Few feelings are as satisfying as finally owning your home outright. If you're starting to earn more money and wonder if you should pay off your mortgage early, here's how to determine what to do…
Make sure all loans are paid-off first
Your mortgage is probably costing you between 4.5 and 7 percent, while credit card interest is far higher, often pushing 30 percent. Use any excess cash to first pay down these balances every month so that the interest you pay here is zero. The same goes with all other personal debts. Ever since the Tax Reform Act of 1986, the interest on these loans is not tax deductible.
Next, make sure you have a cushion in savings to protect against unforeseen disasters. Earthquakes, floods, blizzards and hospitalizations all happen. Financial experts recommend keeping in readily accessible funds at least three months of cash to cover regular bills, then going for another three months in investments that you can liquidate quickly (e.g., certificates of deposit) if need be.
When you have no outstanding debts and a reserve in the bank, then it's time to pay off your mortgage early.
Pay down the principal
Due to financial reform, every time you get a credit card bill, you see a chart that estimates how long it would take to pay off the card remitting just the minimum balance and how long it would take if you paid just a little more. On a Visa with an interest rate of 17.9 percent and a balance of $3,440, paying just the minimum of $89, it would take 16 years to pay off the balance for a total cost of $7,768. By simply adding $35 dollars to the payment every month, for a monthly total of $124, that balance would be paid off in 3 years with a total cost of $4,471.
When it comes to a mortgage, by adding more to pay off the principal, more of your next payment goes to your principal. Ultimately the number of your payments will drop.
Think about it this way: If you don't have the stomach to invest in the roller coaster stock market, and want to leave your money in an FDIC-insured savings account, it will lose value. According to the U.S. Bureau of Labor Statistics, inflation for 2013 was 1.5 percent. Today, American Express is offering a high-yield savings account with an annual-percentage yield of .085 percent. In contrast, every time you make a payment toward the principal of your mortgage, you'll earn a return that is the interest rate of that mortgage.
By far, the easiest way to pay off your mortgage, is to simply round up. With a mortgage payment of $1,855.61 a month, round it up to $2,000. Admittedly, paying an extra $144.39 a month might mean going out to dinner less often, but the difference can dramatically shorten the duration of your mortgage. Let's say that you do round up to $2k a month, what would happen to your home loan? With $310,000 borrowed at 6 percent, simply rounding up from $1,855.61 to $2,000 would cut the length of your home loan by more than five years. (Your own results will vary depending on how much time your have left on your home loan and what your interest rate is.)
Plug the numbers into this mortgage calculator to see how a little bit extra can make a big difference. Call your lender to be sure anything extra is applied to your principal balance, not the next month's payment, and be certain that there is no pre-payment penalty. Then pay just a bit more and look forward to making your home fully yours years sooner.
Here are the best rates for mortgage refinance.