Let’s play a game of true or false:
- A large down payment will save you more money over time than a small down payment.
- A 15 year mortgage will save you more money over time than a 30 year mortgage.
- Making extra principal payments saves you money.
- The interest rate is the main factor in determining the cost of a mortgage.
- You are more secure having your house paid off than financed 100%.
Every single answer is false. Let’s talk about these common myths one at a time.
- If you make a larger down payment your monthly payment WILL be less. But you didn’t necessarily save more money. You have to calculate the opportunity cost on giving up that down payment. If you had kept the down payment invested in your portfolio, it could have been worth much more at the end of the mortgage period than the difference in monthly payments.
- Many people argue they can pay off their home in 15 years and save on interest. Take a look at the example below showing the difference in monthly payments between a 15 year mortgage and a 30 year mortgage invested at the same interest rate.
- If you make extra principal payments you will save on interest, and you will also lose the ability to EARN interest on those dollars you are sending to the bank.
- By talking about these common myths, we have discovered there are many factors when determining the cost of a mortgage. Especially opportunity cost.
- This myth is tricky because it doesn’t talk about cash flow. If you make a large down payment, take a 15 year mortgage, and make accelerated principal payments you are going to really restrict cash which will effect your savings ability during those 15 years. If you make a minimal down payment, take a 30 year mortgage, and invest any extra money each month, you are going to be in a much stronger financial position. In 15 years you could pay off the house with all the savings you have accumulated over the 15 years, or you can keep your money earning interest and continuing paying off the house at the same time. This second scenario puts the options and control in YOUR hands though.