Freeing up cash for other investments, saving thousands of dollars in interest and getting peace of mind knowing that you no longer have to make a mortgage payment every month are just several reasons to pay off your mortgage as soon as possible. Though the benefits of paying off a mortgage early are pretty obvious, the real question is: How can a person who earns the average national wage make extra payments on his mortgage?
Before going deeper into this topic, let’s discuss another essential aspect: pre-payment penalties. If your mortgage contract contains a pre-payment penalty clause, it can seriously cut into the savings you may get by expediting the completion of your mortgage payments. In general, borrowers can pay up to 20 percent off the mortgage principal without a pre-payment charge. For payments exceeding this threshold, the lender will calculate the penalty according to the terms and conditions of each mortgage.
Whether or not there’s a pre-payment penalty associated with your mortgage, here are five practical budgeting tips that can help you skip ahead on the amortization schedule.
Tip #1: Put bonuses and raises toward your mortgage.
If your career advances over time, you could use extra bonuses and raises to pay off your mortgage early. If you were doing just fine without that money before, you could use it to increase your monthly mortgage payment, make payments more frequently or pay a lump sum toward the principal once a year.
For instance, you could switch from monthly to biweekly payments. This specifically means making 26 biweekly payments, which are equivalent to 13 monthly payments, instead of 12 payments. The 13th payment will be applied to the principal, allowing you to speed up your mortgage payoff. On a 30-year, fixed-rate $200,000 mortgage with an interest rate of 6.5 percent, this technique will take 5 years and 11 months off your loan term and save you $58,782 in interest. Conversely, if you make a lump sum payment of $5,000 per year, you’ll save 14 years of payments and $133,170 in interest.
Tip #2: If interest rates fall, consider refinancing.
A good way to pay off your mortgage sooner is to refinance it to a lower interest rate and keep making the same monthly or biweekly payments. Let’s say you refinance from a 30-year, fixed-rate $200,000 mortgage with a 6.5-percent interest rate to a 30-year, fixed-rate mortgage, at an interest rate level of 5.5 percent. Assuming that you refinance within the first 2 years after the initial closing, your new mortgage payment will be $1,136 a month. If you continue to pay $1,264 instead, you’ll get rid of your mortgage in just 23 years and 7 months, and save $51,625 in interest. Biweekly payments will further reduce the loan term to 20 years and 1 month, with interest savings totaling $77,658.
Tip #3: Direct your annual tax refund toward your mortgage balance. Whether your annual tax refund is just a few hundred or several thousand dollars, put that amount toward your mortgage. Also, look over your budget every few months to decide if there is any extra money you could redirect to your mortgage.
Tip #4: Round up your payment.
If you cannot afford to put any extra money on your mortgage, round up your mortgage payments. Let’s say your monthly mortgage payment is $1,264. Rounding it up to $1,300 a month will shave 3 years and 7 months off your loan term and $23,923 off interest charges.
Tip #5: Cut expenses and refinance your mortgage to a shorter term.
Refinancing from a 30-year to a 15-year, fixed-rate mortgage will reduce the amount of interest significantly (just $133,598 compared to $255,088 total interest on a $200,000 mortgage). If you cannot afford higher mortgage payments, you may want to consider cutting down on your expenses. For instance, you can switch between car insurance providers to get a better deal, reduce your cable bill by opting for a smaller package and change to a cheaper cell phone plan.
If you’re struggling to pay off your mortgage sooner, make sure all the extra payments are applied directly to the principal amount. By getting the principal repaid early, you’ll really notice the difference.
At North Florida Mortgage, we pride ourselves on providing superior customer service. As part of our service, we back up all the financial products we offer with clear, unbiased advice to help our customers make informed decisions. Whether you’re in the market for a conventional, an FHA or a VA mortgage, feel free to contact our office at (904)-389-4635, and one of our experienced mortgage professionals will answer any questions you may have about our mortgage programs.