Dominate Your 30 Year Mortgage in 25 Years

Paweł Kata

This advice is sooooo old that it probably grew a beard already! Dave Bach wrote and teached it light years ago! Isn’t there any fresh way to take and effectively pay a mortgage?

Steve

If you itemize your deductions, your mortgage may be a low cost loan that you should think about before paying off. It’s also an inflation hedge to have a low cost long-term loan.

F

Guess what the “additional $117,000 tip” is. Could it just maybe have something to do with credit rating?

Michael

Couldn’t you just set up autopay from your savings bank to send payments twice/month? why do you need to go through the mortgage company?

Alex

I know there are various arguments one could make here, but I wouldn’t advise this… the extra money ought to go into an investment account for the following reasons:

-extra cash flow in a good investment can is more liquid than home equity.
-home equity hasn’t got a rate of return per se
-tax benefits of deductible interest for the reduction of tax liability are undermined by accelerated payment.

JT

@Michael, yes, call your bank and run your what ifs by them (or sometimes they have an amortization schedule online that you can play with…)

Or if you if you are really committed to paying down the loan, get a 15 or 20 year mortgage instead – the rates are better than a 30 year and you’re paying over a shorter time.

I kind of agree with Pawel, this advice has been done to death before and this post really doesn’t share much new information. Plus actually recommending the banks fee program to pay down your mortgage is foolish advice and contrary to every other personal finance expert out there.

Darwin's Finance

I think the mortgage pre-payment story is a good one for people who lack the discipline to faciliate themselves and want to be free of future obligations early and try to time it with say, a kid starting college or retirement or whatever.

From a pure economic perspective, it isn’t necessarily the best move. I’m in a 4.625% 30 yr conventional. Early on, due to mortgage interest deduction, let’s call it 4.2% since there’s already a standard deduction I shouldn’t double count.

Now, while Ramit rightly points out that there are some serious interest payment savings to be had, keep in mind that this is over 30 years! The thing that often gets missed in these articles is the Present Value of Money. Two notions: 1) the $117K saved over 30 years is nowhere near that amount in present value, so the $117K sounds much more spectacular than it really is 2) while I’d be paying down my mortgage early at an effective 4.X rate, I could likely be earning more elsewhere. Plus, if I move or refinance (doubtful at this rate, but you never know), now I’m starting the amortization game all over again.

I know people say the 8%/yr market gains are a thing of the past, but now that we’ve lopped off a good bit of froth from the top, from here going out 30 years, it’s probably not a bad assumption. Long term historical trends usually tend to revert to the mean.

Additionally, perhaps these additional funds would be put to better use by paying off other debt, starting an emergency fund, or even buying a piece of rental real estate which would provide an additional source of non-market correlated passive income.

Most importantly, while some of these banks offer systems to do something you can do yourself with questionable value, I’d clearly stay clear of the various third-party software services that claim to do the same thing with some goofy software interface, but charge you $3000+ up front for the “system”. Imagine what $3000 could be worth in 30 years!

Kevin M

If BofA doesn’t apply the money until the end of the month anyway, why not keep it in a savings account and just pay it with your normal monthly mortgage payment? Just automate it to pay the amount due + $x in extra principal. I’ve been doing this for almost 4 years now and haven’t missed the extra money.

Matt Jabs

I am following a similar strategy, but am simply paying additional principle with each payment.

As soon as I pay off my high interest revolving debt, I will bump my principle payments up to double every month paying my mortgage off in half the time.

I simply love the concept & love implementing it!

Great post.

FrugaltoRich

I agree that generally it is wise to pay off your mortgage, however under current circumstances I tend to agree with Darwin’s Finance.

We currently have mortgage rates below 4.9% and have been using any extra cash to buy appreciating assets, such as the Vanguard S&P 500 Index Fund, hoping for a much better return over the long haul. Some of these fabulous stocks were beaten down 80%!

That’s a long term bet I am willing to take at those kind of discounts! If you believe that the free enterprise system will survive in the United States, you might consider buying assets rather than reducing debt, particularly when you can get money as cheap as it is right now!

