So you plan to sell your home in, say, 7 years. Does it make sense to throw extra money at it to pay-down the principal?
Let’s look at a scenario. You took out a 30-year mortgage, with a “good rate,” which should give you a manageable monthly payment. You begin a bi-weekly payment (should cost nothing), which will automatically reduce your 30-years to 23-years. You are not doing anything fundamental. It’s the same money you owe once per month.
Now add say $100 additionally to the principal each month, but your lender must, I repeat must, apply the extra funds to the principal in the month you paid it, unless you sent the money in the last 2 days which makes it impossible for the lender to receive it by the last day of the month.
What happens? On the first of each month the lender must recalculate the interest before they can take your next payment. Why? Because the amount you owe is now reduced by $100 and you no longer owe the amount shown on the statement. The interest is determined by the principal outstanding Remember, you only borrowed principal. So if you do this each month, the principal will be greatly reduced over time.
You owe every dime of the principal you borrowed, but not the interest shown on the Truth And Lending. By the time you sell your home in 7 years, you would have built a considerable equity buffer, and saved a lot on interest. At the sale, you are the last to get paid. The lender gets the remaining principal owed, etc. Now, would those earlier extra payments make you feel foolish making some real money on the sale?
This sounds too good to be true? Play around with a simple prepayment calculator online. Tools can be fun.
