While this trend is being ignored by the media, borrowers have taken notice. In the first half of 2010, “26% of homeowners who refinanced chose a 15-year fixed-rate mortgage…During all of 2009, 18.5% of borrowers who refinanced opted for a 15-year term. About 9.4% did so in 2007.” While comparable figures aren’t available for new mortgages (i.e. not refinancings), anecdotal reporting suggests a similar trend, though perhaps not quite to the same extent.

15-year mortgages have always been more appealing to refinancers. That’s because for those obtaining a new loan, the difference in the monthly payment between the 30-year and 15-year loan can be overwhelming or even unaffordable, since it is more likely to exceed industry Loan-to-Income limits. When the mortgage is refinanced, however, it is likely that the principal will be lower (as a result of many years of payments) and hence, the higher payment under the 15-year loan is less likely to be an obstacle. In addition, by refinancing from a 30-year loan into a 15-year loan, you probably won’t ultimately shorten the effective duration of your loan by that many years. For example if you wait 10 years to refinance from a 30-year loan into a 15-year loan, you will ultimately pay interest for 25 (15 + 10) years, which is not significantly different from the original duration of 30 years.

The savings from a 15-year loan (compared to a 30-year loan) can be substantial. Not only does interest accrue at a lower rate, but there are aggregate savings in interest from repaying the loan over a shorter duration. On a $250,000 loan, for example, you can expect to save $150,000 over the life of the mortgage, based on current rates. On the other hand, as I mentioned above, the monthly payment will rise by around 25-50%. For some, the increased pressure from having to make a larger payment each month offsets the overall savings in interest.

As a compromise, some financial planners recommend clients obtain a 30-year mortgage, and simply make larger payments on them each month, for as long as it is affordable. This way, borrowers can still achieve interest savings over the life of the mortgage, while still retaining the flexibility to make the lower required payment in the event of financial hardship. However, it’s important to understand that the price paid for this flexibility is a higher (i.e. 30-year) mortgage rate.

For those of that are considering a 15-year mortgage, you can use our Mortgage Loan Comparison Calculator to determine the difference in monthly payment and overall savings, compared with a 30-year mortgage.

In her new book, Buy, Close, Move In: How to Navigate the New World of Real Estate — Safely and Profitably — and End Up with the Home of Your Dreams, Ilyce Glink writes, “For decades, the real estate industry has operated under the principle that the less information buyers and sellers have, the better it is for agents, lenders, title companies, and all the other folks who eat from the trough.” While this accusation is certainly dubious, Glink’s point is well-taken: consumers planning to buy a home and/or obtain mortgage financing need to arm themselves with information so that they can avoid creating (and participating in) another housing market disaster.

Glink’s book just received a favorable endorsement from the Washington Post, which praised “the section on the 10 things that have changed in real estate…Glink offers advice on what to do in a new era of declining home values, the changing role of Fannie Mae and Freddie Mac, fixing your credit, calculating what you can realistically afford and snagging a house through a short sale or foreclosure. She even ventures to help those still brave enough to want to buy investment property.” If you want to learn more about the book, the Washington Post is also hosting a live online discussion on August 26, 12PM EST.

While I haven’t yet picked up a copy of “Buy, Close, Move In,” I have read a handful of other informative books on obtaining a mortgage loan. When I was just getting started as a mortgage blogger, I read Mortgages for Dummies, which as it sounds, is a nice primer on the mortgage process. If you are completely new to the process and lack even a basic understanding of the terminology, process, and forms, this book is a good place to start. The authors, Eric Tyson and Ray Brown, also wrote “Home-Buying for Dummies,” which I haven’t read, but would imagine is authored in the same style. While this latter book was published in 2009, “Mortgages for Dummies” was released way back in 2008, and parts of it may already seem out-of-date.

For those who have already begun the process of shopping for a mortgage, I can recommend Mortgages 101: Quick Answers to Over 250 Critical Questions About Your Home Loan and Mortgage Ripoffs and Money Savers: An Industry Insider Explains How to Save Thousands on Your Mortgage or Re-Finance. Both books offer extremely detailed information and advice on every aspect of applying for and obtaining a mortgage. However, both books presume at least a basic fluency with mortgage terminology on the part of the reader, and without any context, they might be difficult to follow.

Finally, there is Dr. Jack Guttentag’s Mortgage Encyclopedia. [I interviewed the self-styled Mortgage Professor back in June]. As implied by its title, The Mortgage Encylopedia contains an exhausting litany of topics, from the mundane to the arcane, on every conceivable aspect of mortgage financing. Since the entries are arranged alphabetically, it’s not suitable to pick up the book and read it from start to finish. It’s more of a reference guide, to be consulted whenever you encounter a mortgage stage/concept/term that you are not completely familiar with. This is the book you want to keep close when you are already knee-deep in the mortgage process and are starting to hit daily stumbling blocks.

