My Mortgage Blog

Paying off your mortgage faster has the excellent benefit of reducing the amount of interest that you pay on your mortgage. How? By using privileges provided by the lender

There are two types of mortgages; open and closed.

With OPEN mortgages there are no limits as to how fast you can pay down your mortgage; however you do pay a higher interest rate for this privilege. Typically, this type of mortgage is used by real estate investors who know they are only going to hold the property for a short time. As an investment property their interest expense is also tax deductible.

CLOSED mortgages are the preferred choice for owner occupied properties and also offer privileges for paying down the mortgage faster with the ultimate benefit of reducing the interest you pay over the life of your mortgage. These programs differ from lender to lender.

Payment privileges offer a few different options:

  • Annual or periodic lump sum payments: Payments of up to 25% of the original principal amount are allowed each year
  • Increase your payment: You may also increase your current payment by up to 25% each year
  • Double your payments: Some lenders also offer the option of doubling any and/or all payments

The above options are “non-cumulative”; lenders embrace a “use it or lose it” policy, meaning that if you do not use your 15% lump sum privilege in year one, you cannot make a 30% lump sum payment in year two.

  • Accelerated or rapid payments: With each payment (weekly, bi-weekly, or semi-monthly) you apply a small incremental amount of money directly to the principal. This privilege is designed so that every 12 months you make the equivalent of 13 payments

An example of how taking advantage of even one of these privileges can save you thousands is easily illustrated with the Accelerated Payment Privilege:  On a $280,000 mortgage that is amortized for 25 years at 3.5%, the regular bi-weekly payment would be $644.71. The accelerated bi-weekly payment would be $698.98. Paying $54 extra on each payment would allow you to pay your mortgage off in 22.1 years, saving you almost 3 years of mortgage payments, and, using a constant interest rate, over $18,000 in interest expense. 

Alternatively, if you were to make a lump sum payment of 2% each year ($5,600) on that same mortgage, and just make regular bi-weekly payments, you would pay off the mortgage in 19.4 years and save over $39,000 in interest expense. Add the two together and you would pay off your mortgage in 17.65 years and save over $48,000 in interest all for an investment of only $7,000 per year.

Remember that as interest rates rise, using your pre-payment privileges just gets more and more beneficial – at a 5.5% interest rate, the five year average for a five year fixed, the same mortgage sample above would save you over $91,000 in interest and over 8 years of mortgage payments.