Owning house for 3 years. 15 or 30 year mortgage?

Question

I'm about to move to a new area and will be living there for 3-4 years and then moving to another area (I'm in the military and move every 3-4 years) and I'm thinking that buying a house there is my best bet. I'll probably be selling it when I leave so I only need a mortgage until I sell it and I'll just pay off whatever's left. (I know what you're thinking, it would probably be easier to just rent. I'm going to lose about $65,000 in 3 years to rent a decent place there.)

In the end a 30 year will be about $1100 a month and a 15 year will be about $1700.

It looks like after 3 years (probably when I sell it) this is what I'll be left with, it's the same for both 15 and 30 year mortgage: $25,500 in interest, $230K owed 36 monthly payments: 30 year - $39,600 15 year - $61,200

It looks like I'll save about $21,000 in the end with a 30 year mortgage. Is there something that I'm missing? Is there any reason for me to do a 15 year?

Answer 1

You said that you figured the interest you will have paid over the first 3 years will be the same with the 15- and the 30-year mortgages. That is not quite accurate.

Let's look at the numbers.

From the monthly payment numbers you gave, it looks like you were figuring on a 4.0% rate. That seems quite high, as the current national average mortgage rates are currently 2.86% for a 15-year fixed rate and 3.61% for a 30-year fixed rate. Since you are planning on selling in 3 years, you could potentially get an even better rate by getting an adjustable rate mortgage; the current national average for a 5-year adjustable rate is 2.80%. However, rates can vary locally and with your credit situation, so I'll assume that 4.0% is the best rate you can get for either a 15-year or 30-year mortgage. (If you can get a lower rate, you could save quite a bit, even in only 3 years.)

For a $230K, 15-year mortgage at 4.0%, over the next three years, here is what you would pay:

• Monthly payment: $1,701.28 ($61,246.08 over 36 months)
• Total interest paid in first 36 months: $25,561.08
• Remaining principal after first 36 months: $194,314.92
• Equity in house, assuming no change in value: $35,685.08

If, instead, you went with the 30-year mortgage at 4.0%, here is what you are looking at:

• Monthly payment: $1098.06 ($39,530.16 over 36 months)
• Total interest paid in first 36 months: $26,877.06
• Remaining principal after first 36 months: $217,347.07
• Equity in house, assuming no change in value: $12,652.93

So the difference in interest paid between the two options in the first three years is a little over $1,300.

Because of the larger payment, the difference in equity after 3 years is much greater: over $23,000. The reason this is important is that, with only 3 years between the time you buy the house and the time you sell it, there is no guarantee that the value of the house will go up in that time. The value could just as easily be less three years from now. With the 30-year mortgage, you are only putting in $13k toward your principal, and if the value of the home drops, you could find yourself upside-down in the mortgage. With the 15-year mortgage, you would be putting in over $35k toward your principal, and could withstand a much larger drop in value before you find yourself underwater.

Having said that, the difference in equity between the 15- and 30-year mortgages is offset by the amount you save in payment each month. Therefore, if you hold on to your extra $600 per month you don't have to pay with the 30-year, your difference between the two options is only the $1,300 interest. If you spend the $600 per month, you could find yourself in trouble.

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As for your rental option, there are a few things missing from your comparison:

1. If you buy, you will need to pay property tax. As a renter, the property taxes are included in the rent.

2. If you buy, you will need to pay homeowners insurance. As a renter, you only need much less-expensive renters insurance.

3. If you buy, you are at risk for a downturn in the housing market when you want to sell. As a renter, you simply walk away after 3 years.

4. If you buy, you are on the hook for any maintenance costs that come up, from a leaky faucet to a leaky roof. As a renter, the landlord is responsible.

5. Selling a house every 3 years generally means that you will be paying various closing costs (realtor commission, appraisal, title insurance, etc.) every 3 years. This will eat away at any equity you would be gaining in the mortgage. If you are renting, this is not a concern.

Answer 2

As others have noted, you are failing to consider transaction costs.

In my part of the country, realtors typically charge 6 to 7% commission on a sale. Assuming Ben Miller's numbers are accurate -- not saying I doubt him, just that I'm not going to bother doing the calculation if he's already done it -- with a 30-year mortgage, your equity is about $13,500. The realtor's commission on the sale will be about 6% of $230,000 = $13,800. Your entire equity is wiped out at time of sale.

Plus when you buy you typically have to pay loan origination fees, appraisal fees, and various legal fees, typically around $2,000.

And bear in mind, in real life you do not decide to sell a house and the next day count your money. It often takes months to sell a house. Some people find they can't sell for anything like what they paid and have to take a substantial loss. If you live in a house for 20 years and then lose $10,000 on the sale, you might well say, hey, that comes to less than $50 per month that I lived there, no big deal. But if you only lived there 3 years, it's a substantial percentage of your cost. If it takes many months to sell, that's months that you're paying two mortgages. Plus if there's no one living in the house, you have to worry about vandalism, damage from severe weather, etc.

I'd be very cautious about buying if I knew I was going to move away in 3 years.

Answer 3

The 15 year mortgage will be less expensive. Here is why: The additional cost of the 15 year mortgage is going primarily to equity in the house. This means that when you sell, you will (ideally) get this money back. You are also paying less interest with the 15 year mortgage.

However, look at your numbers! The cash outlay of a 15 year mortgage is about the same as renting.

The 30 year has another problem. You are putting almost no money towards equity in the house in the first 3 years. This means that you are exposing yourself to the risk of a market slump. You may not be able to sell you house for enough to pay the loan balance in 3 years. This is called being upside-down on your mortgage. Since you will be required to move, that would impose a financial burden - forcing you to rent the property or sell for a loss. Consider if you would want to be a long-distance landlord if you buy.

Finally, don't neglect adding in the cost of taxes, insurance, closing/selling costs, and maintenance. These expenses will add significant cost, and may make a rental look like the best choice.

It still may be in your best interest to buy based on the market and your individual situation, but make sure you are comparing apples to apples.

Answer 4

Retired military here. 4 house deals under my belt, so I speak from experience (3 good ones, one bad one). Here are the three variables:

• transaction costs (I was able to minimize these twice by purchasing new construction)
• the benefit of mortgage tax deductions (if you are US)
• whether the house will appreciate or depreciate in value (rising or falling market)

The last bullet (market value) benefited me once, and hurt me real bad once.

For the short term buyer, here's your simple flow chart:

• if I expect housing prices to appreciably go up, I'll purchase
• if I expect house prices to go side ways or decline, I'll rent

Regarding 30 or 15 year mortgage: go with the 30, and make extra payments. It gives you the best of both worlds.

Update: If in US, I suggest a VA backed mortgage. They are more economical. Also if you run into problems they are easier to work with.

Answer 5

Lets say you put 5% down hold for 3 years and evaluate 15 vs 30 year mortgage. The 15 year will put more money in your pocket at todays dollar value, but if you factor in opportunity cost of reinvesting the difference (30 yr pymnt/month - 15 yr pymnt/month) x (12*3) and put that amount into a fixed financial vehicle, you may be able to work out a better situation. OR invest the money into say some small cap index fund and buy a double short option of that index expiring in 1+ years to hedge against your investment. This is arguable to investment into property so if you buy yourself a house and take that difference again but add a bathroom, garage etc. depending where you live, the sale price might beat the previous two suggestions. In short, how much are you willing to risk/how much time up front analyzing options? AND are you more of a handyman and more comfortable going that road? AND can you afford to sit on that cash for 3 years if something unexpected happens?