How to lower mortgage payments

Early Repayment and Extra Payments

In many situations, mortgage borrowers may want to pay off their mortgages earlier rather than later for reasons such as

  • Interest savings
  • Wanting to sell their home
  • Refinancing

Bank won't tell you this - a 30-year mortgage doesn't actually mean 30 years:

  1. An extra monthly payment per year can cut 5 years off
  2. 2 extra payments per year can cut about 8 years off
  3. 3 extra payments per year can cut about 11 years off

Mortgage calculator can factor in monthly, annual, or one-time extra payments. However, borrowers need to understand the advantages and disadvantages of paying ahead on the mortgage.

Early Repayment Strategies

Aside from paying off the mortgage loan in full, there are typically three main strategies to repay it earlier. The main reason to adopt these strategies is to save on interest. You definitely want to do that since when you are starting out with a loan you are paying 75% towards interest and only 25% towards principal. By paying down the total amount, you will be able to bring down the interest. We have done this twice already. It makes a huge difference.

The following methods can be used in combination or individually.

  1. Make extra payments—This is simply an extra payment over and above the monthly payment. On typical long-term mortgage loans, a very big portion of the earlier payments will go towards paying down interest rather than the principal. Any extra payments will decrease the loan balance, thereby decreasing interest and allowing the borrower to pay off the loan earlier in the long run. Some people form the habit of paying extra every month, while others pay extra whenever they can. There are optional inputs in the Mortgage Calculator to include many extra payments, and it can be helpful to compare the results of supplementing mortgages with or without extra payments.
  2. Biweekly payments—The borrower pays half the monthly payment every two weeks. With 52 weeks in a year, this amounts to 26 payments or 13 months of mortgage repayments during the year. This method is mainly for those who receive their paycheck biweekly. It is easier for them to form a habit of taking a portion from each paycheck to make mortgage payments. Displayed in the calculated results are biweekly payments for comparison purposes.
  3. Refinance to a loan with a shorter term—Refinancing involves taking out a new loan to pay off an old loan. In employing this strategy, borrowers can shorten the term, typically resulting in a lower interest rate. This can speed up the payoff and save on interest. However, this usually imposes a larger monthly payment on the borrower. Also, a borrower will likely need to pay closing costs and fees when they refinance.

Reasons for early repayment

Making extra payments offers the following advantages:

  • Lower interest costs—Borrowers can save money on interest, which often amounts to a significant expense.
  • Shorter repayment period—A shortened repayment period means the payoff will come faster than the original term stated in the mortgage agreement. This results in the borrower paying off the mortgage faster.
  • Personal satisfaction—The feeling of emotional well-being that can come with freedom from debt obligations. A debt-free status also empowers borrowers to spend and invest in other areas.

Drawbacks of early repayment

However, extra payments also come at a cost. Borrowers should consider the following factors before paying ahead on a mortgage:

  • Possible prepayment penalties—A prepayment penalty is an agreement, most likely explained in a mortgage contract, between a borrower and a mortgage lender that regulates what the borrower is allowed to pay off and when. Penalty amounts are usually expressed as a percent of the outstanding balance at the time of prepayment or a specified number of months of interest. The penalty amount typically decreases with time until it phases out eventually, normally within 5 years. One-time payoff due to home selling is normally exempt from a prepayment penalty.
  • Opportunity costs—Paying off a mortgage early may not be ideal since mortgage rates are relatively low compared to other financial rates. For example, paying off a mortgage with a 4% interest rate when a person could potentially make 10% or more by instead investing that money can be a significant opportunity cost.
  • Capital locked up in the house—Money put into the house is cash that the borrower cannot spend elsewhere. This may ultimately force a borrower to take out an additional loan if an unexpected need for cash arises.
  • Loss of tax deduction—Borrowers in the U.S. can deduct mortgage interest costs from their taxes. Lower interest payments result in less of a deduction. However, only taxpayers who itemize (rather than taking the standard deduction) can take advantage of this benefit.