Sunday, May 4, 2014

Extra Principal Payment - Mortgage Elimination and Lower Interest Expense Through Extra Payments

I've set the date for my first additional principal payment on my mortgage for April 15th. Since my first extra principal payment will be getting funded by my tax refund (which I have already received) I don't see a problem in sending the payment in on April 15th - I just want to make sure that my additional principal payment is sent and received prior to my next automatic mortgage payment.

Some of you may be asking yourselves, "Why would it matter when the additional payment is received, it gets applied either way, right?". It does get applied to my mortgage balance either way, however, the reason that I want to make sure that my additional principal payment is sent in and applied prior to my next automatic mortgage payment is because it will help to decrease the amount of interest that is paid on all of my subsequent mortgage payments. Why is this? Let's say for simplicitys sake that I have a $100K loan at 5% with a monthly payment amount of $536, and I'm going to send in an additional principal payment of $10K. If I don't send my additional principal payment, about $120 will go to principal, and $416 will go to interest. However if I pay my $10K additional principal payment (I realize this is a large extra payment, but it just helps to illustrate a point), then my next regular mortgage payment will have about $375 go to interest, and about $162 go to principal. It basically reduces the amount of interest that you pay in the long run. In this example, I save about $40 on interest in one month, over the course of the year, that will add up to be about $500 saved in interest. It adds up, and obviously, the quicker and more drastically that you can lower your principal balance, the less money you'll be spending on interest every month.

Will this work for everyone? Absolutely not. First, you'll need extra money every month in order to be able to make extra payments. Secondly, there are people of the school of thought that you're quite simply an idiot if you pay off your mortgage early because you'll be losing the tax benefit of being able to write off your interest paid. I think its absolutely retarded to be excited about writing off your interest expense, but that's an entirely different story.

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