Ideally, you want your extra payments to go towards the principal amount. However, many lenders will apply the extra payments to any interest accrued since your last payment and then apply anything left over to the principal amount. Other times, lenders may apply extra funds to next month's payment.
By applying the overpayment to your principal, you can reduce the amount of interest calculated on each month's principal balance. The more quickly your principal balance is reduced, the faster your interest costs will fall. Over 20 to 30 years, you can save thousands of dollars in interest costs.
Faster Loan Payoff
By making 2 additional principal payments each year, you'll pay off your loan significantly faster: Without extra payments: 30 years. With 2 extra payments per year: About 24 years and 7 months.
Your Double-Up payment is applied directly against the principal balance of your mortgage, which cuts down the life of your mortgage and saves interest costs.
A good way to remember the documentation you'll need is to remember the 2-2-2 rule: 2 years of W-2s. 2 years of tax returns (federal and state) Your two most recent pay stubs.
This is because there are 12 months in a year—and 26 fortnights. This extra amount comes directly off your loan principal and reduces the amount on which future interest will be calculated.
With bimonthly payments, you'll pay half of your mortgage payment on two scheduled days each month — for example, the 1st and 15th — totaling 24 payments each year.
You decide to increase your monthly payment by $1,000. With that additional principal payment every month, you could pay off your home nearly 16 years faster and save almost $156,000 in interest.
Paying twice the prescribed amount on a 30-year mortgage will cut the term to just shy of 11 years (130 payments).
Keep in mind that this extra money is going strictly towards the principal portion, and not the interest. That means you'll be able to cut down on your principal portion without having even one single cent of it go towards interest. Shorten the time needed to end up mortgage-free.
Just remember to inform your lender that your extra payments should be applied to principal, not interest. Otherwise, your lender might apply the payments toward future scheduled monthly payments, which won't save you any money. Also, try to prepay in the beginning of the loan when interest is the highest.
It suggests that homeowners who can afford substantial extra payments can pay off a 30-year mortgage in 15 years by making a weekly extra payment, equal to 10% of their monthly mortgage payment, toward the principal.
Early Mortgage Payoff Examples
If you paid an extra $500 per month, you'd save around $153,000 over the full loan term and it would result in a full payoff after about 21 years and three months.
If you pay $200 extra a month towards principal, you can cut your loan term by more than 8 years and reduce the interest paid by more than $44,000. Another way to pay down your mortgage in less time is to make half-monthly payments every 2 weeks, instead of 1 full monthly payment.
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.
The 2% rule states that you should aim for a 2% lower interest rate in order to ensure that the savings generated by your new loan will offset the cost refinancing, provided you've lived in your home for two years and plan to stay for at least two more.
Making additional principal payments will shorten the length of your mortgage term and allow you to build equity faster. Because your balance is being paid down faster, you'll have fewer total payments to make, in-turn leading to more savings.
It depends on various factors, including the mortgage loan term. With a 30-year mortgage, biweekly payments will shave off around seven years from your repayment schedule. However, that's assuming you start making biweekly payments from the very beginning — the sooner you start, the more you'll save in the long run.
When you pay extra on a mortgage, you're paying above and beyond the regular monthly installment. The money you send is meant to apply directly to the loan principal, not the interest.
You can't prepay, renegotiate or refinance a closed mortgage before the end of the term without a prepayment charge. But, most closed mortgages have certain prepayment privileges, such as the right to prepay 10% to 20% of the original principal amount each year, without a prepayment charge.
Making your repayments more frequently, such as daily or weekly, won't make a significant difference to your home loan unless you increase the amount you pay, as in the fortnightly repayment example above.