BlueTaelon Posted September 30, 2012 Share Posted September 30, 2012 I've never bought a house and I've been doing all the scanning and email of the loan doc's for my parents and since my step dad left out of state to the new place to take a load up there I was reviewing the papers with my mom to make sure she didn't miss anything and holy cow I am shocked. The place is about $119k on a 30 yr loan but the interest is $107k! Its mind boggling to me, the rate is 4% something which I'm told is a good rate. The interest is nearly as much as the loan, is this normal? Why the heck do people do this?! This place is not worth $223k imo which is what it totals and since its a mobile home I doubt it will still be worth any where near that in 30 years if its still standing (top of the line, custom built, these things look and feel like houses but I only saw the demo homes on the lot) This option was the last resort for them since the bank wouldn't give them a loan to build a 1 bedroom cottage on their 10 acres, something about nothing to compare it to in the area and the smallest they could build was a 2 bedroom which raised the price another $70k or something and sent the payment way above what they were willing to pay. Anyway, I found my dream home but holy cow I'm not sure buying is worth it if your spending that much in interest. What am I missing?! Do you just try to pay it off sooner so your not paying all that extra interest? Quote Link to comment Share on other sites More sharing options...
Shellydon Posted September 30, 2012 Share Posted September 30, 2012 I've never bought a house and I've been doing all the scanning and email of the loan doc's for my parents and since my step dad left out of state to the new place to take a load up there I was reviewing the papers with my mom to make sure she didn't miss anything and holy cow I am shocked. The place is about $119k on a 30 yr loan but the interest is $107k! Its mind boggling to me, the rate is 4% something which I'm told is a good rate. The interest is nearly as much as the loan, is this normal? Why the heck do people do this?! This place is not worth $223k imo which is what it totals and since its a mobile home I doubt it will still be worth any where near that in 30 years if its still standing (top of the line, custom built, these things look and feel like houses but I only saw the demo homes on the lot) This option was the last resort for them since the bank wouldn't give them a loan to build a 1 bedroom cottage on their 10 acres, something about nothing to compare it to in the area and the smallest they could build was a 2 bedroom which raised the price another $70k or something and sent the payment way above what they were willing to pay. Anyway, I found my dream home but holy cow I'm not sure buying is worth it if your spending that much in interest. What am I missing?! Do you just try to pay it off sooner so your not paying all that extra interest? Totally normal. That is why we worked super hard to pay off our house in 11 years rather than 30. Quote Link to comment Share on other sites More sharing options...
regentrude Posted September 30, 2012 Share Posted September 30, 2012 (edited) The place is about $119k on a 30 yr loan but the interest is $107k! Its mind boggling to me, the rate is 4% something which I'm told is a good rate. The interest is nearly as much as the loan, is this normal? It is normal and the basic mathematics of compound interest. The longer you borrow the money, the larger the total interest sum will be. For this reason, it is much better to get a 15 year mortgage with slightly higher monthly payments than a 30 year mortgage with lower monthly payments, but an overall higher interest sum over the lifetime of the mortgage. Why the heck do people do this?! Because most people do not have this amount of cash to pay upfront for the house. This is the basic idea behind a mortgage: you don't have enough money, so you borrow from a bank. the bank charges interest - if it did not give the money to you, it would invest it into a business and get a return this way. This place is not worth $223k imo which is what it totals and since its a mobile home I doubt it will still be worth any where near that in 30 years You are completely mixing up two things. The amount you pay because of interest has nothing to do with the appreciation of the house. What am I missing?! Do you just try to pay it off sooner so your not paying all that extra interest?Yes. the shorter the term of your mortgage, the smaller the amount of interest you pay. You can do the math for yourself. ETA: For everybody who claims there is no real life application of algebra: this is an example for the application of the exponential function. Compound A formula for calculating annual compound interest is Where, A = final amount P = principal amount (initial investment) r = annual nominal interest rate (as a decimal, not in percentage) n = number of times the interest is compounded per year t = number of years Edited September 30, 2012 by regentrude Quote Link to comment Share on other sites More sharing options...
sgo95 Posted September 30, 2012 Share Posted September 30, 2012 (edited) Regentrude has provided a great response. A 30-yr mortgage involves payments across 30 years obviously. There's a concept called the time value of money. Money you pay today is in different "units" from money you pay next month, next year, the next decade, etc. For example, would you rather have $10 today, or $10 next month? Most people would like the money now, either to invest or enjoy by spending now. If you invest it, you'll have more than $10 next month. So you see that $10 now is actually a different amount than $10 next month. Here's an explanation from wikipedia: The time value of money is the value of money figuring in a given amount of interest earned over a given amount of time. The time value of money is the central concept in finance theory. For example, $100 of today's money invested for one year and earning 5% interest will be worth $105 after one year. Therefore, $100 paid now or $105 paid exactly one year from now both have the same value to the recipient who assumes 5% interest; using time value of money terminology, $100 invested for one year at 5% interest has a future value of $105. Basically, the time value of money means that you can't add up the mortgage payments and say your parents will be paying $223K today. Each mortgage payment made in the future needs to be "translated" back into the value of money today. If we assume the interest rate is 4%, their payments would actually translate back to something close to the value of the loan today--$119K. HTH. Edited September 30, 2012 by sgo95 clarified last sentence Quote Link to comment Share on other sites More sharing options...
