Your Mortgage : 15-Year Mortgage Not a Good Idea

QUESTION: I bought my first home in November, 1988, and received an FHA 8.75%, 30-year loan. This is a small condominium unit. I am 45 years old, and will need to work at least 15 more years in order to be eligible for retirement.

I wonder if I should consider getting a 15-year mortgage, as I do not want to be burdened with a mortgage in addition to condominium fees. I would appreciate your advice on the advantages and disadvantages of the 15-year versus the 30-year mortgage.

ANSWER: You have asked two very important questions. One deals with the 30-year versus 15-year mortgage, but the second goes to the question of when and whether to refinance.

Let’s take the refinance question first. In order to switch to either a 15- or 30-year new loan you will have to refinance.

Unless you want to take a one-year adjustable rate, I seriously doubt that you will find a 30-year loan--or even a 15-year loan--for the same rate that you are currently paying. And do not forget that you will have to pay points and other closing costs for your new mortgage.

Each point is 1% of the loan amount, and if you were to refinance for $100,000, I suspect that you would probably pay somewhere between two and three points--or in other words $2,000 to$3,000 for the privilege of refinancing.

Thus, under current market conditions, I do not believe that you should even consider refinancing. The general rule of thumb is that until rates come down at least two full percentage points below your current mortgage, it does not make sense to refinance.

However, you asked about the advantages and disadvantages of a 15-year loan as compared to a 30-year loan.

I am biased against the 15-year loan. While there have been many commentators who have praised what they perceived to be the benefits of a 15-year mortgage, in my opinion, such a mortgage rarely makes sense for the average homeowner.

Let’s look at some examples. You want to compare a $100,000 loan to be amortized on a 30-year basis as compared to a 15-year basis. While there are lenders who may give you a slightly lower interest rate if you take a 15-year loan rather than the 30-year, for comparison purposes, let us assume that both loans will cost 10 1/2%.

To amortize the loan over 15 years, your monthly payment of principal and interest (P&I;) is $1,105.40. On a 30-year basis, the P&I; is $914.74. There is a $190.66 cash savings per month on a 30-year loan. On a yearly basis, this is a savings to you of $2,287.92.

Keep in mind that the interest deductions for tax purposes will, by and large, be the same for the first few years, but as your principal balance goes down faster with the 15-year amortization, accordingly your interest payments will also be smaller.

Thus, the major benefit of the 15-year loan is that you will save a lot of interest over the life of your mortgage. On the other hand, you are also putting up, in our example, over $2,200 a year toward your principal, thereby reducing your mortgage balance and building up your equity.

Equity is the difference between the market value of your house and the mortgage or mortgages which you owe. In good real estate market conditions, property values increase on a yearly basis as much as 10% to 15%.

Even in bad times, we all hope that property values will at least keep up with inflation, although, obviously, there will be dips and decreases in market values on a periodic basis.

But assuming that we anticipate growth over the next decade, the equity in your house will grow regardless of the amount of your mortgage. This equity is “dead equity” and in my opinion, you might as well be taking that extra $2,287 and burying it in your back yard. In effect, that is my analogy for the 15-year mortgage.

I would rather take the extra $2,000 a year and invest it in a conservative, long-term investment for the next 15 years. Even without any computation for interest, this will grow to over $34,000 in the next 15 years. That will be the start of this important nest egg for the rainy day.

However, the advice I give is obviously general. You are advised to discuss your specific needs, plans and tax considerations with your own advisers.

Kass is a Washington lawyer and newspaper columnist specializing in real estate and tax matters. While questions cannot be answered individually, those of general interest will be addressed in this column. Questions and comments may be sent to Kass at 1050 17th St. N.W., Suite 1100, Washington, D.C. 20036. AVERAGE RATES FOR RESIDENTIAL MORTGAGES Average rates for residential mortgages as of Nov. 9, 1990.

Survey Conventional Mortgages Adjustable Mortgages Area 15 Year 30 Year Composite 1 Year Composite National 9.81% 10.13% 9.99% 8.07% 8.37% California 10.05 10.36 10.21 8.35 8.32 Connecticut 9.88 10.20 10.07 8.11 8.35 Wash. D.C. 9.66 10.01 9.85 7.77 8.12 Florida 9.82 10.11 9.98 8.04 8.29 Mass. 9.89 10.22 10.07 8.30 8.64 New Jersey 9.81 10.13 9.99 7.95 8.40 N.Y. Metro 9.90 10.22 10.08 8.10 8.46 New York 10.01 10.32 10.18 8.22 8.56 N.Y. Co-ops 10.22 10.52 10.40 8.47 8.87 Pa. 9.56 9.89 9.74 7.81 7.89 Texas 9.55 9.87 9.72 8.11 8.26

SOURCE: HSH Associates, Butler, N.J.