Over the past year, the Trump administration has made affordability a central focus. I don't think this is a bad idea. Inflation continues to rear its insidious head and the wealth gap continues to widen in our country – squeezing the lower and middle class when it comes to everyday items like groceries, gas, and home items. While I won't get into the political mire, I think a more ground up approach is, however, warranted. And no potential policy illustrates this better than the proposal for 50 year mortgages.
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Make no mistake. They are a bad idea. And even the idea of them undermines the exact issue of affordability.
Allow me to explain.
The basics of debt and mortgages
Starting at the beginning, a mortgage is a loan on a house. And like most loans, it is a form of bad debt. That means that, until you pay off the mortgage, you pay interest on this loan.
Unfortunately, I would wager that most Americans, including highly educated doctors, think that the best strategy for managing mortgages in general is to make minimum required payments and string it out as long as possible.
Why?
There are two prevailing sentiments:
- By taking as long as possible to pay of the loan, the bank or mortgage company loses by getting their money back as slow as possible, and
- The misguided notion that your primary home is your best asset, will always invariably appreciate in value, and this offsets the risk of holding a mortgage on it
There's reasons that people think this. First is because it kind of seems like it would work. You make small payments every month that often do not make a huge dent for you. This seems better than paying high lump sums that sting initially.
And second is because this is exactly what the mortgage companies want you to think!
Why the banks want you to die with your mortgage
Let's start by again examining how debtors like mortgagers make money.
Interest.
They lend you money. And they charge interest every day based on the principal amount left on the loan until the day that it is all paid off.
The more you let the loan sit around without paying it off, the more interest they collect. And even if you pay it off, the less you pay, the greater the principal remains and the more interest they collect on it.
By dying with you debt, you don't win. They win!
That is exactly what they want you to do. That's how they stay in business. Your bank's worst nightmare is for you to pay off your mortgage as quickly as possible.
So, with this in mind, let's look at 50 years mortgages…
The basics of 50 year mortgages
Conventional mortgages traditionally come in two flavors: 30 years and 15 years. That in itself is a long time. Especially considering that the average home owner stays in their home 11 to 15 years.
But doctors are likely even worse. A significant proportion of doctors leave their first job within 5 years. That means, unless they stay in the same town, they are selling and buying a new home.
So, the average mortgage term is already way longer than the average length of time someone will keep living in their home.
So, why do we choose longer term mortgages?
The answer is pretty simple: we choose longer mortgage terms so that our monthly minimum payments are lower.
This makes the payments feel more affordable. Playing with the length of the loan also allows people to “fit” their mortgage payment into their budget. For instance, let's say you can budget $2,200 for your mortgage payment. But the 15 year mortgage payment comes to $2,800/month. Well, by expanding the term to 30 years you can get that payment down into your budget.
But this comes at a high price. Because while the monthly payments are lower, the number of months that you are paying increases drastically. This means that the amount of interest you will pay and the ultimate final “price” that you will pay for the house after the mortgage ends is astronomically higher!
Let's look at some numbers
Let's take a $400,000 home that you will purchase with a 20% down payment at an interest rate of 7% (close to current rates).
With a 15 year mortgage, here's what your numbers look like:
| Term | n (months) | Monthly Payment | Total Paid | Total Interest |
|---|---|---|---|---|
| 15 years | 180 | ≈ $2,877 | $517,860 | $197,860 |
And this is what the same purchase looks like with a 30 year mortgage:
| Term | n (months) | Monthly Payment | Total Paid | Total Interest |
|---|---|---|---|---|
| 30 years | 360 | ≈ $2,129 | $766,440 | $446,440 |
By expanding the length of the mortgage, you decreased the monthly payment amount by about $700. But the cost for doing this is paying ~$250,000 more over the life of the mortgage!
Enter 50 year mortgages…
Largely, 50 year mortgages would be the exact same as their 15 and 30 year cousins. The interest rate would be fixed in most cases. The down payment amounts would be the same. The only thing to change would be the length of the loan.
So, let's look at our prior example but with 50 years on the hook:
| Term | n (months) | Monthly Payment | Total Paid | Total Interest |
|---|---|---|---|---|
| 50 years | 600 | ≈ $1,991 | $1,194,600 | $874,600 |
Wow!
Yes, your monthly payments dip below $2,000. But, over the life of the loan, you are paying more than double the actual purchase price of the home in interest alone. And the total payment at the end of the loan term is ~3x its actual value!
So, who is this a better deal for? You? Or the bank?
