Two mortgage offers can have the same monthly payment and differ by $50,000 in total cost. The monthly payment is the number borrowers fixate on. The total cost, including interest over the full term, is the number that actually matters.
What to compare
A mortgage has at least six variables that affect total cost:
- Interest rate - the stated annual rate
- APR - the effective rate including fees and points
- Loan term - 15, 20, or 30 years
- Points - upfront fees that buy a lower rate (1 point = 1% of loan)
- Closing costs - origination, appraisal, title, insurance
- PMI - private mortgage insurance if down payment is under 20%
Two offers might both have $1,800 monthly payments but wildly different compositions of these variables.
The APR trap
APR (Annual Percentage Rate) was designed to make comparison easy. It rolls the interest rate and certain fees into a single number. In theory, the lowest APR is the best deal. In practice, APR has three problems.
First, it assumes you hold the loan to maturity. A 30-year loan with high upfront fees has a lower APR than the same rate with no fees, because the fees are amortized over 30 years. But if you sell or refinance in 5 years, you paid those fees but only got 5 years of the lower rate. The APR overestimates the value of points for short holding periods.
Second, APR does not include all costs. Title insurance, home inspection, attorney fees, and PMI are typically excluded from APR. Two loans with identical APRs can still have different total costs.
Third, APR calculation assumes a fixed rate for the entire term. For adjustable-rate mortgages, the APR is calculated using the initial rate, which is misleading.
The breakeven calculation for points
Paying points (prepaid interest) lowers your rate. One point on a $300,000 loan costs $3,000 and typically reduces the rate by 0.25%. On a 30-year loan, that 0.25% reduction saves about $42/month.
Breakeven = Point cost / Monthly savings
Breakeven = $3,000 / $42 = 71 months (about 6 years)
If you plan to stay in the home for more than 6 years, points save money. If you plan to move in 3 years, points cost money. This single calculation determines whether points are worth buying.
Comparing specific scenarios
Here is a real-world comparison framework. Consider two offers for a $350,000 loan:
Offer A: 6.25% rate, no points, $4,000 closing costs
Monthly payment: $2,155
Total interest (30 years): $426,026
Total cost: $350,000 + $426,026 + $4,000 = $780,026
Offer B: 5.875% rate, 1.5 points ($5,250), $4,500 closing costs
Monthly payment: $2,070
Total interest (30 years): $395,327
Total cost: $350,000 + $395,327 + $9,750 = $755,077
Offer B has a lower monthly payment ($85 less) and saves $24,949 over the life of the loan. But it requires $5,750 more upfront. The breakeven is 68 months.
If you hold the loan for 30 years, Offer B wins by $24,949. If you sell in 4 years, Offer A wins because you avoid the upfront point cost.
The 15-year vs. 30-year question
The 15-year mortgage has a lower rate (typically 0.5% to 0.75% lower) and massively lower total interest. The 30-year has a lower monthly payment.
$350,000 at 5.75%, 15 years: $2,912/month, $174,266 total interest
$350,000 at 6.25%, 30 years: $2,155/month, $426,026 total interest
The 15-year costs $757 more per month but saves $251,760 in interest. That is a quarter million dollars.
The 30-year mortgage is the better choice only if you invest the $757 monthly difference and earn a higher return than 6.25% after tax. Historically, the stock market returns about 7% nominal, which is roughly break-even after tax. It is a much closer decision than the raw numbers suggest.
For comparing multiple mortgage offers side by side with total cost analysis, I built a comparison tool at zovo.one/free-tools/mortgage-comparison. Enter the details of each offer, and it calculates the total cost, breakeven period for points, and shows which offer wins at different holding periods.
I'm Michael Lip. I build free developer tools at zovo.one. 500+ tools, all private, all free.
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