Did you know that you could make more payments than what your mortgage company requires? You have a standard payment you must make each month in order to keep your account in good standing. However, you can also make extra payments if you are able to do so.
Just how much does it save you and is it worth it? Keep reading to find out more.
You Save on Interest
The largest savings you realize when you make extra mortgage payments is the interest you’d pay. While making an extra $100 payment per month doesn’t seem like a lot, it really can change what you pay on your mortgage in the end. What you do is cut down the principal. You pay interest on that principal. If you knock it down, you pay less interest. Even just $100 per month can save you thousands of dollars in interest.
While $100 per month doesn’t sound like a lot, if you average that out over say 300 months, that’s an extra $30,000 that you will knock off your principal over the life of the loan. That’s a lot of interest savings, just for paying an extra $100 each month.
Should You Prepay Your Mortgage?
The bigger question here is should you prepay your mortgage? While saving on interest is great, if you are paying interest elsewhere, it may not make sense. In most cases, even if you have a subprime loan, your mortgage is the ‘cheapest’ loan you have. In other words, you probably pay the lowest interest rate on your mortgage compared to other debts such as credit cards or personal loans.
If you have consumer debt, you should focus on paying that debt off first. A credit card interest rate of 19% is much more expensive than the 4.5% interest rate you have on your mortgage. Get yourself out of that credit card debt and you will see a much greater return on your investment. The same goes for installment loans or personal loans that you have with your bank.
If you are out of consumer debt, look at your savings. Do you have a savings account with at least six to nine months of expenses saved? Do you have investments in a 401K or IRA? If your company offers a 401K, at the very least, you should be investing as much as they will match. Even if your employer offers a 1% match, that’s free money that you pass up if you put the money toward your mortgage instead. Once you max out your 401K contributions and/or your IRA contributions, you can then focus on your mortgage debt.
You Lose Liquidity
Something you have to keep in mind when you pay your mortgage off early is that you lose liquidity. Any extra money you put into your home is not liquid. In other words, you can’t turn around and take the cash back. It’s invested in your home. The only way to get it back is to refinance with a cash-out refinance. That costs money, which means it could deplete the benefit of paying extra money towards your mortgage.
Before you make extra payments, regardless of how much you might save, think about the long-term. Is the money you are putting into your home money that you can do without for a long time? If you plan to stay in your home as long as possible, you need to be without that money for that time. Some people use their home as their retirement plan. Once they pay it off, they sell the home and downsize. They keep the extra proceeds for retirement income. Is that what you plan to do or will you need access to the funds sooner? It’s food for thought before you put that extra money towards your mortgage.
The bottom line is that you can probably save money by paying extra towards your mortgage, but only in certain circumstances. If you know you’ll be in a financial bind in a few years and will have to refinance to get the money out, it’s not worth it. You could end up paying thousands of dollars in closing costs plus a higher interest rate on your mortgage just to get your cash back.
In short, think long and hard before you pay extra towards your mortgage. Make sure that you are financially secure in all other areas of your life so that your extra payments do you good, not harm. In the end, you do stand to save thousands of dollars, but only if the process works out right from the start.