Deciding Rationally — or Realistically

I don’t usually advise clients which mortgage is best for them; that depends on their financial circumstances, time horizon, credit scores, etc.

However, if clients ask, I will serve as a backstop for advice they’re getting elsewhere (like from their financial advisors). And I always encourage clients to get a couple, apples-to-apples quotes for whatever mortgage they’re contemplating.

So, a client called yesterday to say that he was mulling refinancing options, and that his financial advisor recommended a 30 year mortgage over the 15 year.

His chief arguments?

First, you can always make extra and/or bigger payments on a 30 year mortgage — making it more like a 15 year.

Second, statistics suggest that if you invest the difference between the (smaller) payment on a 30 year mortgage and a (bigger) 15 year mortgage payment, you’ll come out ahead.

Practical Considerations

Both valid points, to be sure.

But just like economists always used to assume — evidence to the contrary — that people are rational actors, how many financial advisers consider what their clients are actually likely to do?

I know my client, who doesn’t like routine or regimen — and abhors following the Wall Street roller coaster (who does, outside of Wall Street?).

Given that, the odds that he would: a) make extra payments as circumstances allowed; and b) faithfully invest the extra cash flow freed up by a 30 year mortgage, are somewhere between next-to-none and none.

The clincher was his current age: 50.

The idea of being mortgage-free by 65 was a psychologically important goal for him.

And who could argue?

Once he told me that cash flow was no issue . . . I counseled him to go for the 15 year.

P.S.: the Solomonic solution? Go for a 20 year mortgage.

About the author

Ross Kaplan has 19+ years experience selling real estate all over the Twin Cities. He is also a 12-time consecutive "Super Real Estate Agent," as determined by Mpls. - St. Paul Magazine and Twin Cities Business Magazine. Prior to becoming a Realtor, Ross was an attorney (corporate law), CPA, and entrepreneur. He holds an economics degree from Stanford.
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