Sometimes, home buyers get a yen to pay off the house early. It happens especially to people in their middle 40s, by which age the fact of retirement begins to grow real. Mortgage-interest deductions aren't as useful on reduced retirement incomes, and costs are easier to control if you own your house or condominium free and clear.
If you expect to stay in your present house, most lenders will let you accelerate mortgage payments with no prepayment penalty. If you buy a new house, you have three ways of paying for it fast:
* Take a 30-year mortgage and accelerate payments. This arrangement gives you a lot of flexibility because you can increase the payments on your own schedule. If you are not disciplined about it, however, you might reach retirement with the loan still unpaid.
* Take a short-term mortgage for 10 to 15 years. Monthly payments are higher than on a 30-year mortgage, but not by as much as you might think. On an $80,000 loan at 13 percent, you'd pay $994 a month to repay over 15 years, compared with $864 to repay over 30 years. The shorter-term mortgage represents a total savings in interest payments of $52,000.
Another advantage of a short-term mortgage is that it locks you into your payment goal. When you retire, you'll be certain to own your home in full.
* Take a brand-new type of mortgage called a growing-equity or early-ownership loan. In order to hold down initial costs, the lender figures your first-year's payments as if the loan were to be stretched over 30 years. But every year, your monthly payment rises by a stated amount, anywhere from 2.5 percent to 7 percent a year. At a 5 percent rate of increase, a borrower starting at $864 a month might be paying $1,340 a month by the 10th year and have the entire loan repaid in 12 to 15 years.
There are three drawbacks to growing-equity mortgages.
First, whenever you lock yourself into rising payments, you are gambling that your income will rise by enough to meet them. And maybe it will. But what if you're pushed into early retirement from your company? The last years of your mortgage would then be very tough indeed.
With a regular short-term mortgage, by contrast, you lock in level payments. With a 30-year mortgage, you can accelerate payments at whatever pace you find most convenient.
Second, growing-equity mortgages have not been attractively priced. In return for accepting the risks inherent in rising payments, you should get a lower mortgage rate. But lenders have been offering these loans at only 0.25 to 0.5 percent less than a 30-year fixed-rate mortgage. When initial monthly payments are about the same, you might as well go for the loan with the level cost.
Third, you pay more interest on some growing-equity loans than you might expect.
Ideally, a lender should refigure the interest payment every year. When the loan balance drops because of your rising principal payments, your interest payment should drop, too. Maintaining a constant relationship between interest and principal keeps level the effective interest yield.
But some lenders don't do this. Your interest payment is set in the first year (on a 30-year amortization schedule), then left virtually unchanged. So as the loan balance declines, your effective rate of interest rises. You pay more interest and take longer to complete the loan.
Neither type of growing-equity mortgage offers a total interest cost as low as you'd get from a fixed-payment, 12- to 15-year mortgage.
Consumers have not been responding to the blitz of publicity that surrounded the introduction of growing-equity mortgage. A spokesman for the Federal Home Loan Mortgage Corp. told my associate Virginia Wilson that its pilot program "died a natural death, because it was unacceptable to borrowers." Other growing-equity mortgages are still on the market--but at present, they look like an idea whose time will never come.