Understanding Loan Term Lengths: Making the Best Choice for Your Financial Future
Choosing the right loan term can significantly impact your monthly payments, total loan cost, and the duration of your financial commitment. At O1ne Mortgage, we understand the importance of making informed decisions when it comes to your mortgage, auto, or personal loan. In this blog, we’ll explore the different loan term lengths, how to choose the best one for your needs, and the benefits of both shorter and longer-term loans. For personalized mortgage services, call us at 213-732-3074.
What Is a Loan Term Length?
A loan term is the period over which you will repay your loan. The length of the term varies depending on the type and size of the loan. For instance, mortgages typically have longer terms compared to car loans. Here are some common loan terms:
- Mortgage terms: Usually range from 10 to 30 years, with some extending up to 40 years.
- Auto loans: Typically available in terms of 24, 36, 48, 60, 72, and 84 months.
- Personal loans: Generally range from 12 to 60 months.
How to Choose the Best Loan Term Length
The ideal loan term balances an affordable monthly payment with the shortest term, lowest annual percentage rate (APR), and lowest overall cost. Consider these factors when selecting a loan term:
- Monthly payments: Longer loan terms result in smaller monthly payments.
- Interest rates: Longer-term loans often come with higher interest rates.
- Total costs: Shorter-term loans usually have lower total costs since you pay interest over fewer months.
Let’s look at two examples to illustrate how different loan terms can affect your payments and costs.
Mortgage Payments: 30 Years vs. 15 Years
Consider a $400,000 home purchase with 20% down. Using mortgage rates from April 2023, here’s a comparison of payments and costs for 30-year and 15-year mortgages:
| Loan Term | Loan Amount | APR | Monthly Payment | Total Payments | Total Cost |
|---|---|---|---|---|---|
| 15-Year Mortgage | $320,000 | 5.347% | $2,589 | 180 | $465,977 |
| 30-Year Mortgage | $320,000 | 5.978% | $1,914 | 360 | $689,054 |
While a 30-year mortgage saves you $675 per month, it extends your repayment period by 15 years and increases your total cost by $223,077. At age 30, the lower monthly payment might help you qualify for your first home loan by keeping your debt-to-income ratio (DTI) lower. At age 50, a shorter loan term allows you to pay off your home by age 65, provided you can afford the higher payments.
Minding the Equity on a Car Loan
With car loans, each payment amortizes your debt, meaning part of your payment goes toward interest and the rest reduces your principal balance. Longer loan terms take more time to build equity. For example, a $30,000 car loan at 5.6% interest with a five-year term has a monthly payment of $574. A seven-year term reduces the payment to $433, but increases total payments by $1,867. If you sell your car after five years, you’ll still owe $9,412 on the seven-year loan.
When to Choose a Shorter-Term Loan
Shorter-term loans are ideal if you want to save on interest and repay your loan quickly. Consider a shorter-term loan if:
- You can afford higher monthly payments.
- You can secure a lower interest rate.
- You want to pay off your loan faster.
- You want the lowest total cost.
When to Choose a Longer-Term Loan
Longer-term loans are suitable if you need lower monthly payments. Opt for a longer-term loan if:
- You want the lowest monthly payments.
- You can afford a higher interest rate.
- You are willing to repay the loan over a longer period.
- You are okay with a higher total cost to get a lower payment.
The Bottom Line
Adjusting the amount you spend can also help manage your loan costs, monthly payments, and loan term. Buying a less expensive home or car, or choosing a smaller personal loan, can reduce your total costs and monthly payments, and shorten your loan term. Good credit can also help, as it generally determines the interest rate you’ll pay. Check your credit score and report for free with Experian, and work on improving your credit to get the best loan term possible.
At O1ne Mortgage, we are committed to helping you find the best loan term for your needs. For expert advice and personalized mortgage services, call us at 213-732-3074. Let us help you make the best financial decision for your future.
