Investment property success depends on many factors, including the property type, terms, location, and mortgage rate. Making informed decisions relies more on your mortgage term than other factors. Why? Because it determines your qualification and repayment options. A mortgage is classified as either a long- or a short-term loan.
In this article, we'll discuss one of them. But why? Which is better? How should one choose this mortgage term? Let's get started!
What is a Short-term Mortgage?
It's a non-traditional loan. It matures within 15 years. In contrast to a conventional loan, which expires after 30 years, these loan types allow homeowners to build equity faster.
In addition to short-term mortgages benefits, you should consider some other factors. Here we'll discuss the pros and cons of this loan type and how it works.
How does a Short Term Mortgage Work?
Short-term and long-term loans are similar, but the former matures faster. Despite appearances, a deeper look will reveal their differences.
Monthly payments are a regular part of every mortgage. The maximum maturity time for a short-term mortgage is 15 years, unlike long-term mortgages that take up to 30 years. Homeowners can build equity faster and pay off their loans faster.
As a result, short-term mortgages allow for quick repayment. Therefore, this mortgage type has a lower risk than long-term mortgages. This explains the lower mortgage rate. However, your total mortgage loan is lower even though you pay more in monthly mortgage payments.
Short Term Mortgage Advantages
As we've seen so far, the common advantage of short-term mortgages is their shorter maturation period. Additionally, short-term mortgages have some benefits over long-term mortgages. We'll explore these less obvious pros of short-term mortgages.
Mortgages with short maturities are less risky to lenders. Due to short maturity periods, lenders tend to recoup and profit from investments. Since conventional mortgages are less risky, lenders are more lenient about loan requirements and repayment.
In addition, short-term loans usually require less time and effort to verify the information. Why? It's often nonconforming, as they're not insured by government agencies (Fannie Mae, Freddie Mac, FHA, VA, USDA, etc.). There are fewer requirements. Additionally, homeowners are exempt from some payments (like PMI).
However, the lower rate does not necessarily mean lower monthly mortgage payments. If your interest rate is low, your mortgage payment will be lower than if your interest rate is high.
Payoff takes less time.
When comparing both mortgage terms (the long and short-term), most homeowners will choose the long-term. Why? It's cheaper each month. The short-term mortgage has a higher monthly payment, but the overall payment is usually much lower for short-term loans.
Builds equity faster
You can build equity in your property faster with a short-term mortgage since they take less time to pay off. The equity you would have in your home on a 15-year loan after five years will be much higher than the equity you'd build on a 30-year mortgage.
Short-term mortgage disadvantages
Having only basic knowledge of short-term mortgage loans is not enough. Despite the benefits (low-interest rate, short payment term, building equity faster, etc.), understanding the disadvantages will help you invest more wisely. This section discusses short-term mortgage cons. Let's begin!
Higher monthly payments
You would be paying off your mortgage in half the time; you'd likely have to pay a higher monthly payment. With a 15-year loan term, you must pay $2334, while with a 30-year loan, only $1701.
A short-term mortgage loan means higher monthly payments instead of a lower amount. Shorter loan terms offset the higher monthly payments.
Because of the lender's limit, short-term mortgages may be less affordable. For instance, the lender only approves a monthly mortgage payment of $2000.
The homeowner will not qualify for the 15-year loan because $2,334 per month is more than $2000 per month. However, it will qualify only for a $230,000 mortgage.
However, using the same parameters like the example, a 30-year mortgage would be $1,701, well under the $2000 ceiling. The owner could borrow even more.
A short-term loan (like a 5-, 10-, and 15-year mortgage) takes more research. Why? Lenders and borrowers tend to prefer long-term mortgages. It's a nonconforming and non-conventional loan type, which can be requested.
Choosing a short mortgage term requires more research and work. Before taking any short-term loan, do your homework. Avoid scams.
Higher payments can cause payment difficulties
Most homeowners might find it hard to afford short-term mortgages due to their higher monthly payments. Homeowners may opt-in for a short mortgage term without doing sufficient research, but changes in financial circumstances can be a problem for others.
Even if you start well in your mortgage payment, unexpected circumstances can disrupt your finances. That could mean you lose your property, affect your credit score, and disrupt your peaceful life.
Considerations Before Choosing Short-Term Mortgages
Here are some factors to consider before making your final decision about short-term mortgages. Let's talk about some significant factors before opting for short-term mortgages.
Do your math
Check your current and future financial situation before opting in for a short-term mortgage. Your monthly salary? How much do you spend? You can choose the right mortgage term based on your income and expenses.
If your expenses after the likely monthly mortgage cost are more or equal to your income, it suggests the short-term mortgage may not be suitable for you.
In addition, understanding your financial outlook can help you prevent looming danger. It's important to understand what the future might look like in a few years, even if it's uncertain.
If you are close to retirement, consider a short-term mortgage. Why? You can pay your mortgage faster. Nonetheless, if you'll change jobs in a few years, it's best to lower your loan amount or take out a long-term mortgage with an allowance.
Property type is also a significant factor to consider. A short-term mortgage, say a 15-year mortgage, requires knowing if you would qualify for the mortgage attached to the property type.
If you plan to buy a property, you should also think about the type of property you want. Do you think you can afford the home? Would you be better off with a 15-year or 30-year mortgage?
The short-term mortgage has many advantages and disadvantages. It's important to consider the pros and cons of this mortgage type and the necessary factors above before applying. Making informed decisions will help you avoid financial disasters.