Mistakes To Avoid When Paying Off Your Mortgage Early
If you can afford to pay off your mortgage ahead of schedule, youll save some money on your loans interest. In fact, getting rid of your home loan just one or two years early could potentially save you hundreds or even thousands of dollars. But if youre planning to take that approach, youll need to consider if theres a prepayment penalty, among other possible issues. Below are five mistakes that you should avoid when paying your mortgage off early. A financial advisor can help you figure out your mortgage needs and goals.
Where To Get A Loan
Personal loans have been increasing in popularity in recent years, and its easy to see why. You can borrow large loan amounts sometimes as high as $100,000 on a completely unsecured loan with terms as long as 84 months. Theyre an excellent financial tool to use to either pay off high-interest credit card debt, or to purchase an automobile without pledging the vehicle as collateral for the loan.
Two of the best sources of personal loans are Fiona and Credible.
Factors To Consider When Paying Off The Mortgage Early
Living without any debt is an exciting goal, but paying off your mortgage needs to be done right. Here are some important considerations:
- Will you incur penalties for overpaying your mortgage?Some mortgage lenders have prepayment penalties or other loan terms designed to prevent you from prepaying. Make sure to contact your lender and read the fine print in your mortgage contract to determine if this applies to you.
- Do you have credit card or any other debts? Many other types of debt, like credit card debt, have higher interest rates. It’s usually more advantageous to pay off any consumer debt before you pay off the mortgage.
- Have you set aside a sufficient emergency fund? It’s generally a good idea to set aside money in an emergency fund to cover expenses that are not included in your budget or to protect from a rainy day. Build a solid financial foundation first!
- Is your debt oppressing you? Some people feel debt rules their lives. If debt is stressing you out, use the Mortgage Payoff Calculator to calculate how much extra money you need to put toward your mortgage every month to get out of debt sooner.
Once you’ve determined that you’re ready to pay off your mortgage, it’s time to start reaping the benefits!
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Should I Pay Off My Mortgage Or Invest
Investing is one way to raise money for a lump-sum payment. For example, you can invest your money in a tax-free savings account . Then pay a lump sum once your investment grows. Compare rates on your potential investment and your mortgage. If investing offers a higher rate of return than your mortgage, put your money in an investment and watch it grow. If not, put a lump sum on your mortgage instead.
Mistake #: Leaving Yourself Cash
Throwing every extra penny youve got at your mortgage is an aggressive way to get out of debt. It could also backfire. If you dont have anything set aside for emergencies, for example, you could end up in a tight spot if you get sick and cant work for a few months. In that case, you may have to use your credit card to cover your bills or try to take out an additional loan.
If you dont have an emergency fund, your best bet may be to put some of your extra mortgage payments in a rainy day fund. Once you have three to six months worth of expenses saved, you may be able to focus on paying down your mortgage debt.
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Recast Your Mortgage Instead Of Refinancing
Mortgage recasting is different from refinancing because you get to keep your existing loan.
You just pay a lump sum toward theprincipal, and the bank will adjust your payoff schedule to reflect the newbalance. This will result in a shorter loan term.
One major benefit to recasting isthat the fees are significantly lower than refinancing.
Typically, mortgage recasting feesare just a few hundred dollars. Refinance closing costs, bycomparison, are usually a few thousand.
Plus, if you already have alow interest rate, you get to keep it when you recast your mortgage. If you havea higherinterest rate, refinancing might be a better option.
Check with your lender or servicer if youlike this option. Not all companies will allow a mortgage recast.
Making Extra Payments On Mortgage: Is It The Right Move
The short answer is, it depends. Some homeowners will want to explore the possibility of a future lower mortgage payment by paying down principal now. You may feel strongly that shortening the length of your loan is ideal. Or you may want to build wealth separately and save the difference. Essentially it comes down to a few financial and homeownership goals that help you either save time, money, or a little of both.
Not every homeowner will benefit from making an additional mortgage principal payment here and there. Before doing anything else, use the above extra mortgage payment calculator and see how much you may save in the long run.
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Keep Your Payments The Same When Changing Your Mortgage
When you renew your mortgage, you may be able to get a lower interest rate.
Some mortgage lenders may allow you to extend the length of your mortgage before the end of your term. Lenders call this early renewal option the blend-and-extend option. They do so because your old interest rate and the new terms interest rate are blended.
When your interest rate is lower, you have the option to reduce the amount of your regular payments. If you decide to keep your regular payments the same, you can pay off your mortgage faster.
