There are many ways by which a borrower can prepay his mortgage. Some borrowers opt for biweekly mortgages where the mortgage payments are done every two weeks. Others include an additional principal amount with each mortgage payment while some others open a savings account to which they contribute the additional principal amount, which is then deposited at the end of the year.
There are advantages and disadvantages for each type of strategy, but the first thing every borrower should ensure is that there is no prepayment penalty for the mortgage. As explained in the article What is Mortgage Prepayment?, the return on a mortgage prepayment is the interest rate of the mortgage. When there is a prepayment penalty, the return is reduced by the penalty that the borrower has to pay.
Another consideration is that prepayment makes sense only when the lender deducts the extra principal payments from the total balance when they are made. Some lenders account the additional payments only at the end of the year, in which case making extra payments every month does not benefit the borrower. Be sure to ask about the accounting practices of the mortgage company before deciding on a mortgage prepayment strategy.
Mortgage Prepayment Through Biweekly Mortgage Payments
By paying half the monthly payment every 2 weeks, a borrower makes an extra monthly payment every year. Instead of 12 monthly payments, the borrower is paying twenty-six biweekly payments, which converts into 13 monthly payments. This means that a borrower who opt for a biweekly payment can reduce his term of the mortgage and the interest that he pays than a borrower who goes for monthly payments.
Most lenders charge a fee for converting a conventional loan with monthly payments to a biweekly mortgage. Instead of paying a fee, the same thing can be achieved by opting for a conventional loan with a shorter term or by making additional principal payments every month. By taking a loan with shorter term, the borrower even gets to enjoy a lower interest rate.
Prepay Mortgage by Making Extra Principal Payments Every Month
A borrower can contribute an additional principal amount with the mortgage payments every month. It takes discipline on the part of the borrower, but even an extra $100 every month will reduce the term of the loan by several months and will save thousands of dollars in interest.
Starting a Savings Account for Extra Mortgage Payments
Some borrowers opt to start a savings account and contribute whatever they can save every month to the savings account. At the end of the year the total amount in the savings account plus the interest earned is deposited as additional principal. This also has the advantage that it will act as an emergency fund for the borrower through out the year. The borrower can also contribute extra income like bonuses to this account.
Read the article Do You Need Help to Repay Your Mortgage Early? to get more information about biweekly payments and other payment options.
The strategy that a borrower should adopt depend primarily on how disciplined he is about his finances. If the borrower lacks the discipline to follow strategy number two and three, he may be better off by choosing biweekly mortgage payments in which the extra principal payments are mandatory and not a choice.
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