Save Money by Shifting Your Mortgage Payment Strategy
October 13, 2018 by Marty Orefice | Financing, Real Estate
When you have a shorter mortgage you pay the bank less money overall. That's because the less time you owe the bank money, the less you have to pay them in interest.
Interest payments don't bring down your debt or build equity in your property. Principal payments bring down your debt and build your equity in the property.
In a 15-year mortgage, you're paying more principal from the beginning of the loan, which cuts down the loan timeline substantially.
Nonetheless, not everyone has the luxury of getting a shorter mortgage term length. Though a 15-year mortgage may only cost a few hundred dollars more a month to pay the loan off in half the time, your income may not be high enough to qualify for the higher monthly payment.
Just because you don't qualify for a 15-year mortgage, doesn't mean you can't take advantage of strategies that can shorten your term length and decrease the total amount that you pay the bank.
Amortization Schedule
At the beginning of your mortgage, most of what you pay goes toward paying down interest. It's not until you bring the principal down substantially that you start to pay more towards principal and less toward interest.
You can check to see exactly where your money is going by looking at your amortization schedule.
Those who pay their mortgages by the amortization schedule set by the bank will pay more interest than principal for the first half of the mortgage.
How Does Paying Down Principal Work?
A banker may not be willing to approve a mortgage that has you paying more than 30 percent of your income each month in payments, but that doesn't mean you cannot afford to.
You know how much of your income is going into your savings account at the end of each month. Your savings account interest rate is likely going to be less than the interest rate you're paying the bank that holds your mortgage.
Paying down the principal of the mortgage is, therefore, saving you more money than your money would be earning you in your savings account because you're not paying interest on that money.
Even a small extra monthly contribution can make a huge difference. For example:
On a $100,000 30-year mortgage purchased with a 4.65% interest rate, paying an extra $100 a month toward your principal from the first month of your mortgage will decrease your mortgage length from 30 years to 21.5 years. Over the course of 30 years, instead of paying the bank $185,628 (the scheduled amount), you'll pay $158,021. That's $27,607 of interest that you saved by paying an extra $100 a month.
Through this strategy, you pay money sooner and thus save money in the long term.
To calculate how much money you can save by paying your leftover money toward principal, you can use this additional payment calculator.
Shave Time Off Your Mortgage by Paying Bi-weekly
Most people get paid bi-weekly but pay their mortgage on a monthly basis. There is a strategy that helps you shave off a few months of your mortgage by paying bi-weekly instead of monthly.
Through this strategy, you pay half your mortgage every two weeks.
This strategy benefits your overall payment for a few reasons:
First, you're paying down some of the principal sooner in the month cutting down on the amount of interest that builds up during the month.
Second, when you pay monthly, you make 12 payments within the year. When you pay bi-weekly, you make 26, which adds up to an extra monthly payment each year. Without considering that you're bringing down your principal, that cuts off one payment per year out of your total payment schedule for every year that you follow the strategy. To put it simply, it cuts out 30 months or 2.5 years off your mortgage before considering how it's helped your principal.
Going back to the above example, on a $100,000 mortgage with a 4.65% interest rate, your extra payments on the principal for a 30-year mortgage deduct 1.5 years worth of payments of interest.
Overall, in this example, by paying bi-weekly you decrease your mortgage by about 4 years!
How To Lower Your Mortgage Interest Payments
You can lower your overall mortgage interest payment by switching your payment schedule to bi-weekly and contributing whatever extra you have at the end of the month toward your principal. You can cut the amount of money you pay in interest by tens of thousands of dollars by following this strategy.
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