Accelerating paying off your home mortgage
A reader asked for information about reducing their mortgage faster than the original 30-year term, and wondered whether some-type of a mortgage-payment assistance programmes is helpful.
My caveat, as always, is that this is general financial information to help you stay in control of your personal finances. It is not intended for, nor cannot it be used for your personal financial situation. Professional qualified advice is recommended, in this case, starting with your qualified mortgage officer.
We start with what and how a home mortgage generally works. A mortgage on real property occurs when a buyer/owner pledges his or her equitable right to said property as collateral for a loan. The lender advances capital to the buyer/owner under a legally binding contract subject to certain terms and conditions.
Generally, it encompasses the following:
• Terms of repayment are stated, say 15, 20, or 30 years.
• The interest rate is driven by market opportunities and/or various interest rate-type indexes, e.g. Libor, bonds, prime rates.
• Monthly payment of interest and principal amounts are calculated, based upon an amortisation schedule of the agreed capital/principal.
• A down payment may be required.
• The lender has possession of your property deed until the loan is redeemed.
Other components of the mortgage contract:
• May allow the buyer/owner the right to prepay the mortgage principal — this is an extremely important concept — as we shall see.
• Legally, allows the lender to encumber the property giving them the right to foreclose or repossess the property if the buyer/owner defaults on payments. In other words, until your mortgage is fully redeemed, it is not yours — completely.
There are numerous loan variations: adjustable, fixed rate, interest only, balloon payment, amortised, etc.
Adjustable (variable) rate mortgages have interest rates that fluctuate with capital market activity, while in a fixed-rate mortgage, the interest rate remains the same for fixed timeframes.
An interest-only loan does not factor in any principal payments on the original note balance. Generally, principal payments may be arbitrary, or the entire principal balance (balloon) is due at term maturity.
Interest-only loans are not the best method for homeowners. Consider the anecdotal true story of a family, after 20 years of hard work submitted their final mortgage payment. They went to take possession of their house deed only to be informed by their bank that they had only made interest payments, and the full mortgage principal was still outstanding. Devastating! Eventually, it was determined that the original construction loan (of interest only) had not been converted into a conventional mortgage; some resolution was achieved.
An amortised mortgage loan say, for 30 years, generally sets the same payment each month; a portion is applied to mortgage principal, and the remainder to interest. As the term to maturity progresses, far more payment is applied to reduce the mortgage principal than owed to interest. See the mortgage payments schedule comparison that accompanies this article.
What happens if the homeowner makes additional principal payments at every opportunity?
Let’s assume that an additional $300 every month is applied solely to the principal balance.
Look at the difference in the mortgage principal payment schedule, where the “with additional payment” (the right-hand side of the table) results in a total payment of $567,000 (principal and interest) compared with $718,000. Amazingly, by paying just $300 more each month, you will save more than $150,000 in interest while shaving ten years off your mortgage term.
What, I ask you, could be better than that? You can try further sums with the online extra mortgage payment calculator at https://tinyurl.com/y7oyhd4v
Imagine how fast your mortgage will reduce if you, as the homeowner, apply additional bonuses, salary raises and the like as well.
This is why when readers ask for my advice on how, when, and what they should invest in, my answer is paydown your mortgage first. Your ultimate savings can be so significant, emotionally uplifting while reducing stress. When you fully own your home, you can survive and thrive. Then, you can consider investing.
Warning! Readers, if your goal is early relief from mortgage debt, you must track two things every single month, rigorously.
1. Make sure your bank allows mortgage principal-only prepayments.
2. Track every prepayment to be absolutely sure that the entire payment is subtracted from the remaining mortgage balance and that is not applied to interest! This is incredibly important. If an error is noted, immediately call your mortgage officer.
Addressing our readers’ questions about mortgage reduction or accelerator programmes.
They work like this.
In all types, a good-sized fee (or purchase) is paid to a separate firm for a “managing your money service”, or purchasing a software programme or personal counselling. Here are three variations. Such as:
• One firm advocated taking out a short-term credit card loan (at 15 per cent to 20 per cent annual rate), applying the cash to reduce a mortgage with a rate of 7 per cent.
• Another service proposes handling your money while paying the mortgage for you.
• A third requires the purchase of software to help you manage your payments.
My question then is, after reading how you can control prepaying your mortgage yourself, why would you want to pay someone else to control your personal finances?
The fees paid to the mortgage reduction/accelerator service or software programme could be applied directly to prepay your mortgage — giving you a great start.
These are not just my words, readers. A certain world-famous financial adviser featured in this newspaper and other social media, does not recommend these types of mortgage reduction services. His opinion is blunt, to the point.
• Negotiate the best rate and timeframe for your mortgage loan.
• Make sure that your mortgage contract allows you to make principal-only prepayments on the mortgage, and/or offers bi-weekly payments.
• Track each regular mortgage payment — every month.
• Track every single extra principal reduction payment — make sure your extra payment is applied to the principal balance only, not interest. Alert the bank immediately if the payment is not applied correctly.
• Use the mortgage tracking spreadsheet to verify your payments against the bank balance.
Use the fill-in amortisation schedule linked here to fully track and verify your mortgage payments, both regular and extra made to your lender.
For an irregular payment remaining loan balance calculator use this link: https://tinyurl.com/y7ewtfhf
Write to me if you have problems setting up your mortgage payment trackers. Good luck.
• Martha Harris Myron CPA CFP JSM: Masters of Law — international tax and financial services. Dual citizen: Bermudian/US. Pondstraddler Life, financial perspectives for Bermuda islanders and their globally mobile connections on the Great Atlantic Pond. Finance columnist to The Royal Gazette, Bermuda. All proceeds earned from this column go to The Reading Clinic. Contact: email@example.com