Should You Pay Off Your Mortgage Early?
Patrick Chism7-minute read
February 23, 2023
Paying off your mortgage early can help save thousands of dollars in interest. But before you start throwing a lot of money in that direction, you’ll need to consider a few factors to determine whether it’s a smart option.
In this article, we’ll share some of the pros and cons of paying off your mortgage early – and give you a few tips you can use to reduce the interest you’ll pay on your loan.
Overview: Paying Off Your Mortgage Early
Every time you make a mortgage payment, it’s split between your principal and your interest. Most of your payment goes toward interest during the first few years of your loan. You owe less in interest as you pay down your principal, which is the amount of money you originally borrowed. At the end of your loan, a much larger percentage of your payment goes toward principal.
You can apply extra payments directly to the principal balance of your mortgage. Making additional principal payments reduces the amount of money you’ll pay interest on – before it can accrue. This can knock years off your mortgage term and save you thousands of dollars.
Let’s say you borrow $150,000 to buy a home at 4% interest with a 30-year term. By the time you pay off your loan, you’ll have paid a whopping $107,804.26 in interest. This is in addition to the $150,000 you initially borrowed.
Now, let’s say that you pay an extra $100 every month toward a loan with the exact same term, principal and interest rate. At the end of the term, you’ll have paid $82,598.49 total in interest. That’s $25,205.77 less than you would have paid if you didn’t make any extra payments. You’ll also pay your loan off 74 months earlier than you would if you only paid your premium each month.
Paying down your mortgage early reduces the amount that you’ll pay over time, but finance experts don’t agree that you should always focus on paying your loan off as soon as possible. Some believe that the average American should concentrate on investing rather than paying off their mortgage early, putting that extra money into a retirement account or an investment fund. Others believe that it’s better to use the money that would have gone to extra payments to pay down other sources of debt.
The decision to pay off your mortgage early is a personal one that depends heavily upon your individual circumstances.
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Paying Off Your Mortgage Early: Is It Worth It?
If you find yourself with a little extra cash at the end of the month, should you put it toward your mortgage loan or refinance to a shorter term? There’s no simple “yes” or “no” answer. There are both risks and benefits to paying off your loan early or switching loan terms, and the right decision will be different for everyone. In this section, we’ll look at a few instances in which it makes sense to pay off your mortgage early – and when it doesn’t.
When Paying Off Your Mortgage Early Works
You might assume that you need to shell out hundreds of extra dollars each month to pay off your mortgage early. The truth is, even a very small monthly or one annual payment can make a major difference over the course of your loan.
Contributing just $50 extra a month can help you pay off your mortgage years ahead of schedule. You don’t need to find a way to earn an extra $10,000 a year to pay off your mortgage.
If you’re looking for a tool that can help you estimate what paying off your mortgage early would cost you, play around with our Rocket Mortgage® mortgage amortization calculator. It’ll help you see for yourself how a small amount of money can impact your loan. Your result might surprise you. Most people can manage to save at least a few thousand dollars in interest with a small monthly extra payment. This is especially true if you start paying more on your loan in the early years of your mortgage.
The best candidates for early mortgage payoffs are those who already have enough money to cover an emergency. You’ll want at least 3 – 6 months’ worth of household expenses in liquid cash before you focus on paying off your mortgage. This is because it’s much more difficult to take money out of your home than it is to withdraw money from a savings account.
When Making Minimum Monthly Payments Works
It may not be a good idea to focus on paying off your mortgage early if you have other debt to worry about. Credit card debt, student loan debt and other types of loans often have higher interest rates than most mortgages. This means that they accrue interest faster.
You’ll save more money by paying these debts down than you would if you put all your money toward your mortgage. It’s best to sit down with your financial paperwork and compare interest rates of your other debts to your mortgage interest rate. If your other debts have a higher interest rate, you should pay them down first.
You also may want to avoid paying your loan off early if it carries a prepayment penalty. This is a fee your lender charges if you pay off your mortgage prematurely. Prepayment penalties are usually equal to a certain percentage you would have paid in interest.
