40-Year Mortgage Creates More Buying Power

The two mortgage programs you'll see touted more than any other are the 30-year and 15-year fixed rate mortgage programs. Most homebuyers use a 30-year, fixed-rate mortgage where the loan program allows for 360 payments with a fixed interest rate. Those who are debt averse (and who are able to handle higher monthly payments) will opt for a 15-year mortgage, while those who are skimping to get into the home of their choice usually go for the lower-payment, higher-interest 30-year.

Generally, a 15-year comes with a lower interest rate, but much higher monthly payment. For a $200,000 mortgage, for instance, the difference between the two payments is nearly $500 (using a 5.75% interest rate).

Thus, you can see why most homeowners who purchase such a property are more willing to put out principal and interest payments of $1,167 for the $200,000 mortgage instead of $1,660.

There's another mortgage animal out there that may be an option for some buyers -- the 40-year mortgage. As average home values continue to outpace average income growth, homebuyers are seeking out how to get into their property of choice and keep their payment as low as possible.

For those stuck on the 30-year concept of mortgages, they may have considered adjustable-rate mortgages to do so. The above loan amount on a 5/1 ARM with an interest rate of 4.51% would cost the homeowner nearly $200 less per month -- but there's not the security of a fixed rate over the years of homeownership.

A 40-year mortgage can provide a low interest rate and a lower payment at the same time. If you spread the $200,000 mortgage over the additional 10 years, the payment drops by $102 per month -- a cash savings of $1,224 per year. However, as you can guess, there are trade-offs. With the lower payments, you lose the ability to pay the loan down as quickly, the equity built up through debt elimination drops and you will pay out $91,400 in interest over the life of the loan.

That sounds like a lot of money -- and it is -- however, the reality is that most people won't stay in a mortgage for the full term (except for maybe the 15-year programs). Just in case you do stay put over the next 50 years, here's the difference in the bottom line for the three above programs:

15-year
Amount: $200,000
Payment: $1,660
Interest over the term: $98,947
Total Payments: $298,947

30-year
Amount: $200,000
Payment: $1,167
Interest over the term: $220,172
Total Payments: $420,172

40-year
Amount: $200,000
Payment: $1,065
Interest over the term: $311,572
Total Payments: 511,572

As you can see, the 15-year obviously allows you to purchase your house for less money, however, it will cost $600 more per month ($7,200 annually) over the 40-year program to do it. Most people I know don't have that type of extra cash. However, most people I talk with have a psychological block when you talk about a 40-year mortgage versus a 30-year loan (even though they'll move before either one is paid off).

The bottom line depends on the homeowner's financial plans. The 40-year loan can be used for two purposes: provide more buying power, meaning a higher priced home; or it provides the buyer with more cash on a monthly basis for saving and investing for future needs, such as retirement or schools funds.

Not all lenders provide the 40-year option, and you'll need to conduct some research to see if the program is right for you.