Take This Mortgage Example
Let’s say I just obtained a $250,000 30-year mortgage at an interest rate of 4%. This translates to a monthly payment of $1,194, and I’ll end up paying a total of $179,674 in interest over the life of the loan.
After looking at my finances, I determine that I can comfortably add $300 per month to the payments. Per the amortization calculator, this would allow me to pay off the loan and own my home free and clear 9.5 years earlier than if I simply made the scheduled payment amounts. Perhaps even more significant, adding $300 to my monthly payments would save me a staggering $62,910 in interest over the life of the loan.
To recap, by increasing my monthly payments by roughly 25%, I would pay off the loan 32% faster and save 35% on my interest expense. Imagine if I had increased the payment by $400 or $500 instead.
How much could you save? Here’s an amortization calculator that is specifically designed to determine the effects of paying extra on your existing loans:
* Calculator is for estimation purposes only, and is not financial planning or advice. As with any tool, it is only as accurate as the assumptions it makes and the data it has, and should not be relied on as a substitute for a financial advisor or a tax professional.
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Want To Make Irregular Payments Do You Need More Advanced Calculation Options
- Biweekly Payment Method: Please see our bi-weekly mortgage calculator if you are using biweekly payments to make an effective 13th monthly payment.
- Extra Payments In The Middle of The Loan Term: If you start making extra payments in the middle of your loan then enter the current loan balance when you started making extra payments and set the loan term for however long you have left in the loan. For example, if you are 3.5 years into a 30-year home loan, you would set the loan term to 26.5 years and you would set the loan balance to whatever amount is shown on your statement. If you do not have a statement to see the current balance you can calculate the current balance so long as you know when the loan began, how much the loan was for & your rate of interest.
- Irregular Extra Payments: If you want to make irregular extra contributions or contributions which have a different periodicity than your regular payments try our advanced additional mortgage payments calculator which allows you to make multiple concurrent extra payments with varying frequencies along with other lump sum extra payments.
For your convenience current Los Angeles mortgage rates are published underneath the calculator to help you make accurate calculations reflecting current market conditions.
How Does One Payment Matter
Making an extra payment to your mortgage is something that you should consider because it can save youthousands ofdollars. The fact is that just one payment can make a considerably difference in the total that you payforyour home and what’s more, it can shave years off of that mortgage. Take a look at the followingexample.You can use a mortgage calculator to help you to find out this information specific to your currentloan.
If you currently have a $200,000 mortgage loan and you have secured an interest rate at 6.5 percent, yourmonthlypayment is likely to be $1264 dollars per month if your loan term is 30 years. This is a considerablepaymentand you may not realize that the real facts of what you will be paying on the home you are purchasing.It willcost you far more than $200,000.
Original mortgage amount: $200,000Total interest paid on your loan: $255,088.98How much you will really pay in fullat the end of your term: $455,088.98
This information is provided to you on your amortization statement which is what you will see at the timeof closingthe sale on your home. Your lender must provide this for you before you sign your paperwork, so itshould notbe too much of a surprise to you as to how much you will pay for your home when interest is factoredinto the cost.If you are still unsure, use a mortgage calculator to help you to see what these numbers are for yourparticularsituation.
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Fixed & Variable Rates
The standard variable rate is the basic interest rate lenders use for mortgages. Each lender sets their default SVR. Its the default rate mortgages revert to after the introductory period of a loan, which is usually 2 to 5 years. SVR mortgages usually have higher interest rates than other mortgage options.
Standard variable rates move based on fluctuations in the Bank of England base rate. When rates reset higher, borrowers must be prepared to make higher monthly payments. To avoid reverting to the SVR, borrowers would remortgage to a new deal with a favourable rate.
In recent years, standard variable rates have been on the rise. Because of this, many consumers find fixed-rate mortgage options more attractive. According to the Bank of England, since 2016, fixed-rate options are more preferred by borrowers, especially first-time homebuyers.
In the third quarter of 2020, 91.2% of all mortgages used fixed-rate loans. The average fixed-rate mortgage was priced at 1.91%. In contrast, the average variable rate mortgage was priced at 1.85%, bringing the overall market average to 1.91%.
What is a Fixed Rate?
The UK government provides subsidy programs in Help to Buy and Help to Buy London. These government schemes offer mortgage deposit assistance. However, few lenders in the UK provide loans which have fixed rates extending beyond 5 years.
Which Loans Structures Do Most Buyers Prefer?
Only 1 in 50 mortgages come with a fixed rate longer than 5 years.