Why 50 year mortgages completely miss the mark
Hopefully these numbers alone demonstrate why 50 year mortgages are such a bad idea. But let's dig in a little more to explore why it is such a misguided attempt to address affordability, specifically in the housing market.
1. It benefits banks, not homebuyers
Call me cynical. But this seems like a move to increase the value and valuation of banks, mortgage companies, and real estate companies. Just look at the numbers above. Banks stand to make a windfall over the long term.
In the meantime, this value has to come from somewhere. In this case, it comes from the homebuyers. It comes in the form of extra interest paid over many years and in the form of lost ability to build net worth and financial freedom.
2. The length of the loan eclipses life expectancy
The average age of all homebuyers is 56 years old. And the average age of new homebuyers is 40 years old. Let's use the new homebuyer age for this argument to at least give the 50 year mortgages a fighting chance.
Let's say you buy your first home at age 40 using a 50 year mortgage. An astute mortgagee will notice, when signing the mortgage documents, that their last payment is due after they are expected to die based on current average life expectancy tables!
That's bad for multiple reasons. First, because of all the extra money they will be paying the bank. But more so because they should expect to leave their children and heirs with this debt. This is completely antithetical to the idea of building generational wealth. Instead, it's building generational debt.
3. It welcomes poor underwriting and, dare I say, bad loans
All that loan companies care about is your ability to make your monthly payment. How do I know? Because I am a landlord. And the main consideration I have when choosing a tenant to live in one of my units is their ability to make monthly payments. Same goes for the bank.
So, as 50 year mortgages lower the monthly payment, mortgagers are likely to relax their lending standards and lend to, frankly, some people who are not good candidates.
And, for anyone who has seen or read The Big Short, this spells trouble. Can anyone say 2008 housing crisis?
4. Appreciation isn't guaranteed
Although misguided, homeowners occasionally get lucky and experience appreciation on their primary home, allowing them to make money upon the sale of their home (because the future value of the home is greater than the mortgage they took out and, at least, partially paid off).
But appreciation is not guaranteed. And even at current rates, your home may not eclipse the actual total value you paid for it in principal play interest over those 50 years.
The one thing that 50 year mortgages don't do is make houses more affordable
They just increase debt under the guise of lower monthly payments.
This is akin to giving everyone a credit card to buy their groceries with. Will it allow more people to buy groceries in the short term? Yes. Does it help people in the long term? Nope.
But, more importantly, does it make groceries cheaper? No! It actually will likely make them more expensive. Because demand will go up as more people can buy more groceries. So stores will increase prices. And that's how inflation happens!
We can expect something similar in the housing market.
Ultimately, 50 year mortgages are a bad idea. They don't accomplish what they set out to do. And they hurt people financially at best and prey on their lack of financial education at worst.
What's the solution?
It depends on your perspective.
If you are a homebuyer…
The answer is actually pretty simple. You should rent. If you can't afford a mortgage payment, then rent. It will be more affordable. Because you only pay your rent and maybe utilities. You don't pay for the mortgage on the property, any repairs, insurance, or taxes. And, when you need to move, you can just leave…free and clear.
Plus, there is an added benefit. If more people start to rent than to buy homes, the price of homes will come down. Improving affordability. Which is the goal right?
If you are the government…
Increase affordable housing. There are lots of ways to do this.
For one, I think bringing back 100% bonus depreciation helps. It encourages commercial real estate investors to invest in more properties and increase the availability of affordable housing. Which will, in the long term, bring down primary home prices as more people rent.
It also could enact policies to make building homes in needed areas cheaper. Via subsidies. Which is a dirty word, I understand. But it could actually work.
If you are a current homeowner…
Pay off your mortgage as soon as possible. I'm not saying to do it in 1 year, 5 years, or even 10 years. If you can, great! But it may not be feasible.
Instead, just imagine you make an extra $500/month payment on the 30 year mortgage in the example above. You would pay that loan off 10 years sooner than by just paying the minimum amount!
That's a powerful boost to your wealth. So, examine your current mortgage and your budget to see if you can make an extra payment. It could make all the difference.
Basically, the only thing you shouldn't do is use a 50 year mortgage to buy your home!
For more resources try help manage and obliterate your debt and build your wealth, check out these resources:
- Should You Invest or Pay Off Debt First?
- Should Doctors Die with Their Student Debt?
- At What Interest Rate Should You Invest Instead of Paying Off Debt?
- The 7 Biggest Financial Enemies of Doctors
What do you think? Is a 50 year mortgage a good or a bad idea? Why? Would you use one? How can we actually make housing more affordable? Let me know in the comments below!
