With the average 30-year mortgage rate still holding near 7%, the 3-4% mortgage rates of the last few years look like they’ll be gone for the foreseeable future. Assuming you were lucky enough to lock in those rates, what other options are available to save money over the life of your mortgage?
One option is to make additional principal payments. Just making two extra mortgage payments a year can save you tens of thousands of dollars and cut years off your loan.
When we discuss making two extra mortgage payments a year, we don’t mean that you have to make extra payments exactly twice a year. You could make smaller payments on a monthly basis, you could pay an extra half of your normal mortgage payment quarterly, or you could make a lump sum payment once a year.
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You may be able to simply increase your normal monthly payment, or your lender or mortgage servicer may have an alternate process in place for additional principal payments, so it’s important to check with them to make sure that your additional payments are being applied to your loan principal and not just your next monthly mortgage payment.
By making two extra mortgage payments a year, you’re prepaying principal that would otherwise accrue interest over the life of the loan. Plus, those payments are accelerating repayment because they’re payments you would have made anyway.
2 Extra Mortgage Payments a Year: By the Numbers
You can find prepayment calculators on websites like Bankrate or MortgageCalculator.org (MortgageCalculator’s advanced calculator provides additional prepayment options) and see exactly how two extra mortgage payments a year will affect your specific loan. But if you have a relatively recent loan, you’re likely looking at tens of thousands of dollars in savings and cutting as much as eight years off the life of your loan.
For example, let’s consider a homeowner who took out a $400,000 mortgage five years ago at a 3.5% interest rate.
At that rate, monthly payments are about $1,800 (excluding taxes and insurance).
An extra two payments would be $3,600 over the course of the year, or $300 a month.
Making those extra payments would save that borrower $41,000 and shorten the life of the mortgage by five years.
Obviously, not everyone can afford to make two extra mortgage payments a year. You’re basically increasing your housing costs by 16%. That being said, if you can check off the following items, it might be a smart decision.
Make 2 Extra Mortgage Payments a Year if…
You’ll be in your current home for most or all of the life of the loan. The value of extra payments is realized through a reduction in the life of the loan and interest savings over 20+ years; you won’t realize nearly the same benefits if you’ll only be in the home 5-10 years.
You’re already maximizing other savings. If you don’t already have emergency savings, if you’re not taking advantage of your employer’s 401k matching, or if you’re not setting aside money to invest for the future, you shouldn’t prioritize two extra mortgage payments. Prioritize saving for emergencies and growing your net worth before you start allocating extra money towards your mortgage.
Your income is stable and predictable. If you have reliable income, it’s much easier to earmark a portion of it for two additional mortgage payments. That’s not necessarily the case if your income is highly variable. However, you can always tap into a large or unexpected bonus or sales commission to boost your savings. Just don’t tie up all your liquidity in an illiquid asset like a home.
The decision to make two extra mortgage payments a year will ultimately be highly individual. Some homeowners may need to prioritize setting aside money for other uses, like retirement, higher education, investing in rental properties, or emergency savings. But if you’re thinking about prepaying your mortgage, you should take a moment and explore the mortgage calculators above. It’s a good first step to see what effect those extra payments will have on your finances.
Alternatively, should rates begin ticking lower again, you may want to consider refinancing your mortgage, but those highly personal considerations definitely still apply.
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*This post is periodically updated to reflect market conditions.
