The process of buying a home is emotionally exhausting. One key element is how you plan on financing your home. The first seeds of home ownership are typically sewn in connection with one or more events; marriage, children, and job success. With that kernel of change, we leap into a world of options including why, when, where, and how.“What home price can I afford to buy? How will I finance my needs?" These are the questions that inevitably become the topic of discussions.Today is about the “how” part.
Some people start by working with a bank or a mortgage company to help frame out the financing options, while others start looking at homes and get to the point where they need help in understanding what they can afford. Either way we find ourselves on the doorstop of the financing source. The most common mortgage is the good ole 30-year amortizing mortgage that has been with us for generations. Most of us know the principle of amortization, where a fixed monthly payment of principal and interest are paid typically a monthly basis.
What you’ll notice is that in a 30-year amortization schedule, most of the monthly payments over the first five years or so go to interest, not to principal reduction. With the new tax laws, you may or may not be able to write off all the interest. The longer the duration of the loan, the longer it takes to build your home equity. That may or may not be a bad thing. Also, some banks and mortgage companies offer 10, 15, and 20-year terms. Here are what all four terms look like on one chart:
You clearly see the differences between the choices. It takes about 5 ½ years to pay off half of your 10-year mortgage, and just over 19 years to pay off half of your 30-year mortgage.
On the fringes of home financing are the interest only loan and the 40-year mortgage. Interest only loans offer the lowest monthly payment but there is no amortization until the interest only period expires, anywhere from 5-7 years later. The 40-year mortgage also features a lower monthly payment but come with a higher interest rate than most of us would want to pay. There are circumstances where these two options might be worth considering, but they would be rare.
The key to choosing which type of mortgage is best for you lies in your ability and willingness to save outside of your home. If you’re a millennial, take note that your parents likely have 60% or more of their net worth in their home. The average is closer to 70%. That’s not good. You don’t want to have all your eggs in one basket. So, if you’re looking to buy your first home, a shorter mortgage may not make sense, unless you have the capacity to save outside of your home. The shorter your loan period, the more quickly you build equity, and you have to be careful that you don’t concentrate all your wealth in your home. Yes, that means you have the opportunity to tell your parents how smart you are for not overlooking your total wealth creation and wealth management plan. And if you want to be even smarter, you need to look at our EFI shared equity product.
As we have described on several articles before, a co-investment from EquiFi allows you to reduce mortgage payments, save more outside the home and better manage your cashflow. Getting an EFI means no monthly payments to EquiFi, no interests and no deadlines, until you are ready to sell, decide to prepay or pass away. The EFI not only is the way to get your ideal home without breaking the bank, but it is also the way to start managing your finances and living life on your financial terms. A simple suggestion is to use the EFI to reduce your monthly payments and take at least half of the savings and start creating wealth outside of your home. Thanks for reading this post. It’s always nice to have you here!