The half life of a mortgage loan

Posted: Sep 09, 2006 1:16 AM

Unless you are involved in Chemistry in some way or another the term half life probably isn't in your vocabulary. I would have loved to get rid of the term but because I did so poorly in that subject, it sticks around like unwanted company. (Side note: my brother was a professor of chemistry - it didn't help). I finally have found a way to use this term in a helpful manner that illustrates the basis of mortgage loans: the time use of money.

When you borrow money on any loan, including a mortgage loan, you always pay back the amount you borrow plus a little extra (or a lot extra) which is the interest on the money.I often get the feeling that people don't understand how mortgage loans work and think there is some magical formula for the paying back of the money. Most people don't even realize we use simple interest in our loans, not compound interest or dutch interest or anything else.

So the easiest way to show people how the loans work is to demonstrate the half life of the loan: when half of the loan is paid back. It tends to make people wonder what they have been doing. I noticed at a young age that a lender I had a loan with was always offering to extend the loan instead of raising the payment on my variable interest rate loan. I quickly realized that I would have to work this side of forever to get the loan paid off. On the other hand, I once took out a fixed second and sold the house in about a year and a half later. I found that I paid off as much on the smaller second in a year and a half (it was a 15 year loan) than I had paid off on my 30 year first in the four years I had that loan.

If you didn't have the privilege of learning at the "school of hard knocks" as I did then you might find the following explanation of half life quite interesting.

A 15 year fixed will be half paid off in approx. 10 years

A 20 year fixed will be half paid off in approx. 13 years.

A 30 year fixed will be half paid off in approx. 20 years

A 40 year fixed will be half paid off in approx. 30 years

(Different interest rates can change the pay back time)

Can you see the pattern? Most people would say they would like to just pay the second half of the loan which of course you can by taking a shorter amortization.

The real key to paying off your loan in a reasonable time without an enormous amount of interest is to pay it off in 20 years or less.

Before going any further, I would like to note I have written many columns in this venue that tie right into this discussion that I would suggest reviewing: "If you think holidays are bad, check out the weekends", “How important is the right mortgage" and "Get them started the right way". These should show you some benefits of understanding mortgage loans and their affect on your financial future.

Going back to the original premise that you only pay back the money you borrowed plus some interest, you can readily see how little progress you make in some loans and how much progress you make in other loans. A borrower taking a 20 year loan is finished before those in a 30 year pay off half of their loan. How nice would that be if you were the one with the 20 year and not the one with the 30 year?

Nothing is as clear as a simple picture that explains a somewhat complex or at least a confusing situation. Now the question remains: what are you going to do about it?If you do act, it will mean moving from certainty in your life to uncertainty at least for a while. Giving up the comfort of habit to reach for a better situation that is foreign to you can be uncomfortable at first. However, as I have seen in my own life, the rewards are boundless. The best thing about all of this is YOU get to make the decision!

I hope it turns out well for you.

Roger Schlesinger's Mortgage Minute is heard on hundreds of radio stations and daily on the Hugh Hewitt radio show and Michael Medved shows. Roger interacts with his hosts and explores the complicated financial markets in order to enlighten his listeners and direct them along their own unique road to financial freedom. Roger is the President and founder of Manhattan West Mortgage.