Paying Extra Towards Mortgage Principal Pays Off

Prepaying your mortgage: How reducing your loan principal can lead to big savings.

When you prepay your mortgage, it means that you make extra payments on your principal loan balance. Paying additional principal on your mortgage can save you thousands of dollars in interest. In addition, help you build equity faster.

There are several ways to prepay a mortgage:

  • Apply a lump sum after an inheritance or other windfall.
  • Make an extra mortgage payment every year.
  • Add extra dollars to every payment.
  • Some combination of the above.

For instance, here’s an example of how prepaying saves money and time: Tiffany takes out a $120,000 mortgage at a 4.5 percent interest rate. The monthly mortgage principal and interest total $608.02. Here’s what happens when Tiffany makes extra mortgage payments:

Payment MethodPay Off Loan InTotal InterestTotal Interest Saved
Minimum every month30 years$98,888$0
13 payments a year*25 years, 9 months$82,870$16,018
$100 extra every month22 years, 6 months$70,944$27,944
$50 extra every month25 years, 8 months$82,452$16,436
$25 extra every month27 years, 8 months$89,864$9,024

*Extra $608.02 payment

When asking yourself, “Can I prepay my mortgage?” look at your entire financial picture. For instance, here are some important questions to consider:

  • Is your monthly budget tight after meeting necessary expenses?
  • Similarly, is your income variable and/or unpredictable?
  • How long do I plan to stay in my home?
  • Are you saving enough for retirement?
  • Do you have an adequate emergency savings fund of three to six months of household living expenses?
  • Do you have a lot of high-interest credit cards or loans?
  • Assessing your financial goals, income and budget can help you decide whether it makes more sense to address other pressing financial concerns before paying ahead on your mortgage.

Once those bases are covered, paying extra towards mortgage comes down to discipline and comfort level. For instance, do you want to be completely debt free? Or would you prefer your money working harder for you in other ways? Ideally, you want to pay off your mortgage before retirement so you don’t have those monthly payments to worry about should your income become more limited.

Make sure you earmark any additional principal payments to go specifically toward your mortgage principal. Lenders typically have this option online or have a process for earmarking checks for principal payments only. However, if you are still unsure about prepayment, ask us if you have any additional questions.

Source: Bankrate