To really build wealth–forget single family! Buy a multi-family property, such as a duplex, and live in half of it. Rent out half of the building and your tenants pay 50% of the mortgage!

Do that repeatedly and you WILL truly build wealth! Your tenants are paying off the mortgage and you eventually own the buildings free and clear and still take in rents! That’s when you say goodbye to your job!

There are fabulous deals to be had with all the real estate bargains and foreclosures out there now! Get going!

Benjamin Ficker

I am SOOOOOO tired of hearing how real estate is not a good investment. Yes if you bought at the peak of the market and are trying to sell now, it was a bad investment. But I would argue you were a speculator, not an investor. Smart real estate investing doesn’t rely on appreciation. That should be the icing on the cake. What other investment allows you to use other peoples money to purchase, write off (most of) the cost of leveraging that money, and then having someone else pay for that asset when you move and buy a new one? Seriously, buy a home that makes sense financially. In 5-7 years (or sooner) buy a new one and have the tenant pay off your mortgage from the first property. Keep doing this. That simple. Am I missing something? Is there some stock or index fund out there that allows me to buy $100k worth for only $10k, write off the cost to borrow, and then allow someone else to pay it off in the future?

Alex

… Ramit, were you being serious or sarcastic? If you were being sarcastic, I’d be interested in your serious rebuttal. I’ve been a long-time subscriber to your blog (feed) and greatly respect your body of work.

TMS

One thing to consider in the pay mortgage early vs. invest the difference debate is the monthly cash flow consideration.

If times get hard and money is short and you’ve paid your mortgage off, you need that much less coming in to keep up.

And all that extra money you used to pay off mortgage debt won’t be losing half it’s value in the stock market during those hard times.

Sometimes cash is king and having no mortgage payment frees up a lot of cash.

evie

In addition to the $71,000 you save, think about how much extra money you would make during those last five years if you continued to pay yourself the equivalent of your previous mortgage payments and invest it. (You would be used to making the payment, so you wouldn’t feel the loss.) How much extra would you have at the end of those five years at the stock market average?

Add this amount to the 71k you saved in interest…

F

Ramit,

Generally you offer good content. However, I think this post misses some substance. It has a very alluring slogan (”save $71,000!”) but does not bother to give insight in how such huge savings are possible. It sounds too good to be true, and in fact it is (you can make more money by investing in the market – echo Darwin’s Finance).

Or you can look at it this way: if we do not follow “your” tip and invest the extra ~$2k/year in the market, in 25 years we have ~$200k (assuming 10% yearly appreciation) – half of which is needed to cover mortgage payments in years 26 thru 30, and the other half is profit. So, while your tip may save $71,000, mine saves $171,000. Mind, I do not intend to criticize your tip, rather the superficiality of this blog post. Depth, please! As you usually do!

Nl

Assuming that most of your readers are like 20 and 30 somethings, what is the point of any of us paying a mtg off early? its not likely that the house we own now will be the house we own in 20 years. Sometimes I think you just fish for stuff to post without thinking of how relevant or useful it is for us. Dont get me wrong, I think your intentions are great but just a bit irrelevant sometimes.

Dan Parhar

I have so many issues with this post and the lack of long term thoughts. For instance, something as small as the fact that rent will continue to go for the next 50 years of my life, where as my mortgage will not is not being considered. And of course making extra payments will save me all sorts of interest. Thats like saything not making minimum payments on your credit card is a good idea….obvious.

I truly enjoy the site, and bought the book right away, i just feel since the book has come out, the content here has been lacking, which is actually very understandable.

CJ Bowker

I have to agree with Darwin’s Finance, LBG Financial and Lenny. I do commend you on letting people speak freely on here. I’m confused by your admission to Darwin that his way can be better. I guess I’m confused by the purpose of your blog? Is it to show people the most effective and efficient ways to save? or just maybe the easiest? I guess I think that if people can automate an extra payment to their mortgage they could just as easily automate an extra payment to a saving vehicle.

sy

Wouldn’t it be better to use the extra money to invest it and hopefully earn 8% over your thirty years?