Crimson Wife Posted September 30, 2012 Share Posted September 30, 2012 Even if you have the cash to buy a home, it still may make sense to take out a mortgage if the interest rate is low enough. The question is whether you think you can make a higher return on your money elsewhere. If you are only paying 3.5% interest on the mortgage but think you can invest the money and make 5%, then it makes sense to take the mortgage rather than paying cash. Now, you are taking the risk that your actual ROI is less than 3.5%, so it all depends on your personal risk tolerance. Of course, for my family, the whole discussion of paying cash vs. taking a mortgage is all theoretical since housing prices where we live are so high that it would take winning the lottery or lucking into the next big startup IPO success story to have that kind of cash. Quote Link to comment Share on other sites More sharing options...
Mommyof4ks Posted September 30, 2012 Share Posted September 30, 2012 Yes, totally normal, and that is why people say not to take out a loan for a mobile home. Several of my family members have down that too, and it did not end well. We have 3.75% on a 15 year $138,000 loan, and we will only pay $40,000 in interest on it. That is the reason many people try hard to get 15 yr loans, but not everyone can afford that. If we had taken out a 30 yr loan and paid OT off in 15, then we would have paid just over $60,000, because the interest is the bulk of a 30 yr payment even when paying it off early, but again, not everyone can afford a 15 yr loan. We had to refinance a couple of years after moving here, because we could not do the 30 yr at first either given the 5% interest rate. Quote Link to comment Share on other sites More sharing options...
Carrie12345 Posted September 30, 2012 Share Posted September 30, 2012 This is why, even as my "investment" is tanking, I try not to look at a primary residence as an investment. I consider the interest (and other fees) the price of living in a home, just as I considered my rent to be in the past. For some, it will be an incredibly high price. For others with more cash and shorter terms, it will be less expensive. For those who go all cash, more power to 'em! Depreciation is a whole other issue. :tongue_smilie: Quote Link to comment Share on other sites More sharing options...
TranquilMind Posted September 30, 2012 Share Posted September 30, 2012 I've never bought a house and I've been doing all the scanning and email of the loan doc's for my parents and since my step dad left out of state to the new place to take a load up there I was reviewing the papers with my mom to make sure she didn't miss anything and holy cow I am shocked. The place is about $119k on a 30 yr loan but the interest is $107k! Its mind boggling to me, the rate is 4% something which I'm told is a good rate. The interest is nearly as much as the loan, is this normal? Well, it is normal at a normal interest rate. It should be much less at only 4%. I am betting there are loads of other fees loaded in there, or a buy down on the original mortgage plus closing costs rolled in. And yes, you just pay extra every single month and you will knock years off. On my own house, I paid about $50 extra a month for years, now about 25 extra -because of increase in taxes- and will have it paid off in a few years. Quote Link to comment Share on other sites More sharing options...
TranquilMind Posted September 30, 2012 Share Posted September 30, 2012 regentrude: It is normal and the basic mathematics of compound interest. The longer you borrow the money, the larger the total interest sum will be. For this reason, it is much better to get a 15 year mortgage with slightly higher monthly payments than a 30 year mortgage with lower monthly payments, but an overall higher interest sum over the lifetime of the mortgage. Great response by regentrude, but I just wanted to add that you can accomplish the same result by simply paying ahead on a 30 year mortgage, if that is what you already have. Of course, the 15 year rates are a bit lower, but the payment is correspondingly higher per month. Quote Link to comment Share on other sites More sharing options...
regentrude Posted September 30, 2012 Share Posted September 30, 2012 I just wanted to add that you can accomplish the same result by simply paying ahead on a 30 year mortgage, if that is what you already have. Absolutely. But one needs to make sure that the conditions of the mortgage allow paying off early - not all mortgages do. Quote Link to comment Share on other sites More sharing options...
