Prepaying Mortgage Monthly

niamh4626

Hi,

Someone once told me that if I prepay my mortgage by one month at a time I.E. pay double mortgage on this months due date for say Feb and March and in March continue paying as normal I will save significantly at the end of the mortgage term as less interest will have been be paid overall.....

Can anyone shed light as to whether this is true or not. ( I hope I've explained the above properly!)

Many thanks
Niamh

Mac0783

This is true unless you have a fixed mortgage. If you have a tracker or variable rate mortgage you can pay additional money whenever you want, anything from €1 up. We do it quite reguarley just lodge money as and when we have it.

have a look at this website it will show how much money you will save in interest and the amount of time you can reduce the mortgage by doing this..

http://www.drcalculator.com/mortgage/ie/

niamh4626

Hi Mac,

Thanks for the info. I just used that calculator and it seems if I did prepay my mortgage by a month, I'd finish my mortgage repayments nearly 3 years earlier than expected.... Thats super duper!! Amazing!

dotsman

niamh4626 wrote: »

Hi Mac,

Thanks for the info. I just used that calculator and it seems if I did prepay my mortgage by a month, I'd finish my mortgage repayments nearly 3 years earlier than expected.... Thats super duper!! Amazing!

Not to rain on your parade, but are you sure? The maths behind that doesn't really add up (but would depend on outstanding capital, interest rates and remaining term).

Paying off a month now would certainly reduce the term by several months, but I would be very surprised if it knocked off years.

Mac0783

No it is true. you have to think of the amount of interest paid on a mortgage over the average 30 year term. In many instances you pay back double what you took out, so any extra payments into it would substantially reduce it.

Another way of looking at it, an extra €100 per month for a year is €1200 per year (for many thats the equivalant if not more of a months payment) 1200 * 10 = 12,000 (just picked ten years as an example) for just €100 thats a year off your mortgage, and that's not even taking in to account the savings on interest!

wench

niamh4626 wrote: »

Thanks for the info. I just used that calculator and it seems if I did prepay my mortgage by a month, I'd finish my mortgage repayments nearly 3 years earlier than expected.... Thats super duper!! Amazing!

It sounds like you put that in as an Annual prepayment, not a once off.

stimpson

Mac0783 wrote: »

This is true unless you have a fixed mortgage.

I have a fixed mortgage with KBC. I can pay off up to 10% of the outstanding principal. I can also withdraw this money at any time. I think of it as a DIRT free savings account paying my mortgage rates in interest.

hognef

niamh4626 wrote: »

Hi Mac,

Thanks for the info. I just used that calculator and it seems if I did prepay my mortgage by a month, I'd finish my mortgage repayments nearly 3 years earlier than expected.... Thats super duper!! Amazing!

Unfortunately, that can't be correct. Consider this: The sum total of interest and repayments over the course of the mortgage, is normally in the region of 1.5 to 2 times the original mortgage (depending on interest and term of course).

Assuming the extra month's payment is made at the very start (which is when the amount of interest is highest), that would reduce the length of the mortgage by 1.5 to 2 months. The effect of an extra payment will gradually reduce over the term of the mortgage -- an extra month's payment one month from the end, will only reduce the term by one month.

(The above is not based on exact calculations, but rough estimates)

dotsman

Mac0783 wrote: »

No it is true. you have to think of the amount of interest paid on a mortgage over the average 30 year term. In many instances you pay back double what you took out, so any extra payments into it would substantially reduce it.

Another way of looking at it, an extra €100 per month for a year is €1200 per year (for many thats the equivalant if not more of a months payment) 1200 * 10 = 12,000 (just picked ten years as an example) for just €100 thats a year off your mortgage, and that's not even taking in to account the savings on interest!

But Niamh is not talking about an extra €100 per month, but a single payment equivalent in value to a month's repayment:

niamh4626 wrote: »

I.E. pay double mortgage on this months due date for say Feb and March and in March continue paying as normal

The way to look at this is that if you pay an extra month today, you are reducing the outstanding capital by that amount, thus foregoing the need to pay any interest on it over the remaining term of the loan.

Assuming that interest rates were 5% and remain 5% over the life of the loan, then, depending on how long remains on the term, you would save the following:

5 years = 1.05^5 = 1.276 months
10 years = 1.05^10 = 1.629 months
30 years = 1.05^30 = 4.322 months

Obviously, the higher the interest rates, the more you save. But there is no way that a single extra monthly repayment will knock years off a loan term (unless you anticipate sky-high interest rates).

hognef

The way to look at this is that if you pay an extra month today, you are reducing the outstanding capital by that amount, thus foregoing the need to pay any interest on it over the remaining term of the loan.

Assuming that interest rates were 5% and remain 5% over the life of the loan, then, depending on how long remains on the term, you would save the following:

5 years = 1.05^5 = 1.276 months
10 years = 1.05^10 = 1.629 months
30 years = 1.05^30 = 4.322 months

Your thinking is correct, but the numbers are very wrong.

A 30 year (normal repayment) mortgage at 5% interest costs a total of 1.93 times the original value. An extra 1 euro repaid at the start of the term therefore equates to 1.93 euro that you won't need to pay over the term of the mortgage, just like repaying a €100,000 mortgage in its entirety immediately after drawdown equates to €193,000 that you won't need to pay over the 30 year term. In other words, a saving of 93% of the extra payment (assuming the extra repayment is made on day 0).