Daily Links for Tuesday, June 9th, 2009

[...] Have a mortgage? Save $71,000 in interest payments « I Will Teach You To Be Rich [...]

Chris

If you do make additional payments that are not scheduled, just make sure your bank is actually applying them to the principal. While it is not common, some of the less reputable mortgage companies will actually hold additional funds to apply to next months payment, i.e. your loan never gets paid down but the mortgage company gets free use of your funds.

Gman

Alex,
You are the only one here that gets it. Keep your money out of your house. If you wouldn’t put a grand under your bed, don’t put 300K in your walls. Lost opportunity cost: everyone here learn about it. Take whatever you’re giving towards extra payments (giving money back to a bank to lend to some other schlepp and make more arbitrage money), invest it in a fixed or very conservative vehicle (there are lots to choose from and I’m NOT a VUL guy), and CONTROL YOUR MONEY. You don’t control your money giving it back to your bank, ever.
Year 22 of this plan comes up, you lose your job or become disabled but have one, maybe two years worth of savings (prudent, right?), you will lose everything- everything. You went through your savings, your LOC is tied up in equity in your house, and unless you’re 59.5 you’re robbing your retirement to avoid foreclosure. You’ll wish you had 22 years of $1800 a year of pre-paid equity dollars compounding at 6% (1%!!?? I’ll take it!) someplace where you have access to it.

Now you can’t refi, can’t apply for a heloc, can’t get a loan, ’cause you have no income and you’re money is trapped in the house. Bank forecloses on built up equity homes MUCH faster than no equity because the risk is much lower and it’s easier to sell.

Follow the money… Saving is NOT the same cash or cash flow. Cash is King, Cash flow a Queen, equity a joker. See you on the beach Alex ’nuff said.

Alex

Gman – spoken like a gentleman, heh.

Daniel

Ramit, I followed the link to your book excerpt and in there you give opposite advice – that money invested in an index fund will outperform mortgage prepayments every time. So which is it?

Jill

We bought our house in 2001 with a 30 year fixed mortgage at 7%. Refinanced in 2003 to a 15 year note at 4.875%, and between the interest rate decrease and buying a relatively inexpensive home to begin with, cutting 13 years off our mortgage ended up costing about an extra $100/month. So it was a small enough increase that we didn’t cut into investing or other saving to make the switch.

Back of the envelope numbers going from memory-
Original mortgage amount in 2001: $119,000
Refinance amount in May 2003: $117,000
Current mortgage balance: $79,000 or thereabouts

DJIA in mid-May 2003: call it $8600
DJIA on June 18, 2009: $8500

So short to middle term, paying down the mortgage came out significantly ahead of throwing more into the index fund. And although our state (Florida) is one of the big foreclosure places, my area didn’t overbuild/oversell like parts of the peninsula did so prices are still higher than when we bought. Similar homes today are listing and selling in the $210K-$240K range. (and it’s actually kind of hard to find that sized started home in our area, so prices are pretty stable right now) Since we haven’t gone the HELOC route (though we’re thinking of doing so later in the year to deal with some window/roof/flooring issues) if we had to sell, we could price under current market and still walk afay with six figures in our pockets.

Way it’s worked out for us, I’m glad we didn’t put the extra $100/month in the mutual fund instead.

camille

OK. I got excited ,so I called CitiMortgage. And I asked them if they apply the payments in their bimonthly plan or weekly plan immediately. No they don’t! They simply have you pay a 12th extra, but charge you a percentage for their service. That is a real scam. CitiBank does not accept partial payments. Anyone can duplicate the same results of the bimonthly payments by simply paying an extra 12th towards the principle. It’s easy to set up yourself online.

Financial Guru Review: Ramit Sethi

[...] and offers a rent vs buy calculator. If you do have a mortgage, Ramit offers optimization tips on decreasing the amount of interest you’d [...]

The Most Powerful Force In The Universe: Compound Interest

[...] be making what’s called  principal pre-payment. If you have a 30 year mortgage, you can save thousands by making extra payments. One of the best ways to keep yourself on the plan is automating your extra mortgage payment with [...]