You spend months searching for the place of your dreams. You bid on a couple only to lose them to other higher-paying buyers. Finally, you succeed. You find a place you love. Your bid is the one accepted. And then comes the crushing news that since mortgage rates have climbed significantly in the months since this quest began, you may not be able to afford it. What's a prospective home buyer to do?
A handful of mortgage lenders are suggesting 50-year loans may solve two problems — yours and theirs. Here's the low-down:
What's the benefit of a half-century mortgage?
Home prices in many parts of the country have squeezed a lot of buyers out of the market. They find they don't have the ability to swing the monthly payments on places they actually want to live in. One way to reduce those payments is to stretch out the amount of time you have to pay that money back. Thirty-year mortgages are the norm. Forty-year mortgages are already considered fairly run-of-the-mill, representing about 5 percent of all home loans. Fifty-year mortgages are another variation on that theme.
How much money will I save on my monthly payment?
Not as much as you might think. The 50-year loans we're seeing right now are predominantly 5-1 hybrid adjustable rate mortgages (ARMs), according to Keith Gumbinger of HSH.com, the mortgage information publisher. This means their payments are fixed for the first five years, then will adjust with interest rates.
Let's look at an average-sized mortgage — $275,000.
- If you financed it with a 30-year 5-1 ARM, your interest rate would start at 6.4 percent and your monthly payment would be $1,722.
- If you financed it with a 40-year 5-1 ARM, the bank is taking a little more risk so your interest rate would be about 1/4 percent higher, or 6.66 percent. Your monthly payment would be $1,642.
- If you financed it with a 50-year 5-1 ARM, we'll hold the interest rate steady (since the banks are pushing these products) at 6.66 percent. Your monthly payment would be $1,583.
50-Year Mortgage ($275,000 loan)Term------Interest Rate---Monthly Payment----Savings30-year----6.4%----------$1,722-------------40-year----6.66%---------$1,642--------------$8050-year----6.66%---------$1,583--------------$139Total savings over five years: $8,340
If I'm looking for a cheap monthly payment, is this the best I can do?
Not necessarily. That same 30-year 5-1 ARM taken on an interest-only basis (at the same interest rate of 6.4 percent) would give you a monthly payment of $1,469 a month. Over five years that would save you $15,180 — nearly twice as much — over the original 30-year 5-1. However, interest-only loans are riskier. Although it's important to understand that with a 50-year loan you will build equity very, very slowly, you will in fact build equity. That's not the case in the early years of an interest only product. Also, with a 50-year loan, you don't run the risk of owing more on the house than you borrowed — which is a greater possibility with an interest-only loan or an option-ARM, which lets you pay even less than the interest each month.
Some people say they're just the latest marketing gimmick. Is that true?
It's definitely a part of the picture. "Mortgage lenders are getting craftier to get the attention of consumers," says Anthony Hsieh, president of LendingTree.com. Housing starts are down. Sentiment among builders is lower than it's been in a decade. And prices in many parts of the country are in a lull. Result: Mortgage originations are falling enough to cause lenders to scale back their businesses. Ameriquest shut its retail branches last week. Washington Mutual closed a lending division. Lenders are going to do what they can to generate interest for their products — and adding a 50-year-loan to the menu is one way to make noise.
So, who are these right for?
Interestingly, they're not right for people who believe they'll be in their house 40 or 50 years. If you think this is going to be your forever house, locking yourself into a loan with a term this long means that on that $275,000 loan you'll pay hundreds of thousands of dollars more in interest. Rather, they're right for people who are looking to live in a particular house or neighborhood for the next five years — and plan to get out or refinance before the adjustment hits. The key, says Hsieh, is for consumers to "slow down and make sure they understand" whatever products they're looking at.
Will refinancing be possible?
Doug Duncan, chief economist for the Mortgage Bankers Association thinks so. He points out that interest rates run in cycles. "Right now, the Fed is in a tightening cycle. They did that in 1994, then in 1999, and within two to three years rates fell, giving people a chance to refinance." In fact, we've had a chance to refi once every five years in the recent past: in 1993, 1998 and 2003. "If the economy is strong, then shows signs of weakening, the Fed is likely to start cutting rates again," Duncan notes.
Jean Chatzky is an editor-at-large at Money magazine and serves as AOL's official Money Coach. She is the personal finance editor for NBC's "Today Show" and is also a columnist for Life magazine. She is the author of four books, including "Pay It Down! From Debt to Wealth on $10 a Day" (Portfolio, 2004). To find out more, visit her Web site, .