","slug":"2016-08-01-30-year-15-year-mortgage","status":"publish","type":"post","link":"https:\/\/www.biggerpockets.com\/blog\/2016-08-01-30-year-15-year-mortgage","title":{"rendered":"Why a 30-Year (NOT 15-Year) Mortgage Gives You a Better Shot at Building Wealth"},"content":{"rendered":"<p><span style=\"font-weight: 400;\">It\u2019s a question that is frequently asked by homeowners and real estate investors around the nation:<\/span><\/p>\n<p><i><span style=\"font-weight: 400;\">Should I go with a 30-year mortgage and have a lower monthly payment, or should I go with a 15-year mortgage and pay off the loan much faster?<\/span><\/i><\/p>\n<p><span style=\"font-weight: 400;\">And the answer, as is so often the case, is always: <\/span><i><span style=\"font-weight: 400;\">it depends<\/span><\/i><span style=\"font-weight: 400;\">. <\/span><\/p>\n<p><span style=\"font-weight: 400;\">However, if we rephrase the question, expressing a <\/span><span style=\"font-weight: 400;\">goal<\/span><span style=\"font-weight: 400;\"><em>,<\/em> we can certainly come up with an answer to help homeowners and investors understand which type of loan IS preferable.<\/span><\/p>\n<p><span style=\"font-weight: 400;\">So, for the purposes of this article, we will frame the questions like this:<\/span><\/p>\n<p><i><span style=\"font-weight: 400;\">If my goal is to give myself the greatest statistical probability of building more wealth over time, should I go with a 30-year mortgage and have a lower monthly payment, or should I go with a 15-year mortgage and pay off the loan much faster?<\/span><\/i><\/p>\n<p><span style=\"font-weight: 400;\">The short answer to this question is this: <\/span><\/p>\n<p><span style=\"font-weight: 400;\">Go with the 30-year mortgage, and especially so in this current market of low interest rates. <\/span><\/p>\n<p><em><strong>Related:<\/strong> <a href=\"\/renewsblog\/2016\/04\/22\/mortgage-questions\/\" target=\"_blank\">Mortgage Questions, Answered: How to Qualify For &amp; Obtain Home Financing<\/a><\/em><\/p>\n<p><span style=\"font-weight: 400;\">If you are a bit of a math nerd and want some statistical analysis behind <\/span><i><span style=\"font-weight: 400;\">why<\/span><\/i><span style=\"font-weight: 400;\"> the 30-year mortgage is superior to the 15-year (or even shorter loan periods), read on.<\/span><\/p>\n<p><img loading=\"lazy\" decoding=\"async\" class=\"alignnone size-full wp-image-78388\" src=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/06\/student-housing-empire.jpg\" alt=\"cash-on-cash-return-real-estate\" width=\"702\" height=\"336\" title=\"\" srcset=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/06\/student-housing-empire.jpg 702w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/06\/student-housing-empire-300x144.jpg 300w\" sizes=\"auto, (max-width: 702px) 100vw, 702px\" \/><\/p>\n<h2>Why a 30-Year Mortgage is Better Than a 15-Year Mortgage<\/h2>\n<p><span style=\"font-weight: 400;\">I created a spreadsheet to model out the logic behind why a 30-year mortgage is advantageous to a 15-year mortgage\u2014which can be downloaded <a href=\"https:\/\/www.biggerpockets.com\/files\/user\/ScottTrench\/file\/all-cash-15-year-loan-30-year-loan\" target=\"_blank\">here<\/a>. This spreadsheet, like any financial model, is based on some assumptions. Please bear in mind that this <a href=\"https:\/\/www.biggerpockets.com\/blog\/real-estate-investment-analysis\" target=\"_blank\">analysis<\/a> is for a <a href=\"\/renewsblog\/2013\/02\/22\/buying-rental-property\/\" target=\"_blank\">rental property<\/a>, but the conclusions are similar for homeowners. <\/span><\/p>\n<p><span style=\"font-weight: 400;\">Here are some of the key assumptions that go into this model:<\/span><\/p>\n<ul>\n<li style=\"font-weight: 400;\"><span style=\"font-weight: 400;\">I assume that property prices and rents will increase with inflation at about 3.4% per year.<\/span><\/li>\n<li style=\"font-weight: 400;\"><span style=\"font-weight: 400;\">I assume that interest rates are about 3.5%.<\/span><\/li>\n<li style=\"font-weight: 400;\"><span style=\"font-weight: 400;\">I assume that expenses related to maintaining the property will be about 50% of the rent the property would collect.