The potential saving will reduce over the term of the mortgage, until the last month, when there is no saving to be had.

Your numbers suggest a saving of 4.3 times the amount of the extra repayment. This is clearly impossible when the total cost is only 1.93 times the initial amount.

You seem to assume that no payment of principal or interest ever takes place throughout the term of the mortgage, hence your numbers show how an investment will grow if left completely untouched. This works for a savings account, but is clearly not how any type of mortgage works.

[Edit: Changed my impression of how your numbers were derived]

Kenny Logins

niamh4626 wrote: »

Hi,

Someone once told me that if I prepay my mortgage by one month at a time I.E. pay double mortgage on this months due date for say Feb and March and in March continue paying as normal I will save significantly at the end of the mortgage term as less interest will have been be paid overall.....

Can anyone shed light as to whether this is true or not. ( I hope I've explained the above properly!)

Many thanks
Niamh

If you make 13 repayments every year, yes.

niamh4626

Ahh I see, I was thinking it was too good to be true knocking that much off the duration of the mortgage however, any savings are better in my pocket than in the banks IMO!!

Thanks for the info people, much appreciated!

dotsman

hognef wrote: »

Your thinking is correct, but the numbers are very wrong.

A 30 year (normal repayment) mortgage at 5% interest costs a total of 1.93 times the original value. An extra 1 euro repaid at the start of the term therefore equates to 1.93 euro that you won't need to pay over the term of the mortgage, just like repaying a €100,000 mortgage in its entirety immediately after drawdown equates to €193,000 that you won't need to pay over the 30 year term. In other words, a saving of 93% of the extra payment (assuming the extra repayment is made on day 0).

The potential saving will reduce over the term of the mortgage, until the last month, when there is no saving to be had.

Your numbers suggest a saving of 4.3 times the amount of the extra repayment. This is clearly impossible when the total cost is only 1.93 times the initial amount.

You seem to assume that no payment of principal or interest ever takes place throughout the term of the mortgage, hence your numbers show how an investment will grow if left completely untouched. This works for a savings account, but is clearly not how any type of mortgage works.

[Edit: Changed my impression of how your numbers were derived]

I don't think you are understanding just what happens when an extra payment is made to reduce the term. My maths above do assume capital & interest repayments (or else term doesn't matter - the final bullet is the final bullet, regardless of when it is paid)

You are correct that a 5% 30 year loan costs 1.93 times the principle, but that has nothing to do with what we are talking about. That is talking about the entire capital, and is, as such, an average. With a loan the first €1 capital repaid is far cheaper than the final €1. If you make an extra payment on your loan, the capital you are paying back is coming off the end of the loan, and therefore the most expensive €1 of capital (ie if you paid back €1 today, it is the final €1 of capital you are paying back. If you didn't make the extra repayment, then that capital would sit there for the entire duration of the loan producing interest.)

The easiest way to prove this is with an example:

Let's say you have a mortgage of €200,000 at a constant rate of 5% and exactly 30 years left on the term:

c = ? (Monthly Repayment)
P = 200,000 (Principle)
r = 0.0041666667 (Monthly Interest Rate)
N = 360 (Term - in months)

c = (Pr(1+r)^N) / ((1+r)^N - 1)

c = ((200,000 * 0.0041666667) * (1 + 0.0041666667)^360) / ((1 + 0.0041666667)^360 - 1 )

c = (833.33334 * 4.467744) / 3.467744

c = 1,073.64

Your monthly repayment is €1,073.64. Now, if you were to make an extra repayment of €1,073.64 today, then what affect would this have on the remaining term?

c = 1,073.64 (Monthly Repayment)
P = 198926.36 (Remaining Principle)
r = 0.0041666667 (Monthly Interest Rate)
N = ? (Term - in months)

c = (Pr(1+r)^N) / ((1+r)^N - 1)

1,073.64 = ((198926.36 * 0.0041666667) * (1 + 0.0041666667)^N / ((1 + 0.0041666667)^N - 1 )

1,073.64 = (828.85984 * (1.0041666667)^N) / ((1.0041666667)^N - 1 )

1,073.64((1.0041666667)^N - 1 ) = (828.85984 * (1.0041666667)^N)

Substitute X for (1.0041666667)^N to make things a bit more readable...

1,073.64(X - 1 ) = (828.85984 * X)

1,073.64X - 1,073.64 = 828.85984X

244.78016X = 1073.64

X = 4.38614

Now that we have X isolated, solve for N...

X = (1.0041666667)^N = 4.38614

ln((1.0041666667)^N) = ln(4.38614)

Nln(1.0041666667) = ln(4.38614)

N = ln(4.38614) / ln(1.0041666667)

N = 1.47845 / 0.00415801

N = 355.5667

360 - 355.5667 = 4.43327

Term has been reduced by 4.43327 months

Caveat - lots of rounding in the calculations, so final answer may be off by a fraction of a percent.

hognef

An average... Yes, of course. How did I miss that? Nice to know we have a proper mathematician here.

Can't argue with those calculations, you are clearly right. Thank you.