Thinking outside the home mortgage box
One of the great advantages today’s home buyers have over their grandparents — and even their parents — is the amazing flexibility available with home loan mortgages. Just a generation ago virtually everyone thought in terms of a 30-year loan that would be paid off just before retirement.
This traditional mortgage allowed millions of Americans to buy and pay off their homes while building equity. Unfortunately, many of them actually ended up paying off their house several times when all the interest costs were totaling up over those three decades. Even worse, many homeowners would refinance their existing loans into new 30-year loans and took 40 or more years to own their homes debt-free.
The reason for this extra cost is that only a small part of the monthly mortgage payment goes to reduce the principal of a loan in the early years. For example, let’s look at a 30-year loan of $250,000 with an interest rate of 3.87 percent.
This loan would require a monthly payment of principal and interest of $1,140. In the first year, you would pay a total of more than $13,000, and only $4,532 of that amount would go toward the balance. After five years, your total payments would be greater than $65,000, and your mortgage payoff would still be $225,000.
That means if you refinanced in five years, even to take advantage of a lower rate, you would be back at the top of that interest payout and be further behind the curve. To make the financial impact even more significant, many people refinance with a higher balance, taking out some of their equity and adding it to the mortgage. This creates something of a negative cycle that affects your long-term savings and value.
An Attractive Alternative: The Flex Loan
As noted above, you can now take advantage of a new approach to refinancing that puts the interest clock working for you — and not against. While you may find different companies promoting this concept under other brands, the concept works the same. Refinancing with a shorter-term flex loan is something like having your cake and eating it, too.
This approach to refinancing allows you to take advantage of lower rates while keeping your original payoff date and saving years of additional interest payments.
In our example, we assume an initial mortgage of $250,000 payable over 30 years at 3.92 percent. With monthly payments of $1,182 over five years, the homeowner still owes $224,039 on the home. If that balance is rolled into a new loan at the same rate, the payment drops to $1,059. However, there are now 60 additional payments before the mortgage is retired.
However, if that principal is rolled into a new 25-year mortgage, the monthly payment is slightly higher at $1,173. Of course, if the refi is into a lower rate, the payment drops as well. However, even in the example with the same rate, this homeowner eliminates that monthly payment 60 months earlier, and nets a savings of nearly $30,000 in interest costs.
If you are considering a refinance of your existing loan, a qualified mortgage professional will take the time to explain this type of flex loan options. Even if you have not considered such a refinance, you might find taking such a step makes an excellent addition to your overall retirement strategy. Be sure to consult with your tax and professional advisors to determine what works best for you, but don’t miss the opportunity to think outside the traditional mortgage box.
Anthony VanDyke is the president of ALV Mortgage in Salt Lake City.