Even if math wasn’t your best subject in school, most of us understand that we can save a considerable amount of money by choosing a shorter loan period when we take out a mortgage, a car loan, student loan or any other type of loan. For instance, if you take out a 30-year $400,000 home loan with a 5% interest rate, you will end up paying a total $352,023 in interest over the life of the loan. On the other hand, if you were to take a 15-year $400,000 home loan at the same interest rate, your total interest paid would be $161,371, a savings of $190,652!.
This logic is simple and compelling, but reality can be trickier. The monthly mortgage payment for the 30-year loan in the example above would be $2,563. In the 15-year loan scenario, you would be expected to pay $3,579 per month on your mortgage. As much as a homeowner may want to choose a shorter loan, shelling out $1,000 extra each month can represent a huge financial strain.
Going for the shortest loan time frame isn’t always the answer, especially if you worry about your ability to make the payment each month. A better solution in these situations is to choose a longer loan period but make it a habit to over pay each month when you can. This way, you can still cut a significant amount of interest off your final bill while maintaining the flexibility to pay a lower amount when you have other financial obligations in any given month.