Does Splitting Your Mortgage Payments Save Money?
Uncover how adjusting your mortgage payment schedule can significantly reduce total interest paid and shorten your loan's duration.
Making payments on a mortgage represents a significant financial commitment for many individuals and households. The structure of these payments often prompts questions about whether adjusting their frequency can lead to financial advantages. Understanding the mechanics of how mortgage payments are applied and how interest accumulates is important for evaluating strategies aimed at reducing the overall cost of borrowing.
How Mortgage Interest Accrues
Mortgage interest typically accrues daily on the outstanding principal balance of the loan. Each day, interest is added to the total amount owed, based on the current principal and the annual interest rate. This method means that the larger the principal balance, the more interest accumulates over a given period.
When a mortgage payment is made, it is first applied to cover accrued interest since the last payment. The remaining portion of the payment then directly reduces the principal balance. As the principal balance decreases with each payment, the amount of interest accruing daily on the reduced balance also lessens, setting the stage for future interest savings.
The Bi-Weekly Payment Method
The bi-weekly payment method involves dividing a standard monthly mortgage payment in half and then making this half-payment every two weeks. This contrasts with the traditional approach of making one full payment each month. Since there are 52 weeks in a year, this payment schedule results in 26 half-payments annually.
Effectively, these 26 half-payments equate to 13 full monthly mortgage payments over a 12-month period, rather than the standard 12. This extra contribution is strategically applied to the loan’s principal, accelerating the repayment process.
Interest Savings and Loan Term Reduction
The bi-weekly payment method generates significant interest savings and shortens the loan term. By making the equivalent of an extra full monthly payment each year, more capital is directed towards the principal balance sooner. This accelerated principal reduction means that the loan’s outstanding balance decreases at a faster rate than with traditional monthly payments.
As the principal balance reduces more quickly, less interest accrues over the loan’s lifetime because interest is calculated on a smaller base for a longer duration. Consequently, the loan reaches its zero balance point sooner, effectively shortening the overall repayment period by several years, often between two to four years for a standard 30-year mortgage.
Key Factors for Implementing Bi-Weekly Payments
Before adopting a bi-weekly payment strategy, borrowers should contact their mortgage lender. Some lenders offer formal bi-weekly payment programs, which automatically adjust the payment schedule and application. These programs might involve administrative fees, typically a small one-time setup fee or a minor per-payment charge.
If a lender does not offer a specific program, borrowers can still achieve similar results by manually making extra principal payments. Ensure that any additional funds sent to the lender are clearly designated to be applied directly to the principal balance. Without clear instructions, extra funds might inadvertently be held in escrow, applied to future standard payments, or not properly accelerate the loan’s payoff. Confirming the lender’s policy ensures the strategy effectively reduces the loan term and total interest paid.