The 30-year fixed-rate loan does not usually get its due as an amazing financial tool that should be utilized by any savvy investor who can get it. For many foreigners, it’s incomprehensible that in the U.S. we can get a loan that will never keep up with the cost of living for 30 years. During that period, essentially everything else DOES keep up with the cost of living, including rents. Only the mortgage payment and balance (which also gets chipped down by amortization) do not keep up with inflation.
You can talk to many borrowers who have taken 30-year fixed-rate loans and after, say, 16 years, realized that although there are 14 years remaining to pay off the loan, the loan balance AND the payment seem very low relative to the marketplace rents and prices. The remaining 14 years is almost meaningless since in many cases (statistically and historically) the loan balance will be a small fraction of the home price and not very “meaningful.” Just to get some perspective, most other countries on earth have loans that constantly adjust based on inflation. Both the payment and the balance track inflation all the time, usually with no yearly and lifetime caps as adjustable loans have in the U.S.
The power and positive effect on one’s financial future get magnified when you consider that in 2016 we are still in a period in which interest rates are very low. While investors cannot get the same favorable loans as homeowners, it is nevertheless quite common nowadays to see investors getting a rate of between 4.25% and 4.75% on Single Family Homes (SFHs) investment properties.
From a historical perspective, these are extremely low rates. Most experts think that in the future, mortgage rates will rise; from a historical perspective, even 7% is considered a low rate. Thus, these days, you can “turbo boost” the great power of the never-changing-30-year fixed-rate loan by also locking in these amazing rates which will never change. If in the following year’s interest rates indeed go up, you will feel quite good about having locked under-5% rates forever.
Many investors think that if a 30-year fixed-rate loan is good, then a 15-year loan must be better. I actually beg to differ. You can always pay a 30-year loan in 15 years (or 14 or 20 or 10 or 8) if you wish – just add some extra to the principal payment. However, you cannot pay a 15-year loan off in 30-years. Thus the 15-year loan FORCES you to make the higher payment while the 30-year loan gives you the important flexibility of keeping your payments low OR making them high based on your financial situation and other considerations.
Some would say that the 15-year loan is also better since it has a better rate. True, the 15-year rate maybe 0.25% or even 0.5% better than the 30-year rate. However, in my opinion, this is not enough to justify the enormous loss in flexibility. In addition, having the loan for a longer time allows inflation to “erode” the loan even further. This last consideration greatly minimizes the argument some investors make that “…with a 30-year loan I pay hundreds of thousands of dollars more over the life of the loan.”
One factor missing here is that they neglect the TIME VALUE OF MONEY! These extra dollars paid in year 20, 22, 28, etc., are in fact extremely “cheap” dollars in the sense that their buying power is greatly lowered over time. If the value of these future dollars were to be calculated based on the PRESENT buying power of the dollar, some of the later payments may be worth mere pennies on the dollar.
In summary, I recommend getting a 30-year loan and then choose how long to take to pay it (anywhere between zero and thirty years – you choose!).
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By Kathleen Madigan (WSJ)
Updated Dec. 31, 2014 12:41 a.m. ET
Yearly growth in home prices across the U.S. continued to moderate early in the fourth quarter, suggesting the housing market may be settling into a more sustainable recovery.
Prices nationwide increased 4.6% in the year ended in October, according to the Standard & Poor’s/Case-Shiller home-price report released Tuesday. That was down from 4.8% in September and a far cry from the 10%-plus gains in the first quarter. A 20-city measure more closely followed by economists increased 4.5% over the year in October, also down sharply from double-digit gains earlier in the year.
Demand for housing has slowed significantly in recent months despite stronger job growth, a rebound in consumer confidence and falling gasoline prices, which puts more money into consumers’ pockets. Sales of both new and existing homes fell in November. Yet the slowing trend is a positive for the 2015 housing outlook, say economists who follow the industry.
Price appreciation of about 5% is close to a sweet spot where more buyers are able to purchase a home and current owners accumulate housing wealth, but the market avoids a price bubble that could trigger a financial crisis, as happened in 2007.
“It’s a healthier market because first-time buyers feel more comfortable about coming in,” said Bill Banfield, vice president of capital markets at mortgage lender Quicken Loans, adding that the industry needs more first-time buyers to buy smaller homes that allow existing owners to move up into new construction or to an existing house that better suits their needs.
For 2014, however, first-time buyers accounted for only 29% of existing-home sales, according to data from the National Association of Realtors, much less than the historical norm of 40% for sales of primary residences.
Economists at IHS Global Insight agree slower price appreciation is positive for the housing outlook. “Home appreciation at a reasonable pace makes homeownership an attainable dream,” said Stephanie Karol, a U.S. economist at IHS Global. A repeat of the double-digit growth seen in early 2014 “would risk producing a bubble,” she said.
But just as each real-estate market is local, she pointed out the Case-Shiller price index of 20 cities masks the individual pricing experience going on across the country.
“Prices are rising fastest in cities such as San Francisco where geographic or legal constraints limit new construction,” Ms. Karol said. Cities with fewer zoning laws and more space—such as Charlotte, N.C., and Phoenix—are seeing smaller price gains.
Still, the average home-price gain of about 5% is good, she said, and IHS Global is upbeat about home demand and prices in 2015. The forecasting firm projects home prices, as measured by an index compiled by the Federal Housing Finance Agency, will increase 5% over the course of next year and sales of new and existing homes will average 5.92 million, up from 2014’s current pace of about 5.3 million.
Here is a link to the Wall Street Journal U.S. Housing Market Tracker: