Or Refinance To A Shorter Term
You can also get a 30-year mortgage and then refinance it into a shorter term after you buy. This can help you save a chunk of money, especially if your current mortgage is fixed rate and rates are lower now than when you signed your original mortgage. Though understand that youll have to pay closing costs again when you refinance, so factor that into your payoff plan.
Michael Shea, CFP®, EA at Applied Capital, elaborates: Especially during times when interest rates have fallen, refinancing has created an opportunity for homeowners to lock in a lower interest rate and decrease their monthly payment. And he notes that if you were able to continue making the same monthly mortgage payment after refinancing, you would also be able to pay off the mortgage earlier. This doesnt change their budget, but increases the amount they are putting towards their principal.
Refinance With A Shorter
A shorter term on the mortgage means it goes away sooner, but at the cost of a much higher monthly payment and perhaps some out of pocket closing costs. Examine the loan closely.
The monthly payment on a 30-year, $200,000 mortgage at 2.5% would be $790 a month.
The monthly payment on a 15-year, $200,000 mortgage at 2.25 % would be $1,310.
Thats another $520 a month to finish paying off your mortgage 15 years sooner.
|30 Years of Payments|
|*For a $200k mortgage|
The bottom line on this decision is the bottom line: Can you afford the higher monthly payment of a 15-year loan, or are you better off contributing extra each month when you can to a 30-year payment?
Own Your Home Outright
Paying off your mortgage early can provide you with a sense of security. Should your financial circumstances change in the future, you wont have to worry about foreclosure as long as the taxes are paid because youll already own your home outright. Furthermore, youll have equity in your home that you can use to borrow funds for other potential needs, such as making improvements or repairs.
Make Extra Principal Payments
Another way to pay off your home loan faster is to simply pay extra when youre able.
Most mortgage loans issued after Jan. 10, 2014, do not charge prepayment penalties.
This means you can pay extra money toward your mortgage balance each month or make a larger, lump sum payment on your principal each year without facing a penalty for paying off your loan early.
Many homeowners make extra payments on their loans principal when they get an income tax refund. Extra principal payments can have a big impact.
Heres an example.
- Lets say you took out a home loan for $300,000 on a 30year term and rate of 4%
- Thats a principal and interest payment of $1,370
- 360 payments of $1,370 per month means youll have paid $492,500 over the life of the loan thats $192,500 in interest payments over 30 years
Using the same numbers for the loan amount and interest rate:
- If you make extra principal payments of $250 per month, youd shave seven years and four months off your term
- And, youd save more than $59,000 total in interest payments
There are benefits aside from interest savings, too.
Paying off your mortgage early lets you use the money you would have paid each month for other purposes, like investing.
Lets continue with the example above. Instead of paying $1,370 per month on the mortgage, you could put the same amount of money in an investment account.
Why You Should Pay Off Your Mortgage Last
Although we wanted to focus on paying our mortgage off early, we also realized we should start paying down our mortgage after everything else was paid off. Luckily, we started our debt-free journey years ago and were able to move on to our mortgage goal.
If you are like most Americans, you may have student loan debt, and car debt. You should pay these off before you begin throwing extra money at your mortgage.
Suppose you do the opposite start paying more on your mortgage, every extra cent you can find. Then you have some type of emergency that causes you to be out of work for eight weeks. Your income is radically cut in the short term, and even though you will be back to work in two months, how will you pay your bills in the meantime?
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Comparing The Loan Interest Saved Versus Investment Gains
Kirsten Rohrs Schmitt is an accomplished professional editor, writer, proofreader, and fact-checker. She has expertise in finance, investing, real estate, and world history. Throughout her career, she has written and edited content for numerous consumer magazines and websites, crafted resumes and social media content for business owners, and created collateral for academia and nonprofits. Kirsten is also the founder and director of Your Best Edit find her on LinkedIn and Facebook.
If you’ve received a windfall of cash or saved a sizable sum of money over the years, it may be tempting to pay off the mortgage loan early. Whether or not paying off the mortgage early is a good decision or not can depend on a borrower’s financial circumstances, the loan’s interest rate, and how close they are to retirement.
Another consideration includes whether to invest that sum of money versus paying down the mortgage. This article explores the interest cost that could be saved by paying off a mortgage ten years early versus investing that money in the based on various investment returns.
Purchase A Home You Can Afford
Suppose that you decide to buy a home. You cleverly go to a mortgage company to obtain pre-approval for a mortgage, so that you know the ballpark you can spend. You are absolutely amazed when the mortgage broker comes to you with a number approximately double what you expected.
What? you think, I can buy a $450,000 house with an income of $40,000? It shouldnt be surprising that mortgage lenders will provide you with a very large pre-approval amount in the hope that you will take out a $450,000 loan with them rather than a $200,000 loan. Thats how they make their money!
While I suggest using a real estate agent for property purchases, realize that their commission is tied directly to the final price you pay for the home.
Although we would ALL love to have a giant house on the lake, it simply is not realistic to think that we can all afford it.
So how much house CAN you afford?
First, consider your take-home pay. If your mortgage took up half of that amount, how would you pay for other essential things like food, clothing, and keeping gasoline in the car? A good rule of thumb to help you get a ballpark idea of how much you can spend on a mortgage is to look for one in which the monthly payment is no more than 25% of your take-home pay.
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How Your House Actually Costs You Double The Price
HOW YOUR HOUSE ACTUALLY COSTS YOU DOUBLE THE PRICE
Using this RBC Canadian mortgage paydown calculator, I did some calculations to see how much we would pay in interests if we did not make any extra payments over 30 years at an average of 6% (unlike in US, In Canada, most mortgages are renewable every 5 years, therefore the interest rate is only guaranteed for the 5 years.
Thus, even though we did have a somehow low interest of 3.04%, we did not know what kind interest rate we would be able to get at 5, 10, 15, 20, and 25 years).
The screen below shows how much we would pay in interests if we did not make any extra payments over 30 years at an average of 6%. We would end up paying $621K in interest, more than the costs of our house of $557K for a whopping $1.18 MILLION!!!!
Paying Off The Mortgage Early
Some homeowners choose to pay off their mortgage early, and the benefits can vary, depending on a person’s financial circumstances.
For example, retirees may want to reduce or eliminate their debt since they’re no longer earning employment income. In other cases, people may want to free up their monthly cash outflows by paying off their mortgage.
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Early Mortgage Payoff Calculator
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Where Does Your Money Go
Well from mid 2012 to mid 2015, we only paid the required minimum payment. We did not bother paying any extra. In all fairness, we had a lot going on, we did $40,000 in upgrades and we also did some international traveling.
But in 2015, after I showed hubby how most of our payments go to interests and very little goes to principal, he agreed with me that we should sacrifice some of the luxuries and try to pay off our mortgage a little bit faster within the next 5 years no later than 2020.
As you can see below, in 2012 we paid $32K, but only $6K went to principal!!
2012 Mortgage paydown
Below, you can see that in 2013, we paid $33K, but only $13K went to principal and the rest went to interests.
2013 Mortgage paydown
Same thing for 2014, we paid $29K, but only $14K went principal and the rest went to interest.
2014 Mortgage paydown
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Founded in 1976, Bankrate has a long track record of helping people make smart financial choices. Weve maintained this reputation for over four decades by demystifying the financial decision-making process and giving people confidence in which actions to take next.
Bankrate follows a strict editorial policy, so you can trust that were putting your interests first. All of our content is authored by highly qualified professionals and edited by subject matter experts, who ensure everything we publish is objective, accurate and trustworthy.
Our mortgage reporters and editors focus on the points consumers care about most the latest rates, the best lenders, navigating the homebuying process, refinancing your mortgage and more so you can feel confident when you make decisions as a homebuyer and a homeowner.
Ask About Prepayment Penalties Before You Commit To A Loan
When youre shopping around for a loan, be sure to ask any potential lenders about prepayment penalties before you sign on the dotted line.
If youre planning to pay off your mortgage early in order to save on interest, the last thing you want to do is pay penalties as a result.
Not all lenders have them, but if you want to pay your loan off early, its better to not pay your lender for the privilege!
