Mortgage rates are marching toward 5%, and home prices are at a record high. Should you consider a 40-year mortgage?
While a 30-year mortgage seems like a long time, a 40-year loan seems like an eternity. But financing the loan over an extra 10 years will bring down the monthly payment, which is getting so high that it is squeezing hundreds of thousands of people out of the housing market.
The principal and interest on a 30-year fixed-rate mortgage of $300,000 at 4.8% is $1,574. That same loan financed for 40 years at that same fixed rate lowers the payment to $1,407.
Benefits and drawbacks of longer loans
Before you sign on the dotted line, consider the downside. Kristina Morales, a Realtor in Cleveland, Ohio, said lower monthly payments come at a cost.
“The obvious downside is how much more a borrower pays in interest compared to a 30-year fixed mortgage loan,” Morales told ConsumerAffairs. “The longer the loan, the more the borrower pays in interest. I have seen mortgage simulations where a borrower using a 40-year mortgage would pay in interest alone almost what they paid for the home – in essence, almost doubling the cost of the home.”
Of course, that assumes the homeowner pays the mortgage for the full 40 years. The average for owning one particular home is about eight years. But even in a short-term situation, homeowners will pay more in interest on the first payment than they would on the same loan financed for 30 years.
“If you get a $300,000 30-year mortgage at a 5% interest rate, you'll pay about $24,500 in principal in the first five years, and pay almost $280,000 in interest in 30 years,” Holden Lewis, home and market insights expert at NerdWallet told us. “With the same amount and interest rate on a 40-year loan, you'll pay about $13,400 in principal in the first five years, and more than $394,000 in interest over 40 years.”
A 40-year loan makes sense for some people
That said, a 40-year fixed-rate mortgage might be preferable to an adjustable-rate mortgage (ARM), especially at a time of volatile interest rates. For all its faults, both Morales and Lewis said they would recommend the longer fix-rate loan over an ARM.
“As I talk with my lender partners about ARMs, they are saying that there is not a huge discount in the rate like we would historically see,” Morales said.
For someone struggling to qualify for a mortgage, Morales said it might make the most sense to take out a 40-year loan. As the borrower begins to earn more money, they could apply some of that extra cash to pay down the principal each month, which would lower interest costs.