I am in the third year of my 30 year fixed rate mortgage. I initially set it up with monthly payments like most people. This past month, however, I made a change that will shave $44,000 off the amount of interest that I pay over the remaining life of the loan and pay off the entire mortgage more than six years early. Furthermore, I'll be building equity faster, so that if I choose to sell my home, I'll have more cash in pocket after paying off the remaining mortgage balance. It was as easy as making a single phone call, and I'll tell you, in this blog post, exactly how I did it and how you can, too.
If you're lucky enough to own your own home, then you most likely have a mortgage. Mortgages come in all shapes and sizes, but let's look at the most common option, a 30 year fixed interest mortgage.
Right now, at the end of 2012, interest rates are low (under 3.5% as I write this), but for this blog post, I'm not addressing whether one should refinance to lower their mortgage interest rate. That's a topic for another day. What I am going to talk about is a simple thing you can do to save yourself tens of thousands of dollars and shave years off the term of your mortgage.
Most mortgages are set up with a single monthly payment like all your other bills. In other words, once a month, you send a check or make an online payment to the bank that holds or services your mortgage. That payment includes interest on your loan. It may also include some amount feeding an escrow fund that covers one or more of the following: property taxes, homeowner's insurance, and PMI (private mortgage insurance). Finally, whatever's left of your payment goes toward paying off the amount you borrowed against your home when you bought it, refinanced, or took out a home equity loan.
In many cases, it is a very small amount for the first years of your mortgage and as progress is made toward lowering the outstanding principal, the amount of monthly interest payments goes down in proportion to the declining principal balance. So, in the third year of your mortgage, you might see something like 75% of your monthly payment going toward interest and only 25% being used to reduce the amount you owe.
Later in the term of the loan you'll see that ratio shift in your favor, so that eventually you might see 75% or more of your monthly payment going toward reducing your mortgage debt instead of just paying the interest. The faster you can change that dynamic, the less you'll pay overall and the shorter your mortgage term will be.
Enough background, let's get to the point. All I had to do to save $44,000 and reduce my mortgage term by more than six years was to call my mortgage bank, Wells Fargo (NYSE: WFC), with my last mortgage statement and my checkbook in hand and ask them to change my monthly payments to biweekly payments.
Since the biggest part of our family income also comes in on a biweekly schedule (receiving a paycheck every two weeks) I picked the day after each paycheck arrives as the date on which Wells Fargo would take the payment from my checking account.
Furthermore, since the amount worked out to be $996.64 per payment (twice a month), I asked them to round it up to an even $1,000 every two weeks resulting in an additional principal payment of $7.12 every four weeks. Of course, there are 52 weeks in a year which are then split into 26 two-week increments. That means that I'm making the equivalent of 13 monthly mortgage payments every twelve months, but, twice a year, when three biweekly payments happen to fall within the same month, the entire third payment is applied to principal, and goes directly toward reducing the amount I owe on my mortgage.
Your mortgage company should be able to tell you while you're on the phone, how much such a switch would save you and how many months it'll shave off the term of your mortgage. I recommend running the numbers yourself ahead of time using the handy calculators at mortgagecalculator.com.
Pros of switching to bi-weekly mortgage payments from monthly payments
Consider your personal situation carefully and make sure you'll be able to cover the 26 biweekly payments before switching over. Falling behind on mortgage payments and racking up late fees or insufficient funds fees from your back or bill-payer service defeats the goal of saving money and can have other negative repercussions like hurting your credit score.
In my case, by tying each payment to specific expected income instead of reserving cash for a single monthly payment, it actually makes day to day budget planning easier, and I don't feel the pain when those extra payments come due.
* The amount you save and the reduction in your mortgage term will vary depending upon how much is left on your current mortgage, your interest rate. The figures given are from my own example and will vary substantially case by case.
If you're lucky enough to own your own home, then you most likely have a mortgage. Mortgages come in all shapes and sizes, but let's look at the most common option, a 30 year fixed interest mortgage.
Right now, at the end of 2012, interest rates are low (under 3.5% as I write this), but for this blog post, I'm not addressing whether one should refinance to lower their mortgage interest rate. That's a topic for another day. What I am going to talk about is a simple thing you can do to save yourself tens of thousands of dollars and shave years off the term of your mortgage.
Most mortgages are set up with a single monthly payment like all your other bills. In other words, once a month, you send a check or make an online payment to the bank that holds or services your mortgage. That payment includes interest on your loan. It may also include some amount feeding an escrow fund that covers one or more of the following: property taxes, homeowner's insurance, and PMI (private mortgage insurance). Finally, whatever's left of your payment goes toward paying off the amount you borrowed against your home when you bought it, refinanced, or took out a home equity loan.
In many cases, it is a very small amount for the first years of your mortgage and as progress is made toward lowering the outstanding principal, the amount of monthly interest payments goes down in proportion to the declining principal balance. So, in the third year of your mortgage, you might see something like 75% of your monthly payment going toward interest and only 25% being used to reduce the amount you owe.
Later in the term of the loan you'll see that ratio shift in your favor, so that eventually you might see 75% or more of your monthly payment going toward reducing your mortgage debt instead of just paying the interest. The faster you can change that dynamic, the less you'll pay overall and the shorter your mortgage term will be.
Enough background, let's get to the point. All I had to do to save $44,000 and reduce my mortgage term by more than six years was to call my mortgage bank, Wells Fargo (NYSE: WFC), with my last mortgage statement and my checkbook in hand and ask them to change my monthly payments to biweekly payments.
Since the biggest part of our family income also comes in on a biweekly schedule (receiving a paycheck every two weeks) I picked the day after each paycheck arrives as the date on which Wells Fargo would take the payment from my checking account.
Furthermore, since the amount worked out to be $996.64 per payment (twice a month), I asked them to round it up to an even $1,000 every two weeks resulting in an additional principal payment of $7.12 every four weeks. Of course, there are 52 weeks in a year which are then split into 26 two-week increments. That means that I'm making the equivalent of 13 monthly mortgage payments every twelve months, but, twice a year, when three biweekly payments happen to fall within the same month, the entire third payment is applied to principal, and goes directly toward reducing the amount I owe on my mortgage.
Your mortgage company should be able to tell you while you're on the phone, how much such a switch would save you and how many months it'll shave off the term of your mortgage. I recommend running the numbers yourself ahead of time using the handy calculators at mortgagecalculator.com.
Pros of switching to bi-weekly mortgage payments from monthly payments
- You'll save tens of thousands of dollars over the life of your mortgage*
- You'll reduce the term of your mortgage by years*
- You'll build equity faster
- Twice a year, there will be three payments in a single month instead of two (totalling 150% of your normal monthly payment)
Consider your personal situation carefully and make sure you'll be able to cover the 26 biweekly payments before switching over. Falling behind on mortgage payments and racking up late fees or insufficient funds fees from your back or bill-payer service defeats the goal of saving money and can have other negative repercussions like hurting your credit score.
In my case, by tying each payment to specific expected income instead of reserving cash for a single monthly payment, it actually makes day to day budget planning easier, and I don't feel the pain when those extra payments come due.
* The amount you save and the reduction in your mortgage term will vary depending upon how much is left on your current mortgage, your interest rate. The figures given are from my own example and will vary substantially case by case.