Even if you decide not to buy a book, it’s best to at least start reading newspaper columns (or this blog!) a couple months before you begin the process of shopping for a mortgage. That way you can move through it more seamlessly, and with a lower likelihood of being ripped-off.

The current benchmark for down-payment is 20% LTV. That means you are expected to pay 20% of the price of the property in cash, with the mortgage covering the remaining 80%. For those of you who can afford to make such a down-payment, statistics show that you will be comparatively likely to repay your mortgage. Thus, you can expect to receive extremely favorable terms on your mortgage.

The primary source of funds for this down-payment will probably be your own savings account. In some cases, you can also pledge securities (stocks, bonds, etc.) and the land that the property occupies assuming that you already own it. Lenders will also allow you to borrow against your retirement account (though in some cases this must first be approved by the administrator of your IRA) as well as to contribute gifted funds from family/friends, as long as the giver signs an affidavit pledging that the gift is not actually a loan.

If the target property was appraised for more than the purchase price, however, you cannot contribute the difference towards the down-payment, even though it is arguably equivalent to home equity. The only exception is if the seller is willing to raise the purchase price and contribute (most of) the difference to your down-payment for the loan. Such is perfectly legal and is known as a Seller-Assisted Down Payment. Bear in mind, however, that if the purchase price is raised to the point that it exceeds the appraised value of the property, this kind of arrangement will probably be rejected by your lender.

If you can afford to do so, you should consider making an even larger down-payment. Some lenders will compensate you by offering you an even more attractive mortgage rate. In addition, a larger down-payment combined with a shorter duration (i.e. 20 years instead of 30 years), would enable you to own your home in a shorter amount of time and save you money in the process (in the form of unpaid interest), all without affecting your monthly payment. If instead you were to continue to prefer a long-duration (30 years) mortgage, you can count on both a lower monthly payment and aggregate savings over the life of the mortgage.

For those borrowers that can’t afford – or simply don’t want – to make a 20% down-payment, you have a few options. First, you can apply to a Down Payment Assistance Program (DPAP); it’s advisable to ask your lender for advice, rather than solicit help on your own. If you’re eligible, you can consider a Veterans Administration (VA) loan, most of which don’t require down-payments. FHA Loans are also insured by (but not originated by) the government, and hence, require only 3.5% down-payments. This is offset by a more expensive loan, however, in the form a mortgage insurance premium, payable to the FHA to compensate for the increased likelihood of default.

For everyone else, you can expect to pay a hefty Private Mortgage Insurance (PMI) premium. Assuming your lender is still willing to underwrite your loan, despite a down payment that is below 20%, you will pay both an upfront PMI premium and an annual premium, until your home equity reaches 20% LTV. [Your home equity will gradually rise both as you repay the loan and if the value of the home appreciates].

Of course, the reality is slightly more nuanced. The actual importance of the down payment will depend on numerous other factors, including your credit score. In the end, you should first seek to understand the position of your lender before determining the size of the down-payment.

Before you even begin shopping for a mortgage, you should first make sure that your credit score is as high as possible. Ideally, this should be done a few months in advance, so that any changes are reflected in the credit score by the time it is pulled by the lender. Namely, you should double check your credit report for errors and pay off all of your consumer debt. If possible, you can try to borrow money from friends, so that your financial position appears to be as strong as possible.

Consider also that your lender will require additional financial information to supplement your credit score. You will be asked to furnish proof of your income and assets. If you are self-employed and/or unable to do so, you may be able to obtain a so-called Stated Income/Stated Assets Loan or No Documentation Loan. In light of the credit crisis, however, these loans are difficult to obtain. Even if your credit score is quite high, you should expect to pay a premium on your mortgage rate and make a larger down-payment.

Your credit score and financial attributes will be verified again upon closing. This is a new requirement, mandated by Fannie Mae on June 1: “If a broker or lender finds significant changes, the loan could be delayed, or in some cases, denied.” Accordingly, you should make sure that you continue to exercise the same prudence until the loan is officially closed. According to one analyst, “ ‘Just one point in a credit score can change things tremendously. And potentially, they may not qualify for the loan.’ ” At the very least, you might incur additional fees.

Finally, your credit score will continue to be affected depending on how diligent you are in repaying your mortgage. If you promptly make payments every month, your credit score will gradually improve.This will simplify the process of refinancing your mortgage or obtaining a new loan in the future. If you make even one late payment, however, your credit score will be materially impacted. If you default on your mortgage, your credit score will be devastated, and it goes without saying that you will have difficulty obtaining financing for anything for at least a few years.

In short, while the credit score is both annoying and even somewhat pointless, remember that lenders take it very seriously. Unfortunately, that means that you should do the same.