<\/span><\/li>\n<li style=\"font-weight: 400;\"><span style=\"font-weight: 400;\">I assume that rents are about 1\/10th of the value of the property.<\/span><\/li>\n<li style=\"font-weight: 400;\"><span style=\"font-weight: 400;\">I assume that the stock market produces 11.5% annual returns.<\/span><\/li>\n<\/ul>\n<p><span style=\"font-weight: 400;\">Some or maybe all of these assumptions might be things that you disagree with. I recognize that there is no consensus for those assumptions and invite you to go ahead and download my model and play with them. It\u2019s possible that some cases, changes to the assumptions in this model might result in situations that favor the 15-year loan, though I expect those cases to be the exception, not the rule. Note that I do not make assumptions for the following:<\/span><\/p>\n<ul>\n<li style=\"font-weight: 400;\"><span style=\"font-weight: 400;\">Differences in interest rates: This might favor the 15-year loan, as 15-year loans might have lower interest rates.<\/span><\/li>\n<li style=\"font-weight: 400;\"><span style=\"font-weight: 400;\">Tax implications: For homeowners and real estate investors, interest is tax deductible. This might favor 30-year loans further, as the mortgage interest is partially offset.<\/span><\/li>\n<\/ul>\n<p><span style=\"font-weight: 400;\">In this model we compare three scenarios:<\/span><\/p>\n<ol>\n<li style=\"font-weight: 400;\"><span style=\"font-weight: 400;\">Buying a property with 20% down on a 30-year loan<\/span><\/li>\n<li style=\"font-weight: 400;\"><span style=\"font-weight: 400;\">Buying a property with 20% down on a 15-year loan <\/span><\/li>\n<li style=\"font-weight: 400;\"><span style=\"font-weight: 400;\">Buying a property with 100% cash and no loan<\/span><\/li>\n<\/ol>\n<p><span style=\"font-weight: 400;\"> Let\u2019s compare some of the key metrics going on over 30 years in these two charts:<\/span><\/p>\n<p><img loading=\"lazy\" decoding=\"async\" class=\"aligncenter wp-image-79024 size-full\" src=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/07\/CF.png\" alt=\"CF\" width=\"1300\" height=\"602\" title=\"\" srcset=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/07\/CF.png 1300w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/07\/CF-300x139.png 300w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/07\/CF-768x356.png 768w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/07\/CF-1024x474.png 1024w\" sizes=\"auto, (max-width: 1300px) 100vw, 1300px\" \/><img loading=\"lazy\" decoding=\"async\" class=\"aligncenter wp-image-79025 size-full\" src=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/07\/ROE.png\" alt=\"ROE\" width=\"1300\" height=\"602\" title=\"\" srcset=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/07\/ROE.png 1300w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/07\/ROE-300x139.png 300w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/07\/ROE-768x356.png 768w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/07\/ROE-1024x474.png 1024w\" sizes=\"auto, (max-width: 1300px) 100vw, 1300px\" \/><span style=\"font-weight: 400;\">OK, so let\u2019s point out something right off the bat. Real estate, on average, performs <\/span><i><span style=\"font-weight: 400;\">worse<\/span><\/i><span style=\"font-weight: 400;\"> than the stock market when bought completely with cash. It is only with <\/span><i><span style=\"font-weight: 400;\">leverage<\/span><\/i><span style=\"font-weight: 400;\"> that average real estate returns begin to exceed the returns offered by stocks over a long period of time. You can see that in year one, both a 30-year and a 15-year loan produce high average returns for investors. This is because the property is at its most leveraged point during this timeframe.