Successfully buying investment property depends on many factors, which include the property type, mortgage term, location, mortgage rate, etc. While the other factors contribute to making informed decisions, your mortgage term is more important. Why? It can define the amount you can qualify for and your mortgage repayment plan. Know that mortgage terms are classified into two: the long- and the short term mortgage.
So, in this article, we’ll be discussing extensively one of these — the short-term mortgage. What does it mean? What are the pros and cons? And what are the factors to consider before opting in for this mortgage term? Without further ado, let’s dive in!
What Is a Short-term Mortgage?
Short-term mortgages are non-conventional loan types. These mortgage types mature in under 15 years. Unlike the conventional loan, which takes an average of 30 years to expire, these loan types allow homeowners to pay off their mortgage faster and build equity in the property in a short period.
Although short term mortgages offer several benefits, there are some other things you need to know before making your decision. In the coming sections, we’ll discuss everything you have to know about how this loan type works and its pros and disadvantages.
How Does a Short Term Mortgage Work?
While both short term and long term loans have similar working mechanisms, the former takes more time to mature than the latter. So, although the long- and short-term look superficially the same, a deep study will expose their difference.
It’s a conventional thing with every mortgage that homeowners need to make monthly payments. So, unlike long-term mortgages, which take about 30 years to mature, a short-term mortgage takes a maximum of 15 years to reach maturity. That means the homeowner can pay off their loan in a shorter period and build equity in the property faster.
Moreover, the short maturity period of short term mortgages makes it possible to pay off the loan quickly. That means this mortgage type is usually less risky compared to long-term mortgages. And for this reason, the mortgage rate is lower than conventional loans. So, even though you’re paying more in monthly mortgage payments, your total mortgage loan is significantly lower than the long-term mortgages.
Advantages of Short-Term Mortgages
As we’ve discussed so far, the common advantage of a short-term mortgage is that it takes a lesser period to mature compared to a long-term mortgage. While this is a significant reason, there are some other benefits of the short-term mortgage over the long-term ones. Here, we’ll discuss these other less obvious pros of short term mortgages.
Low Interest Rate
Lenders consider short-term mortgages less risky because of the time it takes to mature. Because of the short maturity period, lender tends to recoup their investment and profit from the property faster. And so, since it’s not as risky as the conventional mortgage, the lenders are usually considerate about loan requirements and repayment.
Moreover, verifying user information and data for short-term loans is usually less stressful and quicker. Why? Most short term mortgages are usually non-conforming, i.e., they’re not insured by government agencies (like the Fannie Mae, Freddie Mac, FHA, VA, USDA, etc.). So, the requirements are mostly less stringent. Plus, homeowners are not required to make some payments (like private mortgage insurance (PMI) and so on).
However, one thing to note is that the lower rate doesn’t mean that your monthly mortgage payment will be cheaper than the long-term mortgage. Low interest means your overall mortgage will be lower than that of the long-term mortgage with a high-interest rate.
Takes Lesser to Pay Off Loan
Superficially looking at the monthly mortgage payment of both mortgage terms (the long and the short-term), most homeowners will prefer to opt-in for a long-term mortgage. Why? Its monthly mortgage is cheaper. But a deeper look into both (short- and long-term mortgage) terms will show that though the short-term monthly mortgage is more expensive, the overall payment is usually significantly cheap for short-term loans.
Helps Build Equity Faster
Since short term mortgages take less time to pay off, you can pay off your mortgage fast and build equity in the property in a short period. For example, the equity you’d have in your home on a 15-year loan after five years of mortgage repayment will be significantly more than the equity you’d build on a 30-year mortgage in the same period.
Disadvantages of Short-term Mortgages
Knowing only the advantages of a short term mortgage loan isn’t enough for making informed decisions. Although the benefits may be convincing (low-interest rate, short payment term, building equity faster, etc.), knowing the disadvantages will help you make better real estate investment decisions. So, in this section, we’ll discuss the cons of short term mortgages. Without ado, let’s dive in!
