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Should you make extra payments on your mortgage?

If you’re a current homeowner and find yourself with a significant cash gift or some extra savings, you may be wondering whether you should make extra payments on your mortgage. Paying off your debt quicker, saving money on interest and building home equity might be enticing. But like most financial ponderings, it’s worth investigating why or how you might go about this.

Why people make extra mortgage payments

Before jumping into the tangible impacts of making extra mortgage payments, why do people decide to make them in the first place? It’s typically a combination of having financial flexibility together with the desire to save money on interest, pay off their mortgage faster and build home equity.

If you find yourself in a position to make extra payments without putting other finances in jeopardy (or potentially neglecting higher interest debts) then this may be something to consider. Even small, incremental additional payments can end up saving considerable dollars in interest over the long term.

How to make an extra mortgage payment

In general, there are a handful of different ways to make extra mortgage payments and pay off your loan faster:

  • Add extra dollars to each monthly payment
  • Make more frequent payments
  • Apply a one-time lump sum payment

Effects of making extra mortgage payments

The essential idea behind extra mortgage payments is to save on interest in two ways:

  • Because your interest is calculated based on your remaining principal, a smaller principal balance will reduce the amount of interest incurred.
  • The faster you pay off your mortgage principal, the less interest you owe. For example: if you have a 30-year mortgage but end up paying your mortgage off in 25 years, you’ll save years of interest payments.

Your amortization schedule, provided by your lender, shows the breakdown of your monthly payments and how they’re delegated to principal and interest over time. If you’re considering making extra mortgage payments, a mortgage extra payments calculator can help you assess the impact of making extra payments.

If you want to re-amortize your loan after making extra payments, you may be able to recast your mortgage with your lender. A recast is when your lender re-amortizes the reduced principal balance over the remaining term of the loan upon the borrower’s request, typically after the principal balance has been reduced over time or by a lump sum payment. Your lender may charge fees for a mortgage recast. Please be aware that a recast will add to the total amount of interest that you pay.

Extra mortgage payments vs. investing

A common debate for borrowers is whether they should be making extra mortgage payments or investing money if they’re experiencing financial flexibility.

The best practice here really depends on the person and if you’re in the early versus late stages of your mortgage. If you’re in the early stages of your mortgage, extra payments toward principal can compound into significant savings in interest. If you’re in the late stages of your mortgage, then the majority of your monthly payments are probably going toward principal anyway, which may make this a good time to invest.

If you have the ability to do both, some people consider splitting the money between investing and making extra mortgage payments so you can both save money and build up your assets.

You should consult your financial advisor to determine whether to use extra funds to reduce your principal balance or invest these amounts for retirement or other purposes.

In summary

If you can do so comfortably, making extra mortgage payments can result in significant savings, a shorter loan term and greater home equity, faster. There are various ways you can contribute extra money toward your principal, and it’s helpful to be intentional about where the payment is going. You can typically specify the payment online or by speaking with your lender. If you’re torn between paying extra payments or investing elsewhere, consider where you are in your loan term, or if you can potentially swing both.