FHA Interest Rates: How Much Can You Save with a 15 Year Loan?
It’s no secret that 30-year mortgages are the more popular option for first-time homebuyers. With your loan stretched out over a long period of time, you’ll have lower monthly payments and be able to use more of your income for other needs besides housing.
Still, the 15-year option is worth considering, especially if you are eager to pay off your mortgage early and own your home outright.
Homebuyers who haven’t saved a huge down payment, but want to save money in the long run may be perfect candidates for a 15-year FHA loan. Will a 15-year loan squeeze your wallet too tightly? Just how much money can you save?
We’ll explain how you can decide whether a 15-year FHA mortgage is the right loan for you.
FHA loans are loans that are insured by the Federal Housing Administration. The maximum FHA loan varies based on the cost of real estate in a particular area, but $275,665 is the maximum FHA loan size for one unit across most of the country.
Anyone buying a primary home can use an FHA loan, but it has quickly gained a reputation as a great first-time homebuyer loan. That’s likely because FHA has more lenient underwriting requirements than conventional mortgage loans, and requires smaller down payments.
To qualify for an FHA loan, you only need to have a credit score above 500. Applicants with credit scores between 500-579 will need to put 10% down on their FHA loan, but applicants with a credit score above 580 can put down just 3.5%.
For the benefit of qualifying for a mortgage with a lower credit score or a low down payment, FHA loan borrowers will have to pay a 1.75% upfront mortgage insurance payment. In most cases, FHA borrowers also make annual mortgage insurance payments (via an escrow account) until they pay off the mortgage. Borrowers who put down at least 10% only pay annual mortgage insurance premiums for 11 years.
People taking out a 15-year FHA mortgage won’t save on the upfront mortgage insurance premium, but they will save money on the annual premiums. Mortgage insurance for a 3.5% down purchase is 85 basis points (.85%) for a 30-year mortgage, but 70 basis points (.70%) for a 15-year mortgage.
How much can you save with a 15-year FHA Mortgage?
Taking out a 15-year FHA mortgage means you’ll pay a bigger monthly payment, but the savings over the life of the loan can be substantial compared with a 30-year loan. People taking out a 15-year mortgage save money in three ways:
- Lower interest. 15-year borrowers pay a lower interest rate (on average) compared to 30-year borrowers.
- Less mortgage insurance. 15-year borrowers pay less in annual mortgage insurance premiums.
- Mortgage is paid off sooner. A 15-year payoff schedule means more money goes to principal and less to interest over the course of the loan.
Just how much can 15-year borrowers expect to save? The exact details depend on the interest rates they face.
We modeled a borrower taking out $250,000 at 2.75% (3.9% APR) for 15 years, and the same borrower taking out $250,000 at 3.25% (4.5% APR) for 30 years.
In both cases, we assumed the borrower financed the 1.75% upfront mortgage insurance premium and paid the loan as agreed.
In this scenario, the borrower pays $600 more each month for a 15-year mortgage — ouch. But here’s the good part: they also save over $125,000 in interest and mortgage insurance costs over the life of the loan.
|15-year vs 30-year savings|
|Loan Term||APR||Monthly Payment||Upfront Mortgage Insurance Premium||Total Interest Paid over the life of the loan||Total Annual Mortgage Insurance Premiums||Total Cost of Loan|
Pros of a 15-year FHA mortgage
A 15-year FHA mortgage doesn’t just mean you’ll save thousands of dollars. These are a few of the substantial benefits of taking out a 15-year mortgage compared with a 30-year FHA loan.
Lower interest rates
Real offers from the LendingTree show that people shopping for the best loans can expect to save around 25 basis points (.25%) on their mortgage rate by taking out a 15-year FHA loan. Over the life of the loan, this can lead to substantial savings. Comparing offers from multiple lenders can help 15-year borrowers maximize their savings.
Lower mortgage insurance premiums
Most borrowers taking out a 15-year FHA loan will pay 0.70% in annual insurance premiums compared with 0.85% for a 30-year loan. The lower premiums lead to a $375 annual savings on a $250,000 loan.
Build equity faster
In the early stages of a loan, a greater proportion of your payment goes to interest compared with the principal loan balance. The specific amount that goes to principal versus interest depends on the amortization schedule. No matter the interest rate, borrowers begin to build equity faster with a 15-year mortgage compared with a 30-year mortgage.
When you take out a 15-year loan at 3.25%, 61% of the first payment goes to paying down your principal. By comparison, just 38% of the first payment on a 30-year, 3.25% interest rate loan goes to principal.
Commitment to grow your net worth
A 15-year mortgage can be a great way for young people to commit to growing their net worth. Since 15-year borrowers are required to make large monthly payments, they will rapidly grow their wealth by building up home equity. People who struggle to save money for the long term may appreciate that they can use mortgage payments as a way to grow their wealth automatically.
Makes overbuying difficult
People borrowing on a 15-year FHA loan face the same debt-to-income buying constraints as people borrowing on a 30-year note. That means banks won’t lend as much money to 15-year borrowers compared with 30-year borrowers. The smaller loan means borrowers won’t qualify for as large of a home loan which makes it difficult to buy an unaffordable house.
Lindsey Stringer, author of “Mortgage Free! In 3,” advises first-time homebuyers to take on a 15-year mortgage, so they won’t overbuy. Stringer explained, “I would not buy as much house as you can. Buy what would make you comfortable and be a decent investment. You don’t want to buy as much as a bank will lend you … in general, a 15-year mortgage will help you stay on track.”