Higher Monthly Mortgage Payment
Since you’d be paying back your mortgage in half the period required by a long-term mortgage, you’d likely be required to pay a higher monthly mortgage. In our previous example, a 15-year mortgage term requires you to pay $2334 in the monthly mortgage, while a 30-year mortgage requires you to pay only $1,701 monthly.
So instead of paying a lower amount, getting a short term mortgage loan means you’d be paying a higher monthly mortgage. A shorter loan term will compensate for the higher monthly mortgage payment.
Less Affordable
A short term mortgage is less affordable because you (the borrower) might be limited to specific properties depending on the lender’s approved limit. For example, if the lender only approves the borrower to take a mortgage of $2000 per month for the monthly mortgage payment.
Using the previous example above, the homeowner won’t qualify for the loan with a 15-year term because the monthly payment of $2,334 is well over the $2000 per month limit. But will only qualify for a $230,000 mortgage using the same parameters as above.
Whereas, if the borrower applied for a 30-year mortgage (also using the same parameters like the example), the monthly mortgage payment would be $1,701, well under the $2000 limit. And even the prospective homeowner has the allowance to, even, borrow more.
Less Popular
Finding short-term loans (like 5-, 10-, and 15-years mortgages) requires more work. Why? Short-term loans are less popular among mortgage lenders and borrowers. These loan types are non-conforming and non-conventional, which means they’re special loan types, and may be available on request.
So if you’re looking to opt-in for a short mortgage term, you need more research and work. Also, you should perform your due diligence before opting in for any short-term loan. That’ll prevent you from falling victim to fraud.
Higher Monthly Payments Might Result in Payment Inability
Since short-term mortgages require you to pay more monthly than conventional mortgages, most homeowners might find it hard to make up for this. While some homeowners may opt-in for a short mortgage term without doing necessary researches, changes in financial circumstances can cause others to find it hard to pay their monthly mortgages.
Even if you start well in your monthly mortgage payment, your finances may be disrupted in the not-so-distant future because of unplanned circumstances. And this could lead to the inability to make your monthly payment, which can make you lose your property, affect your credit score, and even disrupt your peaceful life.
Factors to Consider Before Opting In for Short-term Mortgages
Now that you understand what short-term mortgages are, their advantages, and disadvantages, let’s discuss the factors to consider before making your final decision. In this section, we’ll discuss some significant factors you need to consider before opting in for short-term mortgages.
Check Your Finances
One of the significant factors, if not the most important factors, to check before opting in for a short-term mortgage is your current and future financial state. What’s is your current monthly salary? What are your expenses? Tracking your income and expenses will help you make an informed decision about the most appropriate mortgage term for you.
For example, if your expenses are more or equal to your income after the likely monthly mortgage cost is deducted, it shows that the short-term mortgage may not be suitable for you or you need to reduce your loan amount.
Alternatively, understanding how your future financial outlook will look can also help prevent looming danger. Although you cannot be definite about the future, you should also briefly know what the future could look like in a few years.
For example, if your retirement is near, you can opt-in for a short-term mortgage. Why? Short-term mortgages let you pay up your mortgage faster. However, if you’ll be changing jobs in a few years, it’s advisable to put an allowance in your expenses either by reducing the loan amount or applying for a long-term mortgage.
Type of Property
Another significant factor to check out is the type of property you want to invest in. Since the size of mortgage you can qualify for depends on the monthly mortgage you are approved for, when you want to opt-in for a short-term mortgage, say a 15-year mortgage, you need to know if you would qualify for the mortgage attached to the property type.
So before opting in for a 15-year term mortgage, you should also check the type of property you want to buy. Can you afford the property based on the lender’s gauge? Should you continue with the 15-year mortgage or opt-in for a 30-year mortgage?
Should You Opt-in for a Short-term Mortgage?
Short-term mortgages come with several advantages, as well as, disadvantages. So before you go all into applying for this mortgage type, you should consider the pros, cons, and the necessary factors discussed above. This way, you can make informed decisions that won’t affect your finances in the long run.
So answering the question: Should you opt-in for a short-term mortgage? The answer is: it depends on several things, like personal preference, finances, future prediction, and so on.
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