When To Consider Loan Recasting
In some cases, if you make a large enough mortgage payment, your lender might offer to recast your loan. If youre not aware of this, you may actually ask your lender for recasting.
Mortgage recasting is when you pay a large amount toward your principal balance, which is then reamortized to reflect the remaining balance. Basically, your lender recalculates the remaining balance into a new amortization schedule. You might want to consider recasting if you happen to have large funds from inheritance pay or a windfall from a side-business.
Under the law, only conforming conventional loans can be recasted. This excludes government-backed loans such as FHA loans, USDA loans, and VA loans. Majority of jumbo loans also do not qualify for recasting. To be eligible for recasting, you must have a pristine record of timely mortgage payments and enough lumps sum funds.
Homeowners usually recast their loan to reduce their monthly payment. Like refinancing, recasting decreases overall interest charges. However, it retains your original repayment schedule and interest rate. This means if you have 25 years left to pay, your monthly payment will be lower, but your loan term will still be 25 years. It does not actually shorten your payment term. But its worth it to have lower monthly payments.
To give you a better idea, heres an example below. Lets say you received an inheritance payment worth $200,000. If you happen to have a new loan worth $300,000, you can try recasting.
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Overview: Paying Off Your Mortgage Early
Every time you make a mortgage payment, its split between your principal the amount of money you initially borrowed and your interest. Most of your payment goes toward interest during the first few years of your loan. You owe less in interest as you pay down your principal. At the end of your loan, a much larger percentage of your payment goes toward principal.
You can apply extra payments directly to the principal balance of your mortgage. Making additional principal paymentsreduces the amount of money youll pay interest on before it can accrue. This can knock years off your mortgage term and save you thousands of dollars.
Lets say you borrow $150,000 to buy a home at 4% interest with a 30-year term. By the time you pay off your loan, you will have paid a whopping $107,804.26 in interest. This is in addition to the $150,000 you initially borrowed.
Now, lets say that you pay an extra $100 every month toward a loan with the exact same term, principal and interest rate. At the end of the term, you will have paid $82,598.49 total in interest. Thats $25,205.77 less than you would have paid if you didnt make any extra payments. Youll also pay your loan off 74 months earlier than you would if you only paid your premium each month.
The decision to pay off your mortgage early is a personal one that depends heavily upon your individual circumstances.
Calculate Your Payment And More
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Increase Your Mortgage Payment
Increase the size of your regular mortgage payment to take a large chunk off your mortgage principal. Choose a higher payment amount when you arrange your mortgage, or at any time during the term. This lets you pay down the principal faster.
Example: If you increase your monthly mortgage payment amount by $170 from $830 to $1,000, you’ll save almost $48,000 in interest over the amortization period. And you’ll own your home about 8 years sooner.1
How Do You Compare Loan Offers
In any loan scenario, you have to make underlying assumptions such as:
- If you are likely to remortgage the loan again.
- When you are likely to remortgage.
- Where you think interest rates are headed.
- If you think you will sell the home soon.
- If rates head higher and your rate resets well above the initial offer, will your wages be enough to cover payments?
Look Beyond the Monthly Payment
Its important to consider the overall mortgage costs, not just the monthly payment amount. Borrowers will find interest-only payments affordable. However, compared to a full repayment mortgage, you immediately build equity in your home. This bring you closer to home ownership, stability, and grants you further life flexibility. In contrast, interest-only payments do not build equity. It does not provide financial cushion which helps protect you against shifting market conditions.
If one loan amortises and the other does not, then you have to look at how much equity you build in a home. This is a key factor in determining value. Most people also do not want to pay mortgages for the entire lifetime, or until they hit a tough patch and risk foreclosure.
Example Loan Comparison from a Reader
The key to being able to accurately compare mortgage offers is to only adjust a single variable at a time. This way you can easily see the differences between offers, instead of trying to compare apples to oranges.
The example below is based on a question from one of our users named Dan.
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Early Auto Loan Payoff Calculator
Have an auto loan that you want to pay off sooner? Wondering how much faster you could pay it off by paying a bit more each month? And how much interest you could save in the process?
This Early Auto Loan Payoff Calculator has the answers.
Enter how much extra you want to pay each month, and the calculator will immediately tell you how many months you’ll shave off your loan and your total savings in interest. It can also show how quickly you’re paying down the loan, with the balance remaining for each month until the vehicle is paid off.
This is good information to have if you’re thinking of trading in the vehicle before it’s paid off and wondering how much to knock off the anticipated trade-in value.