The loan term is the length of time it will take to repay the loan in full by making the minimum payments. It is also referred to as a term loan.
Loan terms typically range between three years, for personal loans and auto loans, to 15 to 30-year loan terms for mortgage loans.
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What Is the Loan Term?
A term loan is a loan given with a specified repayment period with either a fixed or variable interest rate.
The loan repayment term is spelled out in the loan agreement. For example, if you get a 30-year fixed-rate mortgage loan, the loan term is 30 years. If you make the minimum monthly payments the loan will be completely paid off in 360 months.
Mortgage Loan Terms
The most popular loan term for a home loan is a 30-year fixed-rate loan. But home loans come with a variety of loan terms to choose from. Many lenders offer 10, 15, 20, 25, 30, and even 40-year fixed-rate and adjustable-rate mortgage terms.
Homebuyers have increasingly opted for 15-year term home loans because the amount of interest paid over the life of the loan will be drastically lower. More of your monthly payment goes towards the principal balance with short term loans
How the Loan Term affects Monthly Payments
The shorter the term, the higher the payments will be, but shorter loan terms come with lower interest rates and will save you the most money on your loan. However, since the monthly payment is higher your debt-to-income ratio is negatively affected meaning you will be approved for a lower loan amount.
Borrowers who are trying to maximize their buying power tend to choose longer-term loans such as a 30 or 40-year loan. The lower mortgage payment allows borrowers to be approved for higher loan amounts.
Comparing Different Loan Terms
If you’re shopping for a loan it’s important to get loan offers from multiple lenders ensuring you’re getting the best deal.
The APR (annual percentage rate) is one way of comparing loan offers with different interest rates and loan terms. The APR includes interest, closing costs, and any other loan fees giving you the true cost of the loan.
How much will I save with a 15-year term loan over a 30-year term loan?
To see exactly how the loan term affects your monthly payment and the total interest you’ll pay we’ll use a loan comparison calculator to look at two loan options for a borrower getting a $250,000 FHA loan.
- Loan 1: 15-year fixed-rate mortgage loan – 4% interest rate – 4.58% APR
- Loan 2: 30-year fixed-rate mortgage loan – 4.5% interest rate – 4.84% APR
A 15-year loan term will save you $123,157 over the course of the loan compared to a 30-year term loan. Because the monthly payment is almost $600 more per month, borrowers will need to have a low DTI ratio to comfortably afford the shorter loan term, but if they can it can save you a lot of money.
Personal and Auto Loan Terms
Short-term loans such as a personal loan or auto loan have a fixed loan repayment schedule. These loans typically have a repayment term between 24-72 months.
Because the loan amount is much smaller and the loan term is shorter, loan terms on auto and personal loans don’t have as significant of an impact on the total amount paid as mortgage loans have.
Let’s look at how the loan term affects the true cost of a short-term loan.
- Loan 1: 60-month loan – $25,000 loan amount – 5% interest rate
- Loan 2: 48-month loan – %25,000 loan amount – 4% interest rate
Choosing a shorter 48-month loan term will save you approximately $1,700 over a 60-month loan. It’s not insignificant, but considering the monthly payment for the shorter-term loan is about $250 more it probably makes sense for most borrowers to go with longer term loans.
