A Guide to 40-Year Mortgage Rates

The average mortgage loan in the United States spans 30-years, but many personal finance experts encourage borrowers to take loans of just 15-years, as reducing the term can greatly reduce the total interest paid over the life of the loan. But what if a 15-year loan is impossible and even a 30-year mortgage feels like a stretch? What options do you have other than to wait for a bigger down payment and a lower interest rate?

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If you find yourself in this situation, you may qualify for a 40-year mortgage. As the name suggests, this is a home loan that ties borrowers down for four full decades, stretching the mortgage and reducing the monthly payment as a result. 

A 40-year loan can offer several benefits, but it’s not without its issues.

Pros of a 40-Year Term Loan

The path of a mortgage isn’t easy and the higher your mortgage payments are, the harder it becomes. By stretching the loan term, you will increase the amount you pay over the long-term but reduce the cost in the short-term.

Not only does this make mortgage payments more manageable, but it may also help you secure a home loan in the first place.

Mortgage lenders look at several parameters when determining your affordability, including your credit score. One of the most important parameters, however, is something known as a debt-to-income ratio, or DTI.

Your DTI compares your earnings to your debt payments, calculating how much of your gross income is being spent on interest payments and fees every month. If this figure climbs above 43%, they may refuse to give you a mortgage, as the risk of default increases significantly and you become more of a liability.

To calculate your DTI, lenders will add your mortgage payment to your credit card, student loan, car loan, and personal loan payments. 

If your unsecured debt costs you $1,000 every month and you have an income of $4,000, then a $1,000 mortgage might be out of the question as it raises your DTI to 50%. However, by extending the loan term to 40-years, you can reduce this monthly cost, lower your DTI, and secure the mortgage.

Cons of a 40-Year Term Loan

The biggest issue with a 40-year term is that the loan balance increases significantly when compared to a 30-year loan. The mortgage rates don’t have to change for this to be the case. Simply by extending the term, you’re increasing the length of time the interest has to compound and accumulate, which means your lower monthly payments will save you a few bucks in the short-term and cost you tens of thousands in the long term.

For example, let’s assume that you have a 5% fixed-rate mortgage with a total loan amount of $200,000. With a term of 15-years, you will repay over $284,000 during the term and $1,581 every month. 

Increase this to a 30-year term and you’ll pay $508 less per month and $102,000 more over the term. Increase this again to a 40-year term and the monthly payment drops by another $100, while the total cost increases to $462,000.

We used a simple mortgage calculator to arrive at this estimation, and you can run the same calculations yourself to see just how damaging those extra ten years will be. On the one hand, you’re paying $100 less a month, a saving that is always welcome. But it’s coming at a huge cost and means you’re repaying more than the house is worth in interest alone.

And that’s assuming you don’t pay a higher interest rate, as many lenders will increase your mortgage interest when you add more years to the term. You’ll still have a smaller monthly mortgage payment, but you’ll have an even greater balance to worry about.

A shorter-loan will also allow you to build equity faster, and the more equity you have, the sooner you can stop paying mortgage insurance.

Should You Go For a 40-Year Mortgage?

40-year mortgages are not easy to come by these days, and even if they were, you should probably stay clear. Although long-term loans like this can increase your chances of qualifying for a mortgage, they’ll also bleed you dry over the term. For the sake of $100 a month, you’re repaying tens of thousands more during that final decade.

Of course, this fact doesn’t put first-time homebuyers off.
Low-income, high-DTI applicants still try for 40-year loans because they see these loans as the only chance they have. They focus purely on the monthly savings and ignore everything else.

It’s understandable to want to speed things along and not waste any time, especially if you’re a first-time buyer and you’ve already waited many years. 

However, homeownership is one of the biggest and most expensive commitments you can make. It’s something that will have an effect on your life for the next few decades and could dictate how financially secure you are when you reach retirement age.

The Bottom Line

A longer-term mortgage can provide you with additional options, saving you money every month and making those initial expenses (moving fees, closing costs) less daunting. It could be your ticket to that new home you have your eye on, and may allow you to act without delay, secure a mortgage, and start the ball rolling.

But if you make that decision now, you’ll likely regret it in 20, 10 or even 5 years. The marginally lower payment isn’t going to make you feel better about your situation when you think about the tens of thousands that you’ve added to the balance, and you’ll be pretty annoyed with yourself when you hit the 30-year point and realize that you still have 10 years left!

This is not a decision you should rush into. Speak with your broker, lender or real estate agent; ask friends and family and take some time out to think it through. 

Once the excitement dies down and the desperation fades, you’ll be more willing to take things slowly. And when you do, you may realize that it makes more sense to spend a few months/years saving for a bigger down payment or a better DTI, thus improving your mortgage terms and increasing the rate at which you build equity.