Get A Faster Mortgage Payoff Without Changing Your Monthly Payment
Amortization (ah-mor-ti-ZAY-shun) is the process of making mortgage payments so that your loan balance goes to $0 over time. Those payments include the money you originally borrowed from the bank, plus interest costs for borrowing said money.
Want to reduce the amount of money you pay on your mortgage long-term? Learn how to manipulate your own loan's amortization schedule. As a homeowner, you're always in control.
A 30-Year Mortgage Schedule Favors Your Bank
When a bank sets your monthly principal + interest mortgage payment, it's based on the principles of amortization. With a mortgage, amortization tends to favor the bank -- the early years of a home loan are very heavy on interest payments and very low on principal.
If you've ever looked at your mortgage statement after a few years and thought, "I haven't paid this thing down a bit!", it's because of amortization. This is true for all fixed loan types, too, including the 15-year fixed-rate mortgage; a 20-year fixed-rate mortgage; and, the 30-year fixed-rate mortgage.
For example, look at these numbers on a fixed-rate amortization schedule. If you were to borrow $300,000 from the bank at a mortgage rate of 4%, after 10 years, here is how much you would still owe given various mortgage products :
- A 15-year mortgage has $123,000 remaining of the original loan balance
- A 20-year mortgage has $180,000 remaining of the original loan balance
- A 30-year mortgage has $237,000 remaining of the original loan balance
With the 15-year home loan, you would have made a significant dent in the original loan balance. With the 30-year loan, by contrast, you've barely paid down anything at all. At 4 percent, it takes 19 years, 4 months to pay a 30-year mortgage to pay down by half -- a decidedly bank-friendly statistic.
This is one reason why 15-year mortgages are popular -- homeowners pay much less mortgage interest over time. The money saved can be monstrous.
You're Not Stuck With A 30-Year Fixed Rate Mortgage
The good news is that you don't have to be "stuck" with a 30-year mortgage; you don't have to have those piled-on interest charges.
Your first option to save on mortgage interest is to refinance into a new, shorter loan term. If your initial mortgage was a 30-year fixed rate mortgage, for example, you can choose to lower your term to, say, 20 years or 15 years. The "accelerates" your loan so that it pays off quicker.
When you shorten your loan term, you get rid of the stress of "starting your mortgage over" for another 30 years. You just get a new loan, with a shorter loan lifeline. You'll save on long-term interest costs and will remove years from the life of your loan.
Another good plan is systematically "prepay" your mortgage.
When you prepay your mortgage, you send in "extra" payments each month, meant to chip away at the amount you owe the bank. For example, if your mortgage payment is $1,750 per month, you can send an extra $250 each month for the bank to apply against your balance.
This shortens the term of your loan because the loan's balance is pays down to zero more quickly.
"Refinance-To-Prepay" On Your Mortgage
You can also combine the above two strategies. You can refinance and prepay on your loan. It's a plan that can give the best of both options -- access to today's low mortgage rates, and a quicker amortization schedule.
Here's how to refinance-to-prepay, and save in interest costs :
- Refinance to a lower rate on your same mortgage program (e.g. 30-year fixed)
- Take your monthly savings and apply it to your new loan monthly as "extra payment"
- Stay on plan until your loan is paid in full
The refinance-to-prepay system works because your mortgage rate is lower -- yet you're making the same payment to the bank each month. You're paying less interest at the same time that your paying "accelerated" principal.
You've "restarted" your loan to 30 years, however, your loan will pay off faster than if you never refinanced at all.
Here's a real life example.
Say your current loan balance is $400,000 and you're refinancing from the 4.75% mortgage rate you took two years ago to a 4.00% mortgage rate available today. With the refinance, your payment drops $246 per month so you take that $246 and send it to your lender along with your "regular" payment.
By prepaying your mortgage principal in this way, the 30-year loan you started will actually pay off in full in 24 years, which is four full years faster than if you hadn't refinanced at all. Those four years of "no payments" save $90,000.
Larger loan sizes save even more.
Refinance Without "Losing Years"
Amortization schedules are tricky and you may not have the formulas handy. That's fine. Get a rate quote and use that rate in your mortgage calculator formulas -- you'll need it.
Mortgage rates are very low right now. Amortization schedules may never be in your favor like this again. Take advantage.