The 40-Year Mortgage – A Useful Way to Save?

For those who are looking to save as much as possible on their monthly mortgage payments, a 40-year fixed rate mortgage may seem like an attractive option. 40-year terms are not as common as 30-year or 15-year mortgages, but they are available and do offer some level of savings.

Before deciding on a mortgage with a 40-year term, you should realize that the savings they offer over a 30-year mortgage are fairly modest. This is true because the higher the term is extended, the less pronounced the savings become. Factor in the practice of adding an extra quarter percent to the interest rate of 40-year mortgages, and the savings becomes even less.

For some people, though, even the small savings offered by the 40-year term may be crucial. If you are in this situation, there is another option you might want to consider. You can get a 30-year residual loan with the same monthly payments as a 40-year loan. A residual loan means that after the 30-year period, you will still owe a portion of the principal, which must then be repaid or refinanced.

This type of residual loan is attractive to lenders, and will likely result in a more favorable rate than the 40-year option. Very few borrowers will have the house for the full 30 years, and therefore will be unlikely to have to worry about refinancing in the far future.

Note that while the residual loan has many of the same characteristics as a balloon loan, it goes by a different name. This is because, while both have longer terms with a balance due after a number of years, a balloon mortgage has its balance due much earlier (usually five or seven years). This makes the two loans operate in a fundamentally different way – 30-year residuals are for all intents and purposes fixed rate mortgages, unlike balloon mortgages, where you can count on a rate change after a few years when you refinance.