Mortgage rates dropped slightly in 2024, but the average 30-year mortgage rate is still about 6.95%. Some experts predict this rate to go as high as 7.5% later this year. Given this, consider doing what 40% of Americans have already done: paying off the mortgage early.
It is the ideal solution to reduce debt and save thousands of dollars in interest rates. It will tie up a substantial portion of your liquidity in the process. However, early mortgage repayment will let you tap into your home’s equity if you need money later.
Get Pre Approved for a Mortgage🏡
Select Your Loan Type
-
New Home Purchase
-
Mortgage Refinance
-
Cash-out Refinance
Is It a Good Idea to Pay Off Your Mortgage Early?
Yes, paying off the mortgage early is a wise financial move. It is especially beneficial if you have idle or extra cash. It will enable you to reduce your repayment period and save on overall costs. Here is why you should consider it.
- You will save a significant amount on interest over the life of the loan.
- Without a monthly mortgage payment, you’ll have more disposable income.
- Paying off your mortgage early increases your home equity.
How To Pay Off Your Mortgage Early?
When you pay off a mortgage early, the default option is to pay it with surplus cash. For this, you’ll need to tap into your life savings. And while this is a viable option, there are other ways to pay off the mortgage early:
- Extra Installment: Making extra installments reduces the principal amount, leading to significant decreases in overall costs and shortening the loan term significantly.
- Refinance: You can refinance your old loan with more favorable terms and conditions to repay the previous loan.
- Re-negotiate Loan Terms: Discuss current loan terms and conditions with your lender. This is especially beneficial when market trends are unfavorable for the lending industry.
- Bi-Weekly Payments: Bi-weekly payments will cut the repayment schedule in half, letting you pay the mortgage early in half the time.
When to Pay Off Your Mortgage Early?
It depends. This is entirely based on your financial situation and goals. However, there are some general rules to guide your decision:
- The first thing to consider while paying off a mortgage early is the availability of enough resources and a steady cash flow.
- Another thing to consider is the number of loans or lines of credit an individual has. If you have multiple loans, prioritize paying off high-interest debt, such as credit cards.
- Paying off a mortgage early can significantly reduce one’s savings and investments; having an emergency fund is crucial.
- Consider the tax implications of paying off a mortgage early. Claiming the installment amount in tax returns is part of tax planning. Individuals often lose more taxes than they save in early payments.
Find Homes for Sale Under Your Specific Budget
Mistakes to Avoid When Paying Off Your Mortgage Early
While paying off the mortgage early can be a great financial move, here are some common mistakes to avoid along the way:
- Not Putting Extra Payments Toward The Loan Principal:
Most lenders use the installment borrowers pay toward interest. This is because reducing the principal amount negatively impacts their profitability. To ensure your extra payments reduce the principal, communicate with your lender.
- Not Asking If There’s A Pre-payment Penalty:
Paying off a mortgage early reduces lenders’ profits, so they often impose pre-payment fees. While the pre-payment fee does not cover the total loss of interest, they are still significant in amount.
As the fee increases the total repayment amount, discussing this with your lender upfront is crucial. Once you are aware of the fees and other costs, consider whether paying off your mortgage loan early is even profitable.
- Leaving Yourself Cash-Poor:
While paying off the loan early can relieve your future financial burdens, it can negatively impact your liquidity in the short term. To avoid such situations, ensure that you have a stable source of income and sufficient savings.
- Extending Your Loan Term When Refinancing:
One major reason for refinancing is to take advantage of the shortened loan term. As the term of the loan reduces, so does the overall cost. Therefore, the new mortgage must have a shorter term than your current loan.
For example, if you have a 30-year home loan but want to repay it in 15 years, consider refinancing to a shorter-term loan. Shorter terms often come with lower interest rates, leading to savings on interest payments.
- Not Paying Off the Loan Early Enough:
The monthly mortgage installment is divided into two parts: principal and interest. While the overall amount of the installment usually remains the same, the ratio of principal to interest changes. This is because interest is calculated based on the principal amount.
As the principal amount reduces, so does the interest. Therefore, initially, the installment mostly consists of an interest amount, whereas later, you pay off the principal. So, if you pay the loan in the later years, you will hardly save on interest.
Bottom Line
When done correctly, paying off a mortgage early can be a smart financial decision. You can save on the interest portion, bringing down the overall cost of the loan significantly. However, a keen understanding of how to pay off a mortgage quickly is crucial.
While there are several ways of paying off a mortgage early, refinancing stands out. By refinancing, you can enjoy a lower rate and a shorter loan term. Explore lenders on Houzeo Pros to streamline your refinancing journey and achieve your goals.
Find Your New Home With Houzeo
With thousands of property listings, Houzeo.com is one of the biggest property listing sites in the US. Find condos, townhouses, co-ops, and other types of homes for sale on Houzeo.
» NEED MORE CLARITY? Read these exclusive Houzeo reviews and learn why the platform is the best in America’s competitive housing market.
Frequently Asked Questions
Q1. Is It Wise to Pay off My Mortgage With My 401(k)?
While it depends on the individual financial situation, paying off your mortgage with your 401(k) is generally not wise. This is because a 401(k) is a great investment that usually grows faster than inflation. Therefore, you lose more in your 401(k) investment than you have saved in early mortgage payments.
How Can I Know if I Will Incur a Prepayment Penalty?
The best way to learn about the prepayment penalty is to consult your current lender. Based on the outstanding loan amount and their internal policies, the lender will tell you the exact pre-payment penalty amount.
Is Refinancing My Current Loan a Good Idea?
Yes, you can refinance your current loan with a new one. However, make sure that your new loan has a shorter pre-payment schedule, as this will help you clear your debt obligations faster.