LucyStoner Posted September 30, 2012 Share Posted September 30, 2012 Even if the house is not standing in 30 years, there is the land. The house is generally a depreciating asset and has to be invested in to retain and build value. Overtime, real estate tends to appreciate at or just barely above the rate of inflation. In the short term, there can be wide fluctuations, with boom and bust periods. But over long periods it averages out to stay up with inflation. If you didn't pay interest, why would the bank lend? Their goal is to make as much more than inflation as they can. Sitting around the money loses value. Quote Link to comment Share on other sites More sharing options...
TranquilMind Posted September 30, 2012 Share Posted September 30, 2012 Absolutely. But one needs to make sure that the conditions of the mortgage allow paying off early - not all mortgages do. True, there used to be a lot of them with pre-payment penalties. Those are mostly gone now, but you need to read every single word of the documents, and never sign anything until you do. Get a real estate attorney if you don't understand what exactly what you are signing says (which can happen easily, as they are meant to be protective of the drafter, and ambiguous where possible). Quote Link to comment Share on other sites More sharing options...
mathwonk Posted September 30, 2012 Share Posted September 30, 2012 (edited) We usually took out 30 year mortgages and then paid them more rapidly than required. That almost turns them into mortgages of shorter duration, with a little higher rate but with the insurance that you can pay more slowly in a bad month. The way this works is you get an amortization schedule, a long list detailing every payment owed with what part is principal (loan payback) and which part is interest (monthly fee for having the loan.) You will see that every month the total payment remains the same, but the interest share goes down and the principal share of the payment goes up. thats because each months principal is mon ey you no longer owe interest on next month. Then each month that you can afford it, add on an extra principal payment (there is a place to record that on the payment slip). E.g. if the full first month's payment is $150, while the interest share of the payment is $100 and the principal share is $50, pay $200 instead of $150, and you have paid two months principal. That immediately saves you the $100 interest you would owe by waiting until next month to pay that principal. If you do this every month, it will get harder and harder as the principal amount goes up, but you will save half the interest over the lifetime of the loan and will pay off a 30 year loan in 15 years. You must keep up with it yourself however as many banks are staffed by people who do not understand interest or loans or anything else about math, and they may not give you credit for the extra principal payment. A common error is for them to call it an "advance payment" thus giving you no credit at all, for paying early, and you still owe the full interest amount. In an extra principal payment, you must still pay the full amount owed the following month, but that amount should properly contain a smaller share of interest than it would had you not paid extra principal. Moreover on a 30 year loan with 360 payments, doing this once reduces that to 359 payments. Doing it 180 times reduces the total number of payments to 180. I.e. you pay 360 principal payments but only 180 interest payments. Thus means essentially you have treated it like a 15b year loan with principal payments twice as large. If you are sure you can meet them every month it would be even better to take a 15 year loan in the first place and get a lower rate, but you must make a larger down payment for that and qualify higher with your income and whatchmacallit score. On a 30 year loan with traditional interest rates, it was standard for the total payback to be 3 times the amount borrowed, (not allowing for inflation). And while the time value of money is an important concept, it is very difficult in todays saving and investing environment, to realize that inflation on your own money. I.e. prices still tend to go up for the same item, often doubling every 10 or 15 years, but it is hard to make your own savings increase at the same rate. my mom bought her house for $8,000 in 1944, and now in our neighborhood, a little nicer than hers, houses offered for $600,000 - 800,000 are not that uncommon. this is an example of the time value of money. i.e. the same money will buy less in the future. as a kid we treasured dimes, now dollars are of little worth. (the sunday NY times costs $6. today.) It also depends where you buy. Our old house in Athens GA has only doubled in value in a little over 25 years, but our house in Decatur GA has more than quadruped. such calculations must also be made in relative terms, not numerical dollars. I.e. do not ask what your folks' house cost, ask what fraction of their salary it cost. In these terms, my folks' house cost maybe 2 - 4 times my dad's salary, whereas now our house would cost about 8-10 times my retirement salary, and 6-8 times my highest pre retirement salary. by the way all my years as a mathematician with a phd etc taught me nothing about the time value of money. i learned it from reading a book prepared for my neighbor, a forester, needing to estimate the value of unharvested timber. lack of such understanding explains why your parents think you are wasteful for spending whatever amount on a new home or car or school, when actually it may be less than they spent in relative terms for the same thing. Edited September 30, 2012 by mathwonk Quote Link to comment Share on other sites More sharing options...
Brigitte Posted October 1, 2012 Share Posted October 1, 2012 Another thing to consider is how much you would pay in rent for something comparable. The rent would be close to or, more likely higher, than the mortgage payment. After 30 years of paying rent, what do you have ? Nothing. After 30 years of paying a mortgage what do you have? A house and the land it sits on. Quote Link to comment Share on other sites More sharing options...
Recommended Posts
Join the conversation
You can post now and register later. If you have an account, sign in now to post with your account.