Additional Principal-Only Mortgage Payments: Should You Be Making Them?
Ashley Kilroy3-minute read
June 17, 2021
After purchasing a home, you must begin chipping away at your mortgage loan. Depending on the borrower, you may be looking at 30 years of fixed payments, made up of principal and interest. This may leave you wondering how you can pay it down faster. One option is to make additional principal payments. Tacking on these extra payments can sometimes help with interest and shorten the mortgage’s lifespan, but are they right for you? This article will tell you the essential information you need to know about additional principal payments.
What Is A Principal-Only Mortgage Payment?
A principal-only mortgage payment, also known as an additional principal payment, is a supplementary payment applied directly to your mortgage loan principal amount. It exceeds the scheduled monthly amount; thus, possibly saving you on interest and helping you to pay off your mortgage early.
You may have to notify your lender that you want to put the extra funds toward your principal and not the interest.
How Can Making Additional Principal Payments Help?
When you make your mortgage loan payments, your money is portioned to cover two costs: the principal amount and the interest. Once you begin making these payments, a process called amortization begins. You can review your mortgage amortization schedule to see how much of your own monthly payment goes toward the principal and interest.
Most of the money is dedicated to interest during the first few years. Since the interest is based on the principal amount, reducing the latter ahead of schedule on a fixed-rate loan affects your interest.
So, making additional principal payments reduces the amount of money you’ll pay interest on – before it can accrue.
Do Large Principal Payments Reduce Monthly Payments?
No matter how many principal-only payments you make against your loan, your monthly payment will remain the same unless you recast your mortgage. If you do nothing but make additional payments against the principal, you’ll automatically save more money in interest over the life of the loan and will make fewer monthly payments of the same amount.
That said, if you’re trying to trade your end-of-the-year bonus for lower monthly payments, you may want to consider recasting your mortgage. Typically, you’d need to pay a minimum lump sum of $5,000 (check the fine print of your loan terms) to qualify and pay a small servicing fee. The lender would reamortize your new principal amount over the remainder of your loan term, with the same interest rate, for a lower monthly payment.
How To Make A Principal-Only Mortgage Payment
Consider budgeting some extra money on a monthly basis to make an additional principal payment toward your principal balance. You have several ways you can go about this.
One is to make more frequent payments or wait to gather them into one large annual payment. Alternatively, you could pay a greater sum on each monthly installment which can help you avoid possible fees. Lastly, you can wait until you have an influx of money, such as after receiving a gift or an inheritance.
Make sure to double-check with your lender that the extra payments are credited directly toward your principal.
Pros And Cons Of Additional Principal-Only Payments
Now that you know the basics, consider the following benefits and drawbacks of making additional principal payments:
Save interest: Borrowers can save money on interest by paying more than they owe every month.
Shorten loan term: Paying down your balance can shorten your loan term and pay off your mortgage early.
Pay down debt: It gives you the opportunity to focus your attention on other debt and improve your financial standing.
Promising financial future: Paying off your mortgage earlier allows you to use that money elsewhere (after it’s completely paid off).
Potential fees: Some banks may charge you a fee (or fees) for making extra payments every month.
Prepayment penalties: Paying your loan off early could subject you to a prepayment penalty from your lender.
Less funds: Making extra payments means you can’t use that money for something else, like building up an emergency fund or investing.
Alternatives To Making Extra Principal Payments
There are some alternatives to making additional principal payments. Consider the following:
Bimonthly Mortgage Payments
Having a bimonthly payment plan can save you on interest by splitting your monthly payment into two half-payments, which reduces the principal balance as your lender receives it. This payment method may shorten your loan term but by no more than a month.
Biweekly Mortgage Payments.
Setting up biweekly mortgage payments can give a borrower an extra full monthly payment per year. This will cut down on accumulating interest and can shorten your loan term by years.
Refinance your longer-term mortgage, such as a 30-year fixed-rate loan, into a shorter term, such as a 15-year loan. It can also help you pay down your loan sooner. Your lender may lower your interest rate as a result, although more of your monthly installment will go to the principal portion.
The Bottom Line: Make Principal-Only Payments For Your Future Self
You won’t be able to feel the reward at the moment, but even a small additional principal-only payment can save you thousands of dollars in interest down the road. If you have an emergency fund saved, no high-interest debt, a strong investment portfolio, a steady income and the means to pay down your principal, go for it! There are plenty of options to explore if you want to pay off your loan ahead of schedule or lower your monthly payment. If you’re ready to take the next step for your own financial future, get started today with Rocket Mortgage®.
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