According to researchers, this phenomenon is known as cognitive resource depletion. “Shopping for a home and choosing between alternative features ‘can deplete individuals’ cognitive resources, resulting in sub-optimal home-financing decisions. After the shopping experience, consumers may devote less attention to the mortgage-choice process…relying on faulty-decision shortcuts that ‘ultimately result in a higher propensity’ to select higher-risk mortgage products.” They advise that after selecting a home, one wait at least a week before beginning the process of obtaining a mortgage.

A survey conducted by the Atlanta Federal Reserve Bank, meanwhile, found that people who aren’t as adept at math are naturally bad at budgeting for mortgage payments. “Even accounting for a host of differences between people—including attitudes to risk, income levels and credit scores—those who fell behind on their mortgages were noticeably less numerate than those who kept up with their payments in the same overall circumstances.” It’s unclear what implications this has for borrowers; should those bad at math avoid taking out mortgages in the first place?

This probably isn’t practical, and instead, borrowers should budget carefully, regardless of mathematical ability. That means prior to obtaining a mortgage, you should analyze your spending patterns and compare it to your after-tax income in order to determine what size mortgage you are eligible for. Many borrowers simply plug in wishful figures into Mortgage Calculators, in order to inflate the size of the loan that they think they can afford. In this case, it’s truly “Garbage In, Garbage Out,” which means the calculations are only as good as the inputted numbers. Do yourself a favor and take this exercise seriously. Also, be advised that, “Qualifying for a loan amount doesn’t mean that it is in your best financial interest to take on that much debt.”

Finally, there are a handful of financial considerations that don’t involve obtaining a mortgage, and are instead connected to the purchase price for a property. When negotiating such a price, remember that the transaction consists of more than simply assigning a value to the property. Even after agreeing on what the property is theoretically worth, you might still to extract savings by persuading the borrower to pay for certain repairs and housing fixtures, pay for your closing costs, pay you to delay your move-in date, and/or leave over some large appliances. In short, “Everything in a real-estate deal is open to negotiation, and sometimes price isn’t the most important factor.”

In fact, Alan Greenspan, himself, estimated that “ four-fifths of the trifold increase in American households’ mortgage debt between 1990 and 2006 resulted from ‘discretionary extraction of home equity.’ ” In other words, most new mortgage debt was created as a result of refinancing (which increased the appraised value of the properties), rather than debt to fund purchases of new homes. “In 2005 alone, U.S. homeowners extracted a half-trillion-plus dollars from their real estate via home-equity loans and cash-out refinances. Some $263 billion of the proceeds went to consumer spending and to pay off other debts.”

The link between cash-out refinancing and foreclosure is surprisingly cut-and-dried: “For every 1 percentage point increase in its share of subprime mortgages that are cash-out refinances, the likelihood of foreclosure in that state goes up by one-third of a percent.” This connection is not difficult to comprehend since borrowers with less equity will necessarily have a more difficult  time repaying their mortgages, either for lack of wherewithal or lack of motivation (perhaps resulting from being underwater).

There are very clear lessons here. First, borrowers should exercise extreme caution when increasing the balance (via a refinancing) of their primary mortgage. This is true if the funds will be pumped back into the home, and especially true if the borrower intends to withdraw some of the proceeds, since this directly increases the likelihood of default.

From a policy standpoint, it’s clear that cash out refinancing should be heavily regulated, if not banned outright. Some experts have pointed to Texas, where the incidence of both foreclosures and underwater mortgages are well below the national averages. By no coincidence, “There, Cash-outs and home-equity loans can’t total more than 80 percent of a home’s appraised value. There’s a 12-day cooling-off period after an application, during which the borrower can pull out. And when a borrower refinances a mortgage, it’s illegal to get even $1 back.” Texas takes these rules so seriously that they are enshrined in the State Constitution.

It’s unlikely that the imminent federal overhaul, in all its glory and fecklessness, will include a similar provision. That’s unfortunate, since the data clearly shows that if a repeat housing bubble is to be avoided, the most effective measure might just be to ban cash-out refinancing.

Recently, I read an article in the New York Times entitled “When Not To Pay Down A Mortgage,” in which the author, Ron Lieber, lays out the case for and against early repayment of your mortgage. He concludes that based on current interest rates and economic circumstances, it doesn’t make sense to repay it, because you can probably earn more investing your savings elsewhere. Still, he concedes that there is an emotional benefit to repaying your mortgage early and being debt-free.

Lieber makes some good points about how it’s clearly better to first pay off higher-interest debt, such is that associated with a credit card or home equity loan. Don’t be tempted to make extra mortgage payments in order to lower the duration of your mortgage without first paying down your credit card. He also urges readers that in the current economic climate, it’s very important to make sure that you have an adequate cash cushion in case of hardship, and that emergency funds clearly should not be used to prepay the mortgage regardless of your interest rate.

