If you’re thinking about buying a home, you might cringe at the thought of spending the next 30 years paying off a mortgage loan. This is a major commitment, but given the price of homes, there aren’t many other options. Some people pay cash for their homes and live mortgage-free. This isn’t reality for the majority of buyers, and if you’re looking to make a purchase, obtaining a home loan is your best bet.
However, there’s no rule that says you have to pay off your mortgage over 30 years. This is a common term, and it’ll certainly keep your home loan payment affordable. But if you want to get rid of your home loan sooner, here are four effective ways to pay off your mortgage early.
1. Bi-Weekly Mortgage Payment
Most people only worry about their mortgage payment once a month. However, choosing a bi-weekly mortgage payment schedule can significantly reduce how long it takes to pay off this debt. The concept is relatively simple. Instead of giving your mortgage company one payment each month, you pay half of your mortgage payment every two weeks. This strategy works because at the end of the year, you make the equivalent of 13 home loan payments – one extra payment each year. Understandably, this doesn’t sound like a major deal. Yet, this strategy can save thousands of dollars in interest. And in the end, you’re able to pay off your mortgage in about 23 years, or seven years early.
A bi-weekly mortgage schedule takes discipline. For this approach to work, you have to stick with the payment schedule. Talk with your lender beforehand to see if their payment system accepts half payments. Banks vary, and if you elect a bi-weekly schedule, you cannot revert to once-a-month payments at will. The lender will require a payment every two weeks, and missing a bi-weekly payment can result in late fees.
2. Higher Monthly Payments
Unfortunately, some banks will not process partial payments, in which a bi-weekly schedule isn’t an option. No worries. You can achieve the same result with higher monthly payments.
Divide your mortgage payment by 12 months. Whatever figure you receive, increase your mortgage payment by this amount. Let’s say your mortgage payment is $1,400 a month (1400 divided by 12 months = 116). Add $116 to each future mortgage payment and you’ll make the equivalent of one extra home loan payment each year. Like a bi-weekly schedule, you’ll save money on interest and pay off the mortgage in roughly 23 years.
Always specify how you want the bank to apply the extra money. If you don’t specify, the bank may automatically apply this money to the interest due, and not your principal. Online payment systems typically have an option for making an extra principal payment. If you’re mailing a check to your mortgage company, write two different checks. The first check should include the full amount of your mortgage payment, whereas the second check includes any extra amount. In the memo section of your second check, write “principal only.”
3. Choose a 15-Year Mortgage Term
Even if your mortgage lender doesn’t ask whether you want a 15-year mortgage term, this is always an option. Don’t quickly accept a longer home loan term. A 3o-year term will lower your mortgage payment, but with a longer term, it also takes longer to build equity.
Crunch the numbers to see if you can afford a 15-year home loan. Several mortgage loan calculators can estimate the difference between a 15-year and a 3o-year mortgage, and you can ask your lender to calculate your mortgage payment based on a shorter term.
Do not assume that a 15-year mortgage will double your home loan payment. These mortgage terms typically have lower interest rates than 30-year mortgages. And since the payment is higher on a 15-year mortgage, you will pay less interest over the life of the loan. Purchase a $200,000 house with 5% down and a 4% interest rate, and you will pay approximately $1,364 a month over 30 years. Reduce the mortgage term to 15 years and the mortgage jumps to $1,862 – a difference of only $500 a month.
4. Make Good Use of Extra Money
Do you get a nice tax refund each year – perhaps $2,500 or $3,000? Did you get a raise at work? You can probably think of a million uses for the extra money you receive throughout the year. But before you plan a trip, go shopping or waste the cash in other places, think of smart uses for the money.
For example, take money from a tax refund and make one or two extra home loan payments each year. This can shave years off your home loan term. And if you recently received a promotion or salary increase, fight the urge to move up in life. Rather than take on new debt, use this money to pay off the things you already own (such as your home) and increase your personal savings.