Extra Mortgage Payments: Does It Make Sense for Me?
When you purchased your home, your lender went over your monthly payments and you’ve been diligently making those payments ever since. Paying more toward your mortgage payment may not be something you’ve considered, but it could be beneficial for your family.
Why should I pay extra toward principal?
- Save on interest: Your mortgage payment is split into two parts: principal and interest. Principal is the amount that you borrowed and have to pay back. The interest is what your lender charges you to borrow this money and is calculated based on the principal. With a fixed-rate mortgage, your monthly payment amount will remain the same for the life of the loan. When you begin repaying your loan, the bulk of your monthly payment will go toward your interest. By reducing your principal balance, you reduce the amount of interest that can be charged on it.
- Shorten the length of your loan: Most mortgages are for a 30-year term, which can feel like a really long time to carry debt. By making additional principal payments you effectively shorten the time you will be making payments.
How to pay down your mortgage
- Pay more toward your principal each month. Even if it is only a small amount of $25 or $50 a month, extra principal payments can save you money in interest over the life of the loan.
- Make an additional full principal-only payment each year. If you normally earn a bonus each year or receive a tax return, consider paying that toward your principal.
- At some point in your life you may receive a large lump sum of money. You can apply that amount to your principal to reduce interest and increase your equity quicker.
- Use a combination of the above methods to find the right balance for your family.
When it doesn’t make sense to prepay your mortgage
It can be really easy to get excited about the potential savings tied to prepaying your mortgage. However, that may not always be the best thing to do with your money.
- Pay down higher-interest debts first: Do you have outstanding credit card debt or car loans? Focus additional payments toward those debts because the savings will be greater than prepayment on your mortgage.
- Bulk up your emergency savings: An emergency savings fund covering 3-6 months of living expenses is recommended for all households. This fund helps prepare you for unexpected costs, from loss of income to medical expenses. Having a healthy emergency savings account can reduce the stress when unexpected situations arise and can help you stay in your home. If your savings account is a little thin, take those extra funds you would be putting toward you principal to bulk up your savings.
- Plan for retirement: If you have an employer-sponsored plan with a match, it may make sense to make sure you are contributing enough to receive that full match. The earlier you begin to invest in your retirement, the better.
Prepayment scenarios
Let’s take a look at some examples to see what prepayment can mean for your loan. Jane and Bill Smith purchased their dream home this year for $280,000 and have a fixed-rate mortgage at 3.8% over 30 years. Their regular monthly payment for principal and interest is $1,304. By the end of the 30-year loan term the Smiths will have paid $469,685.19 toward principal and interest. Now let’s take a look at what different prepayment options could mean for the Smiths.
Jane is considering paying an additional $25 or $75 toward the principal each month. Bill receives a $2,000 annual bonus that he would like to put toward the principal each year instead.
| Extra Payments | Interest Saved | Time Saved |
| $25 a month | $7,446.05 | 1 year |
| $75 a month | $20,620.92 | 2 years, 10 months |
| $2,000 a year | $41,602.82 | 2 years, 10 months |
| $75 a month and $2,000 a year | $54,268.71 | 7 years, 8 months |
Looking at the breakdown, it is easy to see that the more that they can put toward their principal, the quicker they’ll pay it off and will save more in interest. By combining Bill and Jane’s savings plan, they will be able to save the most in interest and time.
To see what extra payments could look like for your mortgage, check out this advanced mortgage calculator or other similar calculators online.