In the first quarter this year, 31 percent of refinancing borrowers reduced their loan term by paying off a 30-year loan and replacing it with shorter term loan, according to Freddie Mac.
In the fourth quarter of 2007 when Freddie first started recording the statistic on a quarterly basis, only 7 percent of borrowers with 30-year fixed-rate loans were switching to a 15-year fixed-rate ones when they refinanced.
Today, low rates and the desire to regain equity are the big draws.
For the week ending Aug. 2, the 30-year fixed rate mortgage (FRM) was at a low 3.55 percent and the 15-year FRM was at 2.83 percent, up just slightly from record lows the week before, Freddie Mac reported.
Short term loan benefits
If you do the math, using Realtor.com's June median home price of $195,000 rounded up to an even $200,000, you'll see a 30-year $200,000 FRM, at 3.55 percent would cost $903 a month in principal and interest payments. Over the life of the loan, you would pay $125,325 in interest.
Compare that to a 15-year FRM at 2.83 percent - $1,365 a month and $45,677 total interest, and you'll see the benefits.
With the shorter term, there's an opportunity for many homeowners to pay off their home before retirement and use the equity to make up for losses that drained retirement accounts.
For underwater homeowners, those with mortgage balances larger then the value of their home, the shorter term can help them rebuild equity nearly twice as fast as with a 30-year loan.
A larger chunk of equity also puts the home in a better position to sell, should the need arise.
Short term loan risks
However, shorter term loans come with a much larger payment, in this case, $462 a month more for the 15-year loan, compared to a 30-year mortgage.
The higher payment may not be in your best interests.
• You'll have a tougher time qualifying for a larger payment. If you just made the debt-to-income ratio cut with the $903 payment, you might not pass muster with a higher payment.
• If you hit a financial bump in the road before you've regained sufficient equity to tap, you'll be stuck with the larger payment. You could get divorced, you or your spouse could lose your job or suffer reduced income. Refinancing back to a 30-year mortgage in a short period of time could be tough.
Before you shorten your loan term, be sure you have financial backup to handle the unforeseen. You should have socked away enough to cover payments, not for the standard six-months, but given economic uncertainty, for a year or more - $15,000 to $20,000 for the 15-year loan mentioned above. And that's in addition to a separate retirement nest egg.
Turn your 30-year loan into a 15-year deal
If you don't have the financial back up or can't qualify for the shorter term loan, keep in mind you can always whittle down your 30-year mortgage balance, reduce your interest costs and shave months off the term by making larger payments each month.
On the 30-year $200,000 FRM, at 3.55 percent, just an extra $100 a month for only 12 months would save $2,141 in interest over the life of the loan and shorten the loan term by three months.
At $200 extra for a year, the savings double up and seven months gets knocked off the term.
Make the 15-year payment for the duration of your 30 year loan and you've nearly written your own 15-year loan, cutting almost 14 years off the term and saving $62,810 for the life of the loan.
Broderick Perkins parlayed 30 years of old-school journalism into a digital real estate news service offering "News that really hits home!" His Silicon Valley bootstrap, DeadlineNews Group includes DeadlineNews.Com and the Deadline Newsroom.
