3 ways to pay off your mortgage faster
Options for repaying your mortgage faster
- Make extra payments on the principal
- Refinance your mortgage
- Consider mortgage acceleration — with caution
Many homeowners sell their property before they pay off their mortgage, while others make it a priority to own their homes free and clear. More than a third of American homeowners are mortgage-free, according to the Urban Institute. If you are in a position to contribute more money toward your mortgage, understand which payment strategies will help you pay off your home loan faster and save you money in the process.
1. Make extra payments on the principal
The simplest way to pay off your mortgage faster is by making additional payments. You can do so by making ad-hoc contributions, adding a consistent extra amount each month, making an extra payment per year, or making biweekly payments that effectively translate into an extra payment per year. Note that not all lenders will allow for a biweekly payment arrangement or may even charge a fee to implement it.
Extra payments affect your home loan differently depending on whether you have a fixed or adjustable-rate mortgage. In both cases, ensure that the additional payments are being applied to your loan principal first.
The way fixed-rate mortgages are amortized, the majority of your monthly payment is initially applied to interest rather than the principal. By requesting that your lender apply your monthly payment to the loan principal, you can reduce your overall balance — saving time and money. The power of paying down the principal lies in doing so early. You can contribute to the principal at any time, but know that the more standard payments you make, the more interest you have paid. This results in diminishing returns from future contributions to the principal. Get started as soon as you can — less than $100 extra applied to your principal per month can make a big difference over the life of your loan.
Paying off an adjustable-rate mortgage faster is more complicated, as the loan is recalculated to reflect the original term at each rate adjustment date. Making extra payments and reducing the balance will certainly save you interest but will only shorten the term slightly —by a matter of months, not years. If you want to significantly reduce your loan term, you will need to increase the amount of extra funds you are putting toward the loan after each rate adjustment.
2. Refinance your mortgage
You can pay off your mortgage faster by refinancing your home loan for a shorter term — for example from a 30-year to a 15-year mortgage. Refinancing entails paying off your existing loan with an entirely new loan, and comes with all the associated closing costs of a new mortgage. This cost is often worth it, however, as a shorter-term loan typically carries a lower interest rate as well.
3. Consider mortgage acceleration — with caution
Many lenders offer a service called mortgage acceleration — sometimes known as a money merge account — that helps you pay off your mortgage faster through a forced extra savings mechanism. Typically, lenders establish a home equity line of credit (HELOC) against your home into which your entire monthly paycheck is deposited. You then draw from the HELOC for your monthly expenses — including your standard mortgage payment — and any remaining money in the account at the end of the month is applied toward your mortgage as an extra payment.
The catch is that lenders charge a fee for this service, which borrowers could easily set up on their own with a separate bank account or through diligent budgeting. For some individuals, the “set it and forget it” convenience of mortgage acceleration could be worth the cost, but consider carefully whether you could arrange the same payment schedule for free through your own accounting.
Can — and should — you pay off your mortgage faster?
Not all mortgages are eligible for early repayment. Check your loan documents or contact your lender to identify if there are any prepayment penalties to paying off your mortgage before the agreed term.
Consider as well whether putting more toward your mortgage is the best use of your money. If you have any high-interest credit card debt or are yet to build a three-month emergency fund, pay into those accounts first. If you have a low interest rate on your mortgage, you might be able to generate better returns by continuing to make your standard payments and investing your surplus income.
Nevertheless, there are valuable benefits to paying down your mortgage early. Not only do you save in interest outlay, you reduce your debt-to-income ratio, which strengthens your borrower profile should you need another loan.