Tips for paying off your loan more quicklyBy Rob Zuiker
Senior Mortgage Loan Originator
Two Roads Lending
As a mortgage loan originator, I am constantly asked if it "makes sense" to refinance right now. I am often asked "Do the lower rate and savings justify the closing costs?" Everyone seems to want to find a way to either lower their rate, or shorten the time span of their loan without it creating too much financial pain in their lives. Refinancing isn't always the answer. As a mortgage guy, I wish it were! Let's explore a few ways to pay your loan down more quickly without running to a mortgage broker and refinancing your current loan.
"I recently refinanced." - If you recently refinanced your loan, you were probably enticed by the idea of a lower interest rate and a lower loan payment. Typically, a refi will lower your payment by anywhere from $75 to $250/month. That's exciting stuff. I want an extra $250 a month. Do you? Of course you do. Many folks, however, overlook that in the process of refinancing your loan, you take the 27 or so years remaining on your loan and stretch it back out into a brand new 30 year loan. So while you're paying $200 less per month, you'll be paying on your new loan for an additional three years or more.
That leads me to Tip #1: When you refinance to a lower rate and a fresh 30 year schedule, keep on paying the previous, HIGHER loan payment. Come on, you can do it. You're used to it. To coin a phrase, "Just do it!" Not only will that keep you on your previous schedule of having less than 30 years left on your loan, but it will pay off your loan in often significantly less years than you had left on your prior loan. A perfect example is as follows: When you refinance from a payment of $1,200/month with 27 years left, to $1,000 a month with a new 30 years remaining, keep on paying $1,200 a month. Instead of having 27 years left on your loan, you'll be paid off in about 22 years. Shaving five years off of your loan will save you $60,000 in this example. That's real money!
Pay yourself first - Most people get a raise in February or March of every year. Some are thankful that the raise will help pay some bills and others think about how to allocate that newfound cash in a way that will be advantageous in the long term. Buy a boat for dad? Save for little Spanky's college fund? Momma needs some new jewelry? What about allocating a chunk of that new money toward your mortgage payment?
That leads me to Tip #2: If a typical loan is $200,000, and if you cut $20/month out of your raise and begin allocating it to additional principal with your monthly payment for the remainder of your 30 year mortgage, you are essentially cutting a year off of your loan term. $40 is about two years. $60 is three. By now, you get the point. If your loan is $100,000, then use $10, $20 and $30 for the same result. You might be thinking this seems fairly rudimentary, i.e. "Pay more per month and be paid off earlier." Well, yes, that's exactly the idea! More specifically, however, is that you want to begin doing this when you can immediately afford it. If your take home pay rises by $100 a month, take some time to really consider if you can afford to direct $20 or $40 of that raise toward your monthly loan payment. And better yet, do this every year at pay raise time. Don't just do it once. Do it annually and religiously. Eventually, you'll be paying your loan off on a 15 or a 10 year amortization schedule and doing it comfortably. Build that new, higher payment into your online bill pay and treat that higher payment as a minimum payment. You'll thank me later.
"Should I take out a bi-weekly loan?" - If I had a nickel for every time I've been asked this question....I'd have a huge bunch of stupid nickels. It is, however, a very good question and warrants a reasoned response. Anyone reading this has probably seen this suggestion of a loan that bills you a half of a loan payment every two weeks, instead of a full loan payment every month, and that the result will be a 30 year loan that pays off in something more like 24 years. "How is that?", you may have wondered. You're not alone. Many have wondered the same thing.
Tip #3: For those that haven't considered the math, making a loan payment every two weeks equates to 13 loan payments in a calendar year. That extra month of payment each year has a dramatic effect on the rate at which the loan amortizes out to $0. Worth noting is that you don't need to refinance your loan to be able to do this. Refinancing takes time and there is a cost to do it. Converting your existing loan to a biweekly loan is available through some lenders, but they will charge you something like $250 for doing it. Since we're in a day and age where most folks use their online bill pay to pay their mortgage, this is a fairly simple endeavor. Go to your online bill pay, arrange for a 1/2 monthly mortgage payment to take place on the day you receive your next automatic paycheck deposit, and then set up for the same 1/2 payment to take place for the remainder of the year every two weeks on your payday. Assuming you're paid bi-weekly and not twice monthly, you will have paid 13 full loan payments over the course of a year. After that, rinse and repeat over and over again. This has the potential to cut 5-7 years off of your 30 year loan, or 2-3 years off of your 15 year loan.
By now you've probably noticed a common thread and are thinking "Um, Rob, every one of these tips equates to really just sending in more money. Do you have any tips that don't involve sending in more money?" Unfortunately, no. The key is not just to send in more money, but to do so in a way that involves the least amount of financial pain and/or adjustment. We all have those little ways of tricking ourselves into saving. I throw all of my loose change into a giant bucket and cash it in before a vacation every couple of years. Think of these ideas as akin to the change bucket idea. Find a way to allocate just a few extra bucks a day, or $30 extra a month toward your loan. After a while you won't even miss the extra money, and you'll be infinitely glad you took the plunge.