<\/span><br \/>\n<em><br \/>\n<strong>Related:<\/strong> <a href=\"\/renewsblog\/2015\/07\/01\/extra-mortgage-payments-worth-it\/\" target=\"_blank\">Are Extra Mortgage Payments Worth It? A Look at the Numbers<\/a><\/em><\/p>\n<p><span style=\"font-weight: 400;\">The reason for this is that leverage amplifies returns. If you buy a house for $100,000 in cash and it increases in value by $10,000, you\u2019ve made 10% on your money. If you buy a house for $100,000 with a down payment of $20,000 (a loan of $80,000) and it increases in value by $10,000, you\u2019ve made 50% on your initial $20,000 investment. <\/span><\/p>\n<p><span style=\"font-weight: 400;\">Over time, as you pay down the loan, and as the property appreciates in value with inflation, your leverage decreases. To continue our example, if in 10 years you\u2019ve paid down 25% of your $80,000 loan (balance is now $60,000), and the property has increased in value to $120,000, you are now leveraged at 50%. As your leverage decreases, so does your <\/span><span style=\"font-weight: 400;\">return on equity<\/span><span style=\"font-weight: 400;\">.<\/span><\/p>\n<p>So our first chart now makes sense\u2014the return on equity is lower for less leveraged real estate, on average. You pay down the loan faster on a 15-year mortgage and therefore have less leverage each year than with the 30-year loan. Therefore, your return on equity is lower with a 15-year loan than a 30-year loan.<\/p>\n<p><span style=\"font-weight: 400;\">If you look closely at the graph, you\u2019ll notice that the return on equity for the all-cash investor <\/span><i><span style=\"font-weight: 400;\">increases <\/span><\/i><span style=\"font-weight: 400;\">over time and that once you pay off the loan in year 15 for the 15-year loan investor, the returns also increase (that\u2019s the bend in the red line in the graph).<\/span><\/p>\n<p><span style=\"font-weight: 400;\">The reason for this is that this model assumes that all excess cash flow is <\/span><b>reinvested,<\/b><span style=\"font-weight: 400;\"> in this case in the stock market. An investor with a 15-year loan will produce less cash flow than either the all-cash investor or the investor with the 30-year note for the first 15 years and therefore will not be able to reinvest that cash flow.<\/span><\/p>\n<p><span style=\"font-weight: 400;\">It is that <\/span><span style=\"font-weight: 400;\">reinvestment of cash flow<\/span><span style=\"font-weight: 400;\"> that separates the 30-year note investor from the 15-year note investor. The investor with a loan term of 30 years will have lower payments, will generate more cash flow up front, and will be able to reinvest those cash flows sooner than the investor with a 15-year mortgage. Only for a brief snapshot in time\u2014a handful of years after the 15-year mortgage is paid down\u2014will one see higher cash flow in the case of a 15-year note.<\/span><\/p>\n<p>This is why the investor with the 30-year note has both more net worth\u00a0<em>and<\/em> more cash flow at the end of the period we look at in this study. The\u00a0reinvested cash steadily compounds to build a portfolio that appreciates with the stock market and spits out regular dividends.<\/p>\n<p><span style=\"font-weight: 400;\">Over time, the effects of more leverage and greater cash flow compound to the extraordinary advantage of the investor with the 30-year loan:<\/span><\/p>\n<p><img loading=\"lazy\" decoding=\"async\" class=\"aligncenter wp-image-79028 size-full\" src=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/07\/NW.png\" alt=\"NW\" width=\"1300\" height=\"602\" title=\"\" srcset=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/07\/NW.png 1300w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/07\/NW-300x139.png 300w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/07\/NW-768x356.png 768w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2016\/07\/NW-1024x474.png 1024w\" sizes=\"auto, (max-width: 1300px) 100vw, 1300px\" \/><\/p>\n<h2>Conclusion<\/h2>\n<p><span style=\"font-weight: 400;\">Does this analysis necessarily mean that a 30-year loan is right <\/span><i><span style=\"font-weight: 400;\">for you?<\/span><\/i><span style=\"font-weight: 400;\"> Like I mentioned at the beginning of this article, the answer to that question is \u201cit depends.\u201d There are many reasons why a 15-year loan might be better for <\/span><span style=\"font-weight: 400;\">you<\/span><span style=\"font-weight: 400;\"> than a 30-year loan. Maybe you prefer to be debt-free as soon as possible. Maybe you don\u2019t think you have the discipline to reinvest the cash flows as soon as you receive them.