Definition of a 30-Year Fixed Home Loan

A 30-year fixed rate home loan is issued for the purpose of buying a home. Its interest rate and monthly payment are fixed and will not change or adjust for the duration of the entire 30 year period. Amortization is the process of paying a long-term loan off in which the interest amount decreases and principal being paid increases over time. To fully understand this, one would have to actually see an amortization schedule.
(See the amortization engine in the References section. You can enter your own loan amount, rate and term. Plug in an additional monthly amount to play with different numbers and scroll down to see the amortization schedule).

Why use a 30 year loan?

There are many terms for a borrower to choose from: there are 30 year, 40 year, (a couple of years ago, there was a 50 year loan), 20 year, 15 year and 10 year mortgages. Why then would a borrower choose a 30 year mortgage? It is easier to qualify. When making application, the borrower must comply with specific debt ratios as set up in mortgage guidelines. A 15 year mortgage (shorter term) creates a higher payment. When the lender looks at all of the other monthly payments a borrower may be making, then adds the new payment of principal, interest, taxes and insurance, then compares it to his allowable income, his debt ratios may be too high to be approved. A 30 year mortgage may make the difference in qualifying at all.

History

Mortgages have been around since 1190 in England. As settlers came to America, they brought their system with them. Not everyone could afford to get a mortgage and buy land and a home since they required at least a 50% down payment. For a $10,000 purchase, they had to put $5,000 down, and make interest only payments. At the end of 5 years, the note ballooned, and had to be refinanced or paid in full. This system continued until the Great Depression. Many foreclosures occurred as the economy collapsed. Franklin D. Roosevelt can be thanked for his "New Deal" legislation which changed how banks and lending were regulated.
In 1934, the FHA was created to reduce lenders losses on foreclosures by creating the FHA lending and insurance program. With this in place, lenders were willing to make more home mortgages. FHA also created the 30 year fixed program which allowed people to buy homes and have stable and affordable payments.

Disadvantages of a 30 Year Fixed Mortgage

A disadvantage of a 30 year fixed rate mortgage is that with an amortization schedule, very little of the actual payment goes toward the principal balance, at least in the early years. It is discouraging to make payments for a long time and look at your progress in reducing principal. It takes 15 to 17 years to get to a point where 50% of the payment made goes toward the principal balance.

No Prepayment Penalty, Pay It Down

If all the borrower ever pays is just the required amount, the above is true. However, there is no prepayment penalties on most loans, and a homeowner is free to make additional payments against the balance. Actually, even a small amount on a regular basis makes a huge difference in paying the loan down, since all amounts over and above the required payment will reduce the principal balance.

Pay It ALL Off Early

The borrower is free to use a biweekly payment program, which applies 50% of the payment every
two weeks against the balance. By the end of the year, he has made 26 half payments, which equates to 13 full payments. That scenario will pay a 30 year loan down to between 21 and 22 years, saving at least 8 full years of payments.