A mortgage is the only way most people can afford to become a homeowner. However, every mortgage holder would like to be rid of that mortgage as painlessly as possible. These ways to pay less for your mortgage tackle the interest on the mortgage, which is by far the largest part of your mortgage payments.
Shop around for a low rate
The mortgage rates between different lenders can vary by several percentage points, even when all else is the same. A single percentage point difference, or even 0.1 percent, can make a large difference to your payments and to the final total interest, especially if your principal is very high.
You will need a near-perfect credit rating and fairly high salary to qualify for most 5-year or longer promotional rates. Watch out for teaser rates, which reset after 6 months or a year. While these may look desirable, you won’t like it at all when the mortgage rate rises. Look at the effective rate through the life of your mortgage when considering which mortgage to get.
This is not to say that a teaser rate and later reset might not be right for you. Just make sure that you will be able to afford the payments through the whole expected life of your mortgage.
Before you switch or sign for the first time, make sure that that institution’s fees won’t wipe out the savings. If you are considering switching to take advantage of better rates, take a close look at exit fees first. In some cases, when rates have dropped, you may be able to negotiate with your bank for a better rate without closing your mortgage.
High down payment
The best way to pay as little as possible over the long run to borrow as little as possible. A high down payment reduces the amount you have to borrow, which reduces the amount of interest you will have to pay.
As an added benefit, you may not have to buy mortgage insurance if your down payment is a large enough percentage of the mortgage. This will depend on the term and loan to value ratio of your mortgage.
Bimonthly or weekly payments
By choosing bimonthly or weekly payments, you have a very good choice between paying less each month in total, or paying off the mortgage sooner by paying less in total interest. This is because mortgage interest is calculated each day.
If you pay once a month, the full interest continues to pile up every day of that month. If you pay once a week, the full interest only piles up during that week. Next week, the principal is a bit smaller, so slightly less interest piles up. Over time, this small difference can add up to a very large difference.
For example, with a mortgage of $100,000 at 4 percent, and amortized over 30 years, using a mortgage calculator your monthly payment would be $477.42, with $199.64 in interest accumulated each month (averaged over the life of the mortgage). The total amount of interest paid over the life of the mortgage is $71,869.51.
With biweekly payments, your payments would be $238.71 every 2 weeks. In this version, you are paying slightly more each month ($511.52, based on a 30-day month), but the average interest accumulated each month would be only $164.91. Thus, the total interest paid over the life of the mortgage is $60,180.16. Even though the mortgage is amortized over 30 years, it would be paid off in just 25 years.
However, if you still wanted to take 30 years to pay off your mortgage with biweekly payments, you could amortize it over 35 years. Your biweekly payment would be $221.39, or the equivalent of 474.41 each month. Your average interest each month would be $165.30, and the total amount of interest paid over the life of the mortgage would be $70,432.69.
Thus, any way you slice it, biweekly payments mean you pay less interest proportionately per payment and less interest overall than you would with monthly payments. You can choose between lower payments and faster payoff.
A different version of the same idea is the home equity line of credit (HELOC). This account can combine all your accounts into a single account. It immediately credits every deposit you make to your outstanding mortgage, which reduces the amount of total interest by those extra days.
If the extra amount that can be temporarily credited to your mortgage averages about $3,000 at an annual rate of at least 6 percent, you could potentially save $180 a year in interest. Over the typical 25 or 30 years of paying off a mortgage, that adds up.
However, any money you take out of that account to pay bills or for other purposes is added back to the mortgage principal. This means that managing a HELOC requires self-discipline without the framework of structured payments. You can save some money on it, but you can also get caught in a pattern of never ending mortgage debt. Most HELOCs also have a higher interest rate than a traditional mortgage.
If your mortgage plan allows it, pay your tax refund towards your mortgage as an extra lump sum payment. Even though the government is paying you your own money back, most people see the tax refund as a little extra bonus every year. Every time you pay that bonus towards your mortgage it goes straight to your principal.