Whether you are a homeowner or real estate investor, you have several mortgage options to choose from when purchasing a property.
Long-term loans provide a fixed interest rate for the life of the loan — usually 15, 20, or 30 years.
A 30-year mortgage is the most common loan and has the lowest monthly payment due to the length of the loan.
Those who are looking for a lower monthly payment look at other loan options — like a 40-year mortgage. A 40-year mortgage offers the consistency of a 30-year mortgage but provides a more affordable monthly payment.
Though it has this advantage, the truth is that you’ll wind up paying far more overall when using a 40-year mortgage.
Let’s look at a 40-year mortgage and why it can be troublesome long-term for home buyers.
What is a 40-Year Mortgage?
A 40-year mortgage is a real estate loan similar to a 15, 20, or 30-year mortgage, except it has a longer repayment period.
This extra ten years helps lower the monthly payment.
However, the additional years on a 40-year mortgage means you will pay more interest by the end of the term than you will on a loan with a shorter term.
How Does a 40-Year Mortgage Work?
A 40-year mortgage can be a bit of a hybrid loan because of the different ways lenders offer it.
It may have a fixed interest rate and monthly payment for its full term, just as a 15 or 30-year mortgage does. The first ten years of a 40-year mortgage might only require an interest-only payment. During these ten years, the borrower can also pay on principle if they wish.
This will help lower the payment for the last 30 years.
Some lenders may provide a 40-year mortgage in a five or 10-year annual renewable term loan for all or part of the 40 years.
A 40-year mortgage with this structure may also have a balloon payment due at some point.
Advantages of 40-Year Mortgage
A 40-year mortgage offers these advantages:
Lower Monthly Payment
With the loan stretched out for a greater time, the monthly payment is less for a 40-year mortgage than for a 30-year mortgage, a tremendous advantage.
More Buying Power
Because of the lower monthly payment, a 40-year mortgage may allow you to buy a higher-valued home that you otherwise couldn’t afford.
Disadvantages of 40-Year Mortgage
Compared to the advantages, there are more disadvantages to a 40-year mortgage. These include:
Higher interest rate
A 40-year mortgage rate can be 25% to 50% higher than a 30-year mortgage rate.
This is because the 40-year mortgage places the lender at risk for a longer time.
Most lenders do not offer a 40-year mortgage, so it may take some time to find one who does, another disadvantage.
Using a 40-year mortgage, it takes longer to build equity.
A monthly loan payment has two primary components:
Your payment gets applied first to the interest due on the loan balance and then to the principal.
This portion applied to the principal is part of your equity.
In the early life of the loan, the lender applies the majority of your monthly payment to the interest.
As the principal decreases, this trend reverses, and more money gets applied to the principal.
The longer it takes to repay the loan, the more time it takes to build equity because of the amount of your payment that gets spent on interest.
Ultimately Costs More
Although the monthly payment for a 40-year mortgage is lower, they cost more in the end.
The additional cost is not only due to the 40-year mortgage rate, but also because of the extra ten years of interest the borrower pays.
Calculating a 40-Year Mortgage Calculator
How much will a 40-year mortgage cost compared to a 30-year mortgage?
A lot more.
Let’s compare a 40-year mortgage to a 30-year using a 40-year mortgage calculator.
Instead of using a higher 40-year mortgage rate, we will use the same rate for both to gauge the cost difference created by the number of years.
You can use the 40-year mortgage calculator for both mortgage terms in our example by adjusting the loan term.
In this example, the 40-year mortgage monthly payment is $222.66 lower each month.
But a 40-year mortgage borrower will pay over $70,000 more by the end of the loan than they would with a 30-year mortgage.
If you’d like to calculate your own rates, you can use this free mortgage calculator to get a cost estimate for a 40-year mortgage.
Alternatives to 40-Year Mortgages
If your interest in a 40-year mortgage is due to the lower monthly payment, consider these alternative options before committing.
Larger Down Payment
Almost every mortgage-related document you read mentions a 20% down payment requirement for a home loan.
However, the average down payment today is closer to 6%.
A larger down payment on a 30-year mortgage can reduce your monthly payment.
There are other loans available with no, or very low, down payments and lower interest rates.
Even better, there are ways to use these loans to invest in real estate.
Buying mortgage or discount points — fees paid directly to the lender at closing — can help lower your interest rate.
Points cost around 1% of your mortgage, or $1,000 for every $100,000. One point equals a 0.25% interest rate deduction.
Buying down your interest rate helps lower your monthly payment and in some cases can be cheaper than paying a larger down payment.
The Bottom Line: Avoiding a 40-Year Mortgage
Whether you are shopping for your last family home, or investing in real estate, decide what you wish to accomplish with your next real estate purchase.
Do you want to think short-term and have a lower monthly payment? Or do you want to think long-term and keep the total cost of your new home as low as possible?
Knowing the answers to these two questions, and crunching the numbers with a 40-year mortgage calculator will help you determine which loan is right for you.