A mortgage easily ranks as one of the biggest investments the average Canadian would make in their lifetime. According to the Bank of Canada, over 71% of total Canadian household debt is owed on mortgages.
If you have gone past the rent vs. buy debate and made a decision to become a homeowner, one of your priorities may be to keep your monthly payments as low as possible.
At the same time, if you want to get the most out of your investment, it is a good idea to lower your amortization period and decrease the total interest you have to pay over the life of your mortgage.
As a fairly new homeowner myself, I have been interested in how to pay off our mortgage earlier than the 25-year amortization we currently have. After combing the internet and doing some readings, I was able to come up with these savvy ways to pay off a mortgage faster.
1. Accelerate Your Payments
One of the easiest ways to achieve “mortgage freedom” is to accelerate your payments. An example of this is increasing your payment frequency to “accelerated bi-weekly”. What this means is that instead of a regular monthly payment, you divide the monthly payment in half and pay the half-amount every 2 weeks.
With this strategy, you end up making 26 payments of a half-month mortgage per year, effectively resulting in an extra full monthly payment every year.
For example, say you have a $400,000 mortgage and a 5 year fixed rate of 2.64% with a 25 year amortization period. Regular monthly payments would be $1,820 while bi-weekly payments are $837. For both monthly and bi-weekly, your amortization remains 25 years and you only save about $300 or so in interest with the bi-weekly option.
However, if you accelerate your payments via an accelerated bi-weekly repayment schedule (i.e. paying $910 bi-weekly), you could end up saving over $17,000 in interest costs while also shaving off almost 3 years off your amortization.
2. Make Annual Lump-sum Payments
Most mortgage contracts allow you to make one lump-sum prepayment per year (including closed mortgages) without incurring prepayment penalties. Depending on your mortgage contract, the amount may be limited to 10%, 20%, or more of your mortgage loan.
Annual lump-sum payments can have a significant impact on lowering your interest payments and amortization period.
Using the same mortgage scenario above (i.e. $400,000, 2.64% rate, and 25-year amortization), if you make a lump-sum payment of $5,000 every year, it will save you over $39,000 in total interest payments and lower your amortization by about 6 years!
Additional payments do not have to be large sums. Even a few extra hundred bucks per year can make a difference. Some potential sources of funds for lump-sum payments include your tax refund, a bonus received at work, salary increase, inheritance, money gifts, etc.
Note: Be sure to check your mortgage contract and the prepayment privileges available in order to avoid having to pay prepayment charges.
Related: 10 Smart Ways to Use Your Tax Refund
3. Refinance Your Mortgage
Mortgage rates are currently at record lows. Depending on your current mortgage terms, it may make sense for you to refinance and take advantage of rates lower than what you have.
There are costs to breaking your mortgage before the term ends. However, the savings from a much lower mortgage rate may offset these costs easily.
To maximize the benefit from this strategy, continue paying the higher payments you had on your old rate. This effectively means you are making extra payments each time and your mortgage is paid off faster.
This strategy is also applicable if your fixed mortgage term ends and you are able to obtain a lower rate on renewal.
Related: Permanent Home vs. Starter Home
4. Round-Up Your Payments
Is it difficult for you to find that cash for lump-sum payments? One other strategy that can save you thousands in interest over time and lower your amortization is to round up your mortgage payments.
Using the same mortgage scenario (i.e. $400,000 mortgage, 2.64% rate, and 25-year amortization), let’s say you round up the regular monthly mortgage of $1,820 to $1,900.The additional $80 per month would probably not put you in financial distress; it could, however, save you over $9,000 in interest and shave 1 year off your amortization.
For a millennial like me with a young and growing family, extra cash to make lump-sum payments against my mortgage can be difficult to find. However, there are so many advantages to paying off my mortgage bills early, that I’m willing to put myself in a pinch every now and then to achieve the dream.