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Paying Off Your Mortgage Early: When And How To Do It
There are a number of strategies you can follow to pay off your mortgage faster. By refinancing or making extra quarterly payments, you can shave months, or even years, off your pay-off date.
Edited byChris JenningsUpdated October 12, 2021
Our goal is to give you the tools and confidence you need to improve your finances. Although we receive compensation from our partner lenders, whom we will always identify, all opinions are our own. Credible Operations, Inc. NMLS # 1681276, is referred to here as “Credible.”
When you take out a mortgage, you might feel uneasy at the thought of carrying debt and paying high interest costs over time. Paying off your mortgage early, however, could help you save money and rid yourself of some financial stress.
Before you make extra mortgage payments or zero out the debt entirely, you should consider whether its the best move for you. It may make sense in some circumstances, but not all.
Heres what you need to know about paying off your mortgage early:
Make A 20% Down Payment
If you donât have a mortgage yet, try making a 20% down payment. Private lenders will require you to pay private mortgage insurance if you have a smaller down payment. That extra insurance cost will only make it harder to pay off your mortgage quickly.
If you canât afford a 20% down payment, you may want to double check that you can reasonably afford the home. Having a smaller mortgage is the easiest way to pay it off quickly.
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Repay The Same Amount When Interest Rates Drop
If you’re refixing your home loan at a lower interest rate and you keep your repayments the same, youll pay your loan off faster. Its the same if you have a Choices Floating or Choices Floating with Offset Home Loan and the interest rate drops – if you keep your repayments the same, you’ll pay your loan off faster.
More of each payment goes towards repaying the principal, which pays off the outstanding balance faster and reduces your overall interest costs.
You Might Not Want To Pay Off Your Mortgage Early If
- You need to catch up on retirement savings: If you completed a retirement plan and find you arent contributing enough to your 401, IRA, or other retirement accounts, increasing those contributions should probably be your top priority. Savings in these accounts grow tax-deferred until you withdraw them.
- Your cash reserves are low: You dont want to end up house rich and cash poor by paying off your home loan at the expense of your reserves, says Rob Williams, managing director of financial planning at the Schwab Center for Financial Research. He recommends keeping a cash reserve of three to six months worth of living expenses in case of emergency.
- You carry higher-interest debt: Before you pay off your mortgage, first close out any higher-interest loansespecially nondeductible debt like that from credit cards. Create a habit of paying off credit card debt monthly rather than allowing the balance to build so that youll have fewer expenses when you retire.
- You might miss out on investment returns: If your mortgage rate is lower than what youd earn on a low-risk investment with a similar term, you might consider keeping the mortgage and investing what extra you can.
- You need to diversify: Your house is just as much of an investment as whats in your portfolio. And overconcentration carries its own riskseven when its in something as historically stable as a home. Maintaining your mortgage allows you to fund other asset classes with possibly more growth potential.
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Increase Your Cash Flow
Since your mortgage is a major monthly expense, paying it off will provide you with a considerable amount of money that you can put to use. With the increase in cash flow, you can grow your savings, make improvements on your home, travel to new parts of the world or invest in the stock market. Paying off your mortgage early affords you the freedom to do what you wish with your money.
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Boost Your Income And Put All Extra Money Toward The Loan
A great way to cut the life of your loan is to work on earning more money with the intention of making extra payments on your loan. Consider selling stuff on Amazon or eBay, cutting your impulse purchases and putting saved money toward your loan, or taking on a side hustle on weekends or holidays for extra cash. Even a job that nets you an extra $200 a month can make a big difference in your loan.
Triumph over your loans by using one or more of these tricks to make them shorter and pay less interest. You deserve to keep more of your money!
Reaching Financial Independence Through Compound Interest
Now that we have paid off our loan, the bankers and brokers are no longer profiting off me through compound interest on my home loan. By freeing up my monthly mortgage payment, Im now able to grow my wealth much faster with the help of compound interest working for me rather than against me.
My wife and I are now chasing financial independence. This means we are focusing on creating passive streams of income that will replace my full-time job.
Our next goal is to purchase a rental property so we can begin to diversify our retirement portfolio with real estate.
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