This means that if you pay off your principal very early, you might end up paying the interest you would have paid anyway. Prepayment penalties usually expire a few years into the loan.
Consult your mortgage lender and ask about any prepayment penalties on your loan before you make a large extra payment. Prepayment penalties are also noted in your mortgage contract.
When Balancing Early Mortgage Repayment And Other Financial Responsibilities Works
You should have a robust household emergency fund before you think about paying extra cash toward your mortgage. An unexpected auto bill, medical expense or other cost can upset your budget if you don’t have any liquid cash.
While it’s possible to take cash out of your home equity with a refinance, this process takes time, which you may not have in an emergency. Make sure you have plenty of money set aside for emergencies before you put any extra toward your mortgage loan.
You may want to put off paying off your mortgage if you have another big expense coming up. Your priority should be putting money into your 401(k) or IRA. You might also want to consider diverting your extra money into a child’s college fund or into savings for an upcoming vacation or wedding.
There’s no point in paying off your mortgage if it means going back into debt in the future.
How To Pay Off Your Mortgage Early
Think that paying off your mortgage early is right for you? Use these tips to own your home sooner.
Switch To A Biweekly Payment Schedule
One easy way to pay off your mortgage sooner is to pay your loan on a biweekly basis instead of monthly. For example, if your monthly mortgage payment is $1,000, you’d pay $500 every 2 weeks instead of $1,000 at the end of the month.
Because there are 52 weeks in a year, following this schedule allows you to make 13 payments on your loan instead of the standard 12. This reduces your debt faster without making you feel strapped for cash.
Commit To Making One Extra Payment A Year
The average American gets about $2,833 in their tax refund, according to the IRS. For most people, this is more than enough money to cover an extra mortgage payment every year.
You can put your tax return to good use and make an extra mortgage payment. On a $150,000, 30-year loan with a 4% interest rate, a single extra payment every year will help you pay off your mortgage 4 years early.
Refinance To A Shorter Loan
Has your income increased? If so, you may want to consider refinancing to a shorter term. Refinancing your mortgage allows you to save money on interest without worrying about penalties or scheduling extra payments. It also allows you to fully own your home much faster.
Keep in mind that refinancing your mortgage to a shorter term will increase your monthly payments. Do the math and make sure you can cover the extra financial burden before you make that move.
Consolidate debt with a cash-out refinance.
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Early Mortgage Repayment FAQs
Can I specify that I want my extra payment to go toward the principal balance?
Yes! Make sure you tell your lender that you want your payment to go toward your principal if you do make advance payments on your mortgage. Some mortgage lenders apply any extra payment you make toward your next monthly minimum. This won’t help you reduce the amount of interest you owe.
What if I make two extra mortgage payments a year?
If making an additional payment on top of what you’d already be paying extra through a biweekly schedule or committing to one annual extra payment is a feasible financial option for you, doing so can be a great way to gain full ownership of your home even faster.
However, you should only consider this option if it won’t put your ability to pay for your other financial responsibilities at risk.
Is paying off my mortgage early with lump-sum payments a good idea?
The decision to reduce the amount you owe on your mortgage using a large lump-sum payment is called a mortgage recast. While your loan term technically remains the same when you do this, and while you won’t necessarily finish paying off your mortgage any earlier, your monthly payments will go down and the overall financial burden of the loan will be diminished.
The Bottom Line
Paying off your mortgage early can save you a lot of money in the long run. Even a small extra monthly payment can allow you to own your home sooner. Make sure you have an emergency fund before you put your money toward your loan. Also, it’s good to save for retirement and pay down your other sources of debt before you add more to what you’re currently paying on your mortgage.
Making extra payments, refinancing or switching your repayment schedule are all strategies that you can use to pay off your mortgage early. As always, consulting with a financial planner is recommended before making any big decisions.
Curious about more mortgage basics and refinancing options? Check out the Rocket Mortgage Learning Center for more information and tips.
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