Sooner or later, you may be faced with choosing the best mortgage for yourself or your family at your stage of life.  Regardless of what the choices are, some basic principles are reasonable to consider. For example, affordability, timing, market volatility, and wisest use of money or credit.  To help you with the wisest use of money principle, let’s look at a $200,000 mortgage from a couple of perspectives.

From Bank of America as of 7/10/18, mortgage information is as follows for a $200,000 mortgage:

Mortgage Type Rate Points Monthly Payment
30-year 4.50% .858 $1,013 ($12,156 / year)
15-year 4.00 .829 $1,479 ($17,748 / year)

So which one is better for you? Here are a couple of comparisons you could do to help you decide which is the wealthier mortgage option:

  1. calculate the amount of investment needed at a specified interest rate to pay the points, and then “make the payments” for the life of each loan option; or
  2. calculate how much wealth you could accumulate by year 15 if you used the 30-year mortgage and invested the difference in payment amounts.

(Note:  For illustration purposes only. The Choosing Wealth™ Calculator uses annual amounts; monthly compounding would be slightly different. Some values will be rounded to the nearest $1.00. Your assumptions and results will vary.)

OPTION 1)

If you had enough money to pay for the house in cash versus taking out a mortgage, but thought you could earn 5% on your money if invested, you would calculate the amount of investment needed at that rate so you could withdraw enough to make the payments each year, plus pay the points up front.

In our scenario, points on the 30-year mortgage would be $1,716 (i.e 200,000/100*0.858). Points on the 15-year mortgage would be $1,658.

To calculate the investment needed to pay the 30-year mortgage using the Choosing Wealth™ Calculator you would:

1. Enter 12,156, your first-year payment amount, then select

2. Enter 0, since it is a fixed mortgage, then select

3. Enter 30, the number of years payments would be made, then select

4. Enter 5, the annual rate of return you assume you could earn, then select

5. Select

The amount displayed, $196,211, is the investment required to make the payments on the 30-year mortgage. Add the points you would pay ($1,716), and the total investment needed is $197,927.

To calculate the investment needed for the 15-year mortgage using the Choosing Wealth™ Calculator, you would:

1. Enter 17,748, your first-year payment amount, then select

2. Enter 0, since it is a fixed mortgage, then select

3. Enter 15, the number of years payments would be made, then select

4. Enter 5, the annual rate of return you assume you could earn, then select

5. Select

The amount displayed, $193,429, is the investment required to make payments on the 15-year mortgage. Add the points you would pay ($1,658), and the total investment needed is $195,087.

In this case the 15-year mortgage would be the wealthier choice.

But what if you felt you could earn an average 7% on your money? In that case, the investments needed would be:

Mortgage Type Investment plus Points Total Investment
30-year $161,403 + $1,716 $162,119
15-year $172,963 + $1,658 $174,621

And, the 30-year mortgage would actually be the wealthier choice.

Why? When the investment earns a higher rate of return, smaller payments coming out allow more of the invested money to continue growing.

OPTION 2) Investing the difference in payments for 15 years.

At that point you could either keep those savings working for retirement and make the remaining mortgage payments out of annual income, which hopefully would be higher than at the start, or have the money saved “make the remaining payments.” Using the Choosing Wealth™ Calculator, the steps below will calculate the wealth that would accumulate at both 5%, and 7%. (note: Annual savings = $17,748 – $12,156 = $5,592 / year.):

1. Enter 5,592, your first annual investment amount, then select

2. Enter 0, no increase since the amounts are fixed, then select

3. Enter 15, the number of years in your investment plan, then select

4. Enter 5, the annual rate of return you assume, then select

5. Select

The amount displayed, $120,667, is how much the different in payments, invested at 5%, would be would be worth in 15 years. Assuming the investments earned 7% a year, the value in 15 years would be $140,521.

As you can see, whether the 15-year mortgage or the 30-year mortgage is most favorable depends on what you choose to do, and whether you are looking at comparing the “investment cost” or the “investment wealth.”