The Pros and Cons of 40-Year Fixed Loans

By Carey Pott

With interest rates going up and property values starting to appreciate at a slower rate or flatten out, a new kind of loan has started to become more popular. The 40-year fixed loan allows you to amortize the loan over a 40-year period instead of the usual 30 years. This results in a lower monthly payment, which can come in handy when rates are higher. There are some pros and cons to this type of mortgage. I will explain why I personally don’t like these loans except in special circumstances.

The main advantage of a 40-year fixed loan is that your monthly payments are lower. Since this loan is typically fully amortized (a small amount of principle is paid down monthly), the loan balance will slowly decrease each month. This is the main advantage of a 40-year fixed loan over an interest-only loan if your goal is to pay down principle. Another advantage is that while most interest-only loans have minimum FICO requirements of approximately 580, a 40-year fixed loan is available if your FICO score is as low as 500.

One of the main cons of getting a 40-year fixed loan is that over the course of 40 years, you end up paying a LOT more interest than a 30-year loan, with a payment difference that is fairly negligible. For example, on a 30-year fixed loan of $300,000 a borrower will end up paying $647,000 in principle and interest over the course of the loan. This is scary enough, but on a 40-year fixed it’s much worse – with the same loan amount the borrower ends up paying $843,000 after 40 years. And the worst part of all is that for the extra $196,000 the borrower ends up paying after 40 years, they end up with a monthly payment that’s only $45 lower!

Another disadvantage of 40-year fixed mortgages is that you end up paying a higher interest rate for the privilege of paying the lender so much more interest. Rates for a 40-year fixed are about 0.5% higher than a comparable 30-year fixed loan. This doesn’t sound like much, but over 40 years it adds up to a significant amount more interest – almost $200,000 in our example above! This is also part of the reason why the monthly payment difference isn’t very big between the two loans – although the payback period is lengthened, the interest rate is higher and the two almost even out.

One last thing that most people, including loan officers, don’t realize about 40-year fixed loans is that most of the time, especially in the sub-prime market, you can’t even keep the loan for 40 years. Most lenders write the loan with a balloon payment, which means that although the mortgage is amortized over 40 years, it’s actually due in full after 30 years. If you’re considering a 40-year fixed loan, make sure your loan officer explains the program to you completely and read the note carefully to make sure you’re getting what you think you’re getting. As you can see, there are a lot more cons to getting a 40-year fixed mortgage than there are pros. So why would anyone want to get a 40-year fixed? The only time I recommend them is when the monthly payment difference of $50-100 makes a huge difference to you AND you don’t qualify for an interest-only loan. Interest-only loans are a much better way to keep the payments down, but as I mentioned above there are minimum FICO requirements that not everyone can meet. Only in these situations do I recommend 40-year fixed loans.

If you’re considering one of these loans I would highly recommend you look at a 30-year fixed loan instead if you plan on keeping the loan for an extended period of time, or an interest-only loan instead if the lower monthly payments are more important and you qualify. Just like any other mortgage, a 40-year fixed loan is a tool to accomplish a certain goal and it might be the right tool for you. Regardless it’s important that you speak with an experienced mortgage consultant who can guide you through the process.

Carey Pott has been a licensed mortgage broker for over four years and built a successful mortgage company, January Financial. For more information, go to http://www.januaryfinancial.com.

Carey has also partnered with a real estate attorney, Rand Rodman, to create a fantastic ebook called the Home Buying Codex. For more information on this exciting new ebook, check out http://www.homebuyingcodex.com.

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