<\/span><\/p>\n<p><span style=\"font-weight: 400;\">How you view your life and your personal finances is completely up to you.<\/span><\/p>\n<p><span style=\"font-weight: 400;\">But if your goal is to choose the financing that will help you create as much wealth as possible over time, then a 30-year loan is likely to be a better bet for you than loans of shorter timeframes. <\/span><\/p>\n<p><span style=\"font-weight: 400;\">Just remember, even with a 30-year loan, you begin to deleverage to the point where you are no longer earning returns in significant excess to those historically produced by stocks, on average, about 7-10 years into the loan cycle. <\/span><\/p>\n<p><span style=\"font-weight: 400;\">It\u2019s important to revisit your goals every few years\u2014you might find that it\u2019s time to refinance and buy more property, or you be content to coast on the cash flow you\u2019ve created already, acknowledging the possibility of declining overall returns.<\/span><\/p>\n<p><em>Looking to set yourself up for life as early as possible and enjoy time\u00a0on your terms? Scott Trench&#8217;s new book <\/em>Set for Life<em>\u00a0<a href=\"https:\/\/www.amazon.com\/Set-Life-Dominate-American-Dream\/dp\/0997584718\/ref=sr_1_1?s=books&amp;ie=UTF8&amp;qid=1491332251&amp;sr=1-1&amp;keywords=personal+finance\" target=\"_blank\" rel=\"noopener\">is now available<\/a>! Whether you&#8217;d like to &#8220;retire&#8221; from wage-paying work, become less dependent on your demanding nine-to-five, or simply spend time doing what you love, <\/em>Set for Life<em> will give you a plan to get there. <span style=\"font-weight: 400;\">This isn\u2019t about saving up a nest egg. It\u2019s not about setting aside money for a \u201crainy day.&#8221;\u00a0<\/span><\/em><span style=\"font-weight: 400;\">Set for Life<\/span><em><span style=\"font-weight: 400;\"> is an actionable guide that helps\u00a0readers build the accessible wealth\u00a0they need to achieve early financial freedom.<\/span><\/em><\/p>\n<p><a href=\"https:\/\/www.amazon.com\/Set-Life-Dominate-American-Dream\/dp\/0997584718\/ref=sr_1_1?s=books&amp;ie=UTF8&amp;qid=1491332251&amp;sr=1-1&amp;keywords=personal+finance\" target=\"_blank\" rel=\"noopener\"><img loading=\"lazy\" decoding=\"async\" class=\"alignnone wp-image-87111 size-full\" src=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2017\/03\/sfl_blog_image.jpg\" alt=\"\" width=\"702\" height=\"336\" title=\"\" srcset=\"https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2017\/03\/sfl_blog_image.jpg 702w, https:\/\/www.biggerpockets.com\/blog\/wp-content\/uploads\/2017\/03\/sfl_blog_image-300x144.jpg 300w\" sizes=\"auto, (max-width: 702px) 100vw, 702px\" \/><\/a><\/p>\n<p><em>We&#8217;re republishing this article to benefit newer reader to this blog.<\/em><\/p>\n<p><em>Investors: Do you agree with this assessment?<\/em><\/p>\n<p><strong>Feel free to disagree\u2014just let me know your rationale!<\/strong><\/p>\n","protected":false},"excerpt":{"rendered":"<p>There&#8217;s no &#8220;right&#8221; decision for everyone in the 15-year vs. 30-year mortgage debate. But there&#8217;s a good argument that one allows you to build more wealth.<\/p>\n","protected":false},"author":1676,"featured_media":90215,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"_acf_changed":false,"footnotes":""},"categories":[7402],"tags":[],"class_list":["post-79023","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-traditional-loans"],"acf":[],"comment_count":0,"_links":{"self":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/posts\/79023","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/users\/1676"}],"replies":[{"embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/comments?post=79023"}],"version-history":[{"count":0,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/posts\/79023\/revisions"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/media\/90215"}],"wp:attachment":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/media?parent=79023"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/categories?post=79023"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/tags?post=79023"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}