The talk of the housing industry in the past week has been the possibility of a 50-year mortgage. President Donald Trump and Federal Housing Finance Agency director Bill Pulte announced they are working toward making this loan vehicle a reality.
The value proposition for home buyers seems intuitive: address affordability by helping more people qualify to become homeowners and lower monthly payments by prolonging the payback period. In particular, this approach could attract younger buyers given the longer loan period.
The plan is not without drawbacks. In particular, the longer terms could mean higher-than-average interest rates and a substantial reduction in the equity homeowners could gain. This is not even addressing the legality of a 50-year mortgage. The Dodd-Frank Wall Street Consumer Protection Act includes the Qualified Mortgage rule which does not include a 40- or 50-year mortgage.
While the topic remains top of mind, NewHomeSource parent company Zonda explored several potential ramifications of a 50-year mortgage.
1. Lower Monthly Principal Payment, More Interest
Under a 50-year mortgage, the monthly payment would decrease by about 12%. Assuming a $0 down payment and a 6.2% interest rate, a borrower purchasing a $500,000 home would pay $3,059 per month with a 30-year fixed rate mortgage and $2,703 per month for the same home with a 50-year mortgage.
However, there is more to consider than just a lower monthly payment. Mortgages are made up of interest payments and principal payments. In the early years, borrowers pay a disproportionate share of their monthly mortgage payment to interest.
A borrower with a 30-year fixed rate loan will pay roughly 2.2 times the original loan balance in interest. With a 50-year loan, that balloons to over three times. Assuming the rates are the same for a 30-year and 50-year mortgage, the average borrower would pay 87% more interest over the course of their home loan.
2. Longer Term, Higher Rate
While the examples above make apples-to-apples rate comparisons, this is likely not to be the case. From the lender’s perspective, the longer the loan period, the more risk they incur. With the increased risk, it’s not a stretch to assume a 50-year loan would carry a higher interest rate than a 30-year loan.
Assuming a 1% difference between the two loans (6.2% for 30-year vs. 7.2% for 50-year), the cost savings present in the previous example evaporates. In fact, the monthly payment under a 50-year mortgage would be more than the 30-year mortgage.
3. Slow Equity Build and Retirement?
Under a 50-year mortgage, homeowners would build equity at a much slower rate. Borrowers hit 50% equity by approximately year 21 of a 30-year fixed rate mortgage; with a 50-year mortgage, it would take 39 years to reach that same point.
Additionally, consider the length of the loan. Traditional arguments in favor of homeownership are that individuals will pay off their mortgage while they are still working and will then have a free and clear asset come retirement. When the length of the loan term is 50 years and the average age of a first-time buyer is 40, that math becomes a lot more difficult.
Bottom Line
“We’re fully supportive of the administration’s efforts to explore solutions that improve housing affordability. There’s a generation of potential homeowners who have been locked out of the market due to rising costs,” says NewHomeSource chief economist Ali Wolf.
“While expanding mortgage options like a 50-year loan could help more people qualify, the long-term tradeoffs, such as minimal monthly payment savings, higher expected interest rate on the loans, slower equity building, and extended debt into retirement, mean it may not be the ideal solution.”