But here’s where Lieber goes astray. He repeats the classic mortgage fallacy which is that your real interest rate is less than your stated rate because of the mortgage interest tax deduction, which means that your hurdle rate (the rate of return that you would need to earn in order to make not prepaying viable) is much lower than you think. There is only some truth to this, but it depends on the type of investment account and the type of investment. If you use the funds (that you would have otherwise used to prepay your mortgage) to day trade, then you will be taxed on your earnings (or more likely your losses…) at your normal income tax rate, completely offsetting the interest tax deduction. The same is true if you invest using your Roth IRA, since you will necessarily have paid income taxes on all contributions to that account before they can be invested. Really, the only exception is that if you invest in stocks using your traditional IRA, you will be taxed at the long-term capital gains rate (15%), and can reap some benefit from the tax rate differential. Still, this assumes that (at current rates) you will need to average 4-5% a year simply to break even! Maybe you think that you can, but is the added risk really worth it? In this regard, the only way you really “beat the system” is if you contribute more funds to an employer matching 401K. Personally, I would have thought this was obvious, and that anyone with half a brain would have done this before prepaying their mortgage.

Lieber’s other argument is even more questionable: given how much housing prices have fallen, it doesn’t make sense to prepay your mortgage, because if you decide you want to walk away, it becomes even more costly. Of course, this is entirely true, but I have a hard time believing that a significant portion of borrowers obtain mortgages with the intention of breaking them when housing prices decline. I, too, am an advocate of walking away from your mortgage when it makes financial sense, but the idea of financial planning with this possibility in mind strikes me as ludicrous. Even in the current crisis, only a small minority of borrowers (~10%) will default on their mortgages. For those who are underwater, I’m sure that they regret every cent that they paid into their mortgage. But asking them to anticipate the position that they ultimately found themselves in and acting accordingly is unfair.

I think Lieber’s conclusions stand on their own. There is a strong emotional benefit to repaying your mortgage early, as long as you can afford it. While it’s possible that you will come out ahead by paying off your mortgage normally and investing in the interim, there is added risk and no guarantees associated with such a strategy.

A few years ago, this would have been a fringe question for a fringe audience. Nowadays, though, 25% of all residential mortgages are underwater. In states like Nevada and Florida – two of the epicenters of the housing bubble and subsequent bust – more than half of borrowers owe more on their mortgages than their homes are worth. In other words, for a growing portion of homeowners, this question is of foremost importance.

For argument’s sake, let’s assume that you have already discussed a loan modification with your lender, and you have been either rejected or presented with an inadequate offer. As a result, you have made the decision to part with your home. [Admittedly, this is a weighty decision]. Should you sell your home at a loss, or simply walk away from your mortgage and allow your lender to deal with the fallout?

The first option is known as a “short-sale,” since the proceeds from the sale of your home wouldn’t be enough to cover the balance of your underwater mortgage. Accordingly, a short sale (or its first cousin, the deed in lieu of foreclosure) first requires the approval of the lender, because it is tantamount to writing off part of the mortgage as a loss. Still, many lenders are amenable to this possibility, because it is often less complicated – and hence, less expensive – than outright foreclosure. You will also need to confer with any junior-lien lenders as well as the mortgage insurance company, if applicable. After receiving an offer on your home, this must then be submitted to the lender (via its loss mitigation department) for final approval.

Here are a few additional things to keep in mind: Minimizing the transaction costs of the sale (by hiring an expensive real estate agent, for example) will go a long way towards convincing the lender that the deal is worthwhile. Next, while a short-sale is less painful than a foreclosure, there will still be some inevitable damage to your credit. In addition, you might be expected to pay taxes on the portion of your mortgage that was forgiven by the bank. Finally, be advised that short sales typically take longer to complete than normal sales, as lenders will often spend a long time deliberating over whether to approve the deal.

If your house has depreciated too much in value, and/or your lender is not willing to approve a short-sale, then a strategic default might be your last option. So-called as to distinguish it from a “conventional” foreclosure, a strategic default is a voluntary decision to stop making mortgage payments despite the capacity to do so. While choosing foreclosure might strike some as oxymoronic, it turns out that for many, it is actually a perfectly rational choice. Simply, the negative impact on one’s credit score and the possibility of a deficiency judgment, pales for some when weighed against the prospect of spending the rest of one’s lifetime paying off a mortgage that is well underwater.

That’s because while foreclosure technically remains on one’s credit report for 7-10 years, it can become functionally irrelevant in the eyes of lenders in half that time. In addition, deficiency judgments (in which the lender sues to collect the difference between the value of the property at the time of foreclosure and the amount owed under the mortgage) are illegal in many states, and rare in the rest. That being the case, the only remaining consideration is the moral one- deliberately breaking a contract that you have the ability to honor. While there are strong arguments to be made for both sides, I don’t think this is an appropriate forum to explore that dimension, however. Let your conscience be your guide.