Save money over the life of the loan
Between faster equity building and lower mortgage insurance premiums, homebuyers can expect to save tens of thousands of dollars over the life of the loan when they take out a 15-year loan. For many people, this is the most compelling reason to choose this mortgage.
Cons of a 15-year FHA mortgage
Choosing a 15-year mortgage means a paid-off home sooner, but it also comes with some major drawbacks.
Can’t qualify for as expensive a house
The same debt-to-income requirements apply to people taking out 30-year and 15-year mortgages. If you’re looking to buy as much home as possible, a 15-year FHA mortgage isn’t the right loan for you.
Upfront mortgage insurance drives up loan costs
Whether you’re taking out a 15-year or 30-year FHA loan, you’ll pay an upfront insurance premium of 1.75% of the total loan value. Fifteen-year borrowers spread this cost of upfront insurance over 15 years rather than 30. On an annualized basis, the upfront mortgage insurance costs more for a 15-year mortgage. This means that the APR for a 15-year loan will be higher than a 30-year loan with an identical interest rate.
Less financial flexibility
A 15-year mortgage means higher monthly payments. A higher payment can reduce your overall financial flexibility. The big monthly payment associated with a 15-year mortgage may leave you in a vulnerable situation if you lose some or all of your monthly income. That’s why many homebuyers may choose to start off with a 30-year mortgage but make additional payments over time to pay down the loan faster. Worst-case scenario, they still can pay the lower monthly payment that comes with a longer-term loan.
Even if you retain your earnings, the several hundred-(or even thousand) dollar difference in monthly outflow could mean that you can’t take advantage of other compelling financial opportunities. Something as simple as taking advantage of your employer’s company match in a 401(k) could become burdensome with a massive monthly house payment.
More money locked up in your house
Building real estate equity isn’t a type of wealth that’s easy to liquidate. Taking out a home equity line of credit could be an option, but there is no guarantee that you’ll qualify for it when you need the money. Some people prefer to build wealth in more liquid investments.
Quicker loss of tax deductions
The faster you pay off your home, the less interest you’ll pay overall. In the past, rapid payoff had some negative tax consequences. Since homeowners can deduct interest that they pay on loans, paying less interest left 15-year borrowers with a smaller deduction compared with 30-year borrowers. On top of that, 15-year borrowers saw their home interest deductions diminish faster than 30-year borrowers.
Technically, this remains true under the new tax reform bill, as explained by LendingTree subsidiary MagnifyMoney. But the bill raises the standard deduction. As a result, most FHA mortgage borrowers will no longer benefit from itemizing their taxes regardless of whether they choose a 15- or 30-year mortgage.
Is a 15-year FHA mortgage right for you?
The long-term savings associated with a 15-year mortgage payoff can be in the tens of thousands of dollars, but is the savings worth it for you? To decide between a 15- and 30-year mortgage, you need to ask yourself a few questions:
- Can I afford a 15-year monthly payment?
- How well could I afford a 15-year payment if I experience a job loss?
- Do I like the idea of forced savings?
- Does a 15-year mortgage leave me with any extra cash, or will all my income go into my house?
- Do I have better ways to invest my money than in a primary home?
People who can easily afford the 15-year payment with cash left over may find the savings worth the extra cash flow. Those who will feel squeezed under the 15-year plan may need to choose the 30-year mortgage instead.
Tips to eliminate your 30-year mortgage in less time
Even if you have a 30-year mortgage, you can eliminate the mortgage in less time. Most banks don’t have a mortgage prepayment penalty, so you can make extra payments whenever you want.
Some people choose to make 15-year payments on their 30-year note. This gives them the flexibility of a 30-year mortgage but means they will pay off the loan in 15 years. You can calculate the payment for a 15-year loan for a mortgage of your size using this calculator. Then each month you can make the 15-year payment, even though you have a 30-year mortgage. Just be sure that the extra payment goes to “principal only.” You may need to work with your mortgage company to ensure that everything is working the way it should.
Another way to shave time off your mortgage is to make a half payment every two weeks. With this strategy, you’ll make 13 full payments every year instead of 12. This will save thousands in interest payments and knock a few years off your mortgage.
Anyone looking to eliminate their mortgage even faster can consider an aggressive plan to eliminate their mortgage in under a decade. Stringer, who paid off her home in just 19 months, claimed, “A family with an average income could eliminate their mortgage in 7 to 10 years if they stay focused.”
The first step in Stringer’s mortgage payoff plan is creating a budget. “It’s the best way to see what your money can do for you,” she said. From there, she advises a willingness to be a little uncomfortable. Little things like walking more, eating leftovers, and buying a smaller house will leave you with extra cash to eliminate the mortgage sooner.
Stringer advises putting as much extra money towards the mortgage as you can each month. “If you’re serious about eliminating, you’ll want to put every extra dollar you can toward your mortgage.”
Choose the mortgage payoff plan that fits your life
A 15-year mortgage means substantial savings, but it comes at a high monthly cost that many people can’t handle. Weigh the savings against the flexibility, and consider methods to pay off a 30-year mortgage faster, too. Ultimately, the right mortgage for you depends on your financial priorities even more than on the total cost of the loan.
Once you decide on the loan you want, be sure to compare rates at multiple lenders so you can get the best mortgage for your home.