40 line (or so) response - Posted by Eduardo (OR)
Posted by Eduardo (OR) on April 26, 2000 at 18:47:00:
30 year mortgages became the standard after World War II when returning servicemen needed to buy housing and had little money for downpayments. Why not 20 years or 40 years? There is a mathematical curve (you can use your calculator to figure this out) whereby the longer the term of the loan, the less the monthly payment goes down (assuming the interest rate stays the same). The monthly payment drops considerably between a 10 year loan and a 20 year loan. Less so between a 20 year loan and a 30 year loan. Hardly at all between a 30 year loan and a 40 year loan. It was thought at the time that 30 years represented a reasonable compromise between number of years to pay and low payments. For example, The monthly payment of a fully amortized $50,000 30 year loan at 10% is $438.79. Over that period of time, the payor pays out almost $158,000 in principal and interest (over $100,000 in interest alone). The same loan at 40 years has a monthly payment of $424.58. Over $200,000 is paid out over the 40 years (over $150,000 in interest), yet the monthly payment is only $14.21 less–the price of a one large pepperoni pizza and 2-liter bottle of diet coke per month!
There is more to the story. Another reason the 30 year mortgage became a standard (not only with FHA and VA loans, but with the entire lending industry) is that people get married, have kids, and start buying homes usually when they are in their 30’s. They want to retire in their 60’s. Most analysts recommend having your house paid for when you reach retirement age and your income drops. It is interesting to note that in Japan, for instance, they have “two-lifetime mortgages.” Because of the scarcity of land there and the resulting extremely high prices for housing, once a person saves up the downpayment, he commits to a mortgage payment not only for the rest of his life, but his heirs as well.
Back to your point. 40 year mortgages are few and far between and may be seen most often with properties like a farm or ranch where a lot of money is involved, lower payments would be signficant, and the buyer can expect to make the payments from the income the farm or ranch produces over the years. With residential housing 40 year loans are almost non-existent. For this reason I would not recommend sellers trying to talk buyers into them. If the buyer is unsophisticated and can show in court that the idea came from the seller, there is a chance that the court may hold that the seller (who was a real estate investor and therefore can be assumed to have superior knowledge) forced the buyer into an unconscionable contract. Thus, if the buyer becomes dissatisfied, the contract may be overturned by the court. (The same is possible with, for example, an interest-only loan with no due date–I’ve seen those.) (There is no reason I can think of why the buyer would ask for a 40 year loan.) You might consider, though, a compromise such as a 35 year mortgage. I’ve seen several of these agreed to between buyer and seller in owner-carryback situations. If you decide to get involved in one of these, it might be a good idea to document in the paperwork the reason for having a loan of a longer than normal term just in case the buyer decides to object later. Also, I’m sure you know that anything two people can agree to to, they can “unagree” to at any time. Rewriting an owner-carryback loan at a later date to accomodate the payor gives opportunity to increase the yield. --Eduardo