DID YOU KNOW…
Most mortgage lenders offer you the option of increasing your regular payment by a certain percentage each year. Many also allow for an automated lump sum payment in addition to your regular payment. One consideration for adjusting your payment up – even slightly each year – is that at the end of the term if interest rates have risen, you will reduce or even eliminate any kind of payment shock come renewal time. With the added bonus of the extra dollars having all gone straight to your mortgage balance in the meantime.
Over the past number of years banks have come up with a rather confusing set of payment frequency options that have left some mortgage clients a bit disappointed 5 years down the road.
Rather than the Amortization crushing ‘Accelerated bi-weekly’ plan which a quality Mortgage Broker will discuss with you, clients left to their own devices run the risk of opting for simply ‘bi-weekly’ payments. Here is the math;
Let’s use a $100,000 mortgage amount (to make working out your own numbers simpler) with a 25 year amortization, a 2.74% interest rate and a 5 year term.
Monthly Payments: $460.01
Ending Balance 60 months later: $85,043.18
Now let’s calculate bi-weekly payments and the balance remaining at the end of the 5 year term.
Bi-Weekly Payments: $212.18
Ending balance 60 months later: $85,043.60
The balance is 42 cents higher. This is because you did not effectively pay anything extra over the 60 months to the lender. The sum of the annual payments is identical. Now let’s insert the word ‘ACCELERATED’ (bi-weekly) into the equation.
Accelerated bi-weekly Payment: $230.00
Ending balance 60 months later: $82,563.13
Ah-ha, now you have a $2,480.47 lower balance, and you have paid $163.87 less interest over the 5 years. Excellent!
How did this happen? When one opts for ‘accelerated’ in the above scenario, the payment increases by $17.82 per payment, or $463.32 per year. For a total of $2,316.60 in additional funds going straight to the mortgage balance.
The big picture is improved as well, as you have effectively lowered your amortization from 25 years to 22 years and 5 months.
Shaving 2.5 years off a 25 year mortgage might not seem huge, but in 22.5 years it surely will make you happy. Imagine having $460.00 more per month (per $100,000 of mortgage balance) to play with for 2.5 years.
If you started with a $300,000 mortgage, then we are talking about $1380.02 per month X 30 which is a total of $41,400.60. All from one word ‘accelerated’.