15-year vs. 30-year mortgage: what the numbers really say

Choosing a mortgage term looks like a detail next to choosing the house, but it is one of the largest financial decisions in the whole purchase. The same loan can cost well over $200,000 more or less in interest depending on how long you take to repay it. The right choice depends less on the math than on what you do with the money the decision frees up.

The example

Take a $400,000 home with 20% down, leaving a $320,000 loan. Shorter loans are often offered at a lower rate, so assume 6.5% for 30 years and 5.75% for 15 years. These rates are only an illustration; plug in the ones you are actually quoted.

30-year loan at 6.5%: a monthly payment of about $2,023 in principal and interest, and roughly $408,000 of interest over the life of the loan.

15-year loan at 5.75%: a monthly payment of about $2,657, and roughly $158,000 of interest in total.

The 15-year loan costs about $635 more every month, and saves about $250,000 of interest. It also ends fifteen years earlier.

Why the gap is so large

Two effects stack up. The shorter loan usually has a lower rate, but the bigger effect is time. Interest is charged on the outstanding balance, and a 15-year loan pays the balance down much faster. After ten years, the 30-year borrower still owes about $271,000 — most of the original loan — while the 15-year borrower owes about $138,000.

In the early years of a 30-year mortgage, most of each payment is interest. That is not a trick; it is simply what happens when a large balance is charged interest for a long time. Shortening the term means the balance spends fewer years being large.

The case for the 30-year loan

A lower required payment is flexibility, and flexibility has real value. The extra $635 a month can build an emergency fund, cover a job loss or a new baby, or go into investments. If that money is invested and earns more than the mortgage rate after tax, the 30-year borrower can end up ahead — though that depends on actually investing the difference, every month, for years, and on returns that are never guaranteed.

A lower payment also makes it easier to qualify for the loan in the first place, because lenders compare the payment with your income.

The case for the 15-year loan

The 15-year loan is a forced savings plan with a guaranteed return equal to the interest you avoid. It suits people who already have savings set aside, whose income comfortably covers the higher payment, and who want to own their home outright before retirement or before children reach university age. It also removes the temptation to spend the difference.

The middle path: a 30-year loan with extra payments

There is a third option. Take the 30-year loan for its lower required payment, then pay extra whenever you can. Paying an extra $635 a month on the 30-year loan above — the same total as the 15-year payment — clears it in about 16 years and saves about $208,000 of interest. That is less than the 15-year loan saves, because the rate is higher, but you keep the right to drop back to the lower payment in a hard year.

Even a smaller amount helps. An extra $200 a month on the 30-year loan clears it in about 23 years and saves about $105,000 of interest. Before relying on this strategy, check that your lender allows extra payments without a penalty and applies them to principal.

Questions to answer before you choose

Can you afford the higher payment with room to spare, after saving for emergencies and retirement? How secure is your income? Are you likely to move or refinance within a few years, in which case the long-run interest saving matters less? And would you really invest the difference if you took the longer loan? Honest answers to those questions usually settle the decision faster than any table of numbers.

Compare both terms with your own price, rate, and down payment in the mortgage calculator. It shows the monthly payment with tax and insurance, the total interest, a 15/20/30-year comparison, and what extra payments would save. If you are weighing paying down the mortgage against investing, the compound interest calculator shows what the monthly difference could grow to.