Whether you’re a member of the financial independence retire early movement (FIRE) or simply want to pay off your mortgage sooner rather than later to free up money for other needs, know this: It is entirely possible to be mortgage-free well ahead of that traditional 30-year loan timeline.
How to accomplish that goal exactly? Setting aside the possibility of a lottery windfall, it takes focus, dedication, and some financially savvy moves to attack your mortgage principal more quickly. Here’s a closer look at how you can be mortgage-free on your own timeline.
Refinance your mortgage to obtain a lower interest rate
Refinancing your mortgage can be a smart money move, and one that allows you to pay off your mortgage more aggressively if you’re able to lower the interest rate on your loan as part of the process.
“This strategy involves refinancing your mortgage for a lower interest rate but continuing to pay the same amount as you did before [the refinance],” explains Johannes Larsson, CEO of Financer.com. “In doing so, a greater portion of your payments will go towards the principal portion of the loan, which will reduce the balance quicker, and help you save on interest as well.” This step also reduces the overall cost of interest over the life of the loan, in case that benefit wasn’t already obvious.
“Paired with making extra payments or even increased payments, the borrower will shorten the loan term and further save on that amortized interest,” adds Caroline Hardin, a North Carolina-based mortgage lender with American Mortgage Network. “It can help to think of interest as paying rent for your mortgage to live in the bank, and if you can ‘move it out’ earlier, you’ll pay less rent.”
Keep in mind however that refinancing involves paying closing costs. So be sure that you will indeed be getting a lower interest rate on that new mortgage, one that makes all of the closing expenses incurred worthwhile. Refinancing typically makes the most sense for those who are not planning to sell their home any time soon—meaning you intend to be in the home long enough to actually recoup that cash spent on closing via lower monthly mortgage payments in the years ahead.
Switch from a 30-year to a 20-year or even 15-year mortgage
People do what they’re forced to do. With this idea in mind, yet another approach to paying down a mortgage more quickly is to put your repayment timeline on the fast track by refinancing into a shorter amortization—moving away from the widely popular 30-year fixed mortgage and into an accelerated 20-year, 15-year, or 10-year mortgage, says Nicole Rueth, producing branch manager and senior vice president of The Rueth Team at Fairway Mortgage in Colorado.
“Most people end up paying the minimum required, as the distractions of daily life eat up their available funds,” explains Rueth. “If you know you’re someone who traditionally pays only the minimums, and you have a date in mind to have the mortgage paid off, put yourself on that [shorter] amortization.”
To be clear, by switching to a shorter mortgage, your monthly mortgage payments will increase, often quite significantly. So be sure your budget can actually accommodate this type of increase.
Making bi-weekly payments on your mortgage is another popular and often recommended approach for those who want to be debt-free more quickly. The basic concept is that you pay your mortgage every two weeks, on the same timeline as many people receive their paychecks.
“When you pay half of your monthly mortgage every two weeks, you end up with one extra mortgage payment each year,” says Jeff Zhou, personal finance expert and CEO of Fig Loans, a lender that offers socially responsible products to the underbanked. “This approach can eliminate a huge amount of interest on your mortgage and principal and allow you to pay it faster.”
To help with this effort, Zhou suggests creating a monthly or bi-weekly budget plan for your household expenses, which can help you identify unnecessary spending and ensure you have the money needed to make mortgage payments on this schedule all year long.
Make periodic principal or lump sum payments
Do you work in a job that provides bonuses? Or perhaps you receive substantial tax returns each year? These types of occasions provide an opportunity to make a lump sum payment on your mortgage principal to pay down the total balance more quickly.
“When you shave a huge amount off the principal, it will also reduce the total interest you have to pay on your mortgage,” says Zhou. “But you need to inform your mortgage provider that the lump-sum amount is for your principal so that they won’t consider it as an advanced payment for the regular monthly interest and principal.”
The advantage of paying more toward your principal over refinancing your mortgage is that it’s totally free (in other words, there are no closing costs like there would be when refinancing). What’s more, you’re not locked into a higher monthly mortgage payment amount, says Natalie Campisi, mortgage and housing analyst for Forbes Advisor.
“If one month you don’t want to pay the extra money, you don’t have to, and there’s no penalty,” says Campisi.
“A little bit can go a long way when it comes to paying off your mortgage early,” Campisi adds. “Whether you have a lump sum of money, or you simply want to throw a few extra dollars each month at your principal balance, you can shave years and possibly tens of thousands of dollars off the cost of your mortgage.”
Need more evidence of how effective this approach can be? Campisi offers this concrete example:
A homeowner who has a $400,000 30-year fixed mortgage with an interest rate of 4 percent would pay about $287,500 in interest by making minimum monthly payments. However, if that same homeowner were to put $200 more each month toward the principal, he or she would pay off the mortgage five years earlier and save about $53,700.
Create an early payoff budget
All the steps outlined above are important to be aware of and can be helpful on their own or used in conjunction with each other. But the first step is to establish your payoff timeline goals and then create a thoughtful monthly household budget that supports that plan.
“The most practical way to pay off a mortgage early is by creating a budget geared toward that purpose and sticking with it,” says David Frederick, director of client success and advice at First Bank. “A budget—especially as part of a financial plan from a professional financial advisor—can show exactly how much a homeowner can afford every month for home payments.”
Often, says Frederick, homeowners can afford to pay more on their monthly mortgage payments than the amortized payments on the loan require. If that’s the case in your situation, you may start by simply making extra principal payments each month on the mortgage that work for your budget.
In more advanced cases, adds Frederick, a review of the household budget may even indicate that the homeowner can make substantially larger payments than required. If this is the case, it may suggest that the homeowner should refinance the mortgage to a shorter term with higher monthly payment requirements, that allows for completing the mortgage obligation much quicker.
“Whatever the case, the first step to paying off a mortgage early is to set a budget, understand the limitations of the budget, and work within the boundaries of that budget,” says Frederick.
Be aware of the downsides
Yes, being mortgage-free is a wonderful goal. Especially if you’re nearing retirement and need to clear the decks of any significant debt. But it’s also important to understand the financial opportunities or wealth building measures you may be missing out on if you focus too much on eliminating your mortgage (particularly at a time when mortgage interest rates are at historic lows). This is a particularly important consideration for those who are mid-career and do not necessarily need to be mortgage-free so quickly.
“From one view, it is beneficial to get out of debt as soon as possible,” says Frederick. “From another view, homeowners who are paying down their mortgage with great speed and intensity may be missing out on other economic opportunities. That is, individuals who have extra money with which to pay down their mortgage either in a lump sum or by paying extra each month could instead be using their extra money to invest in the market.”
Scott Nelson, CEO of MoneyNerd Ltd, offers similar advice, noting that the S&P historical average annual return is around 10.5 percent, which is far higher than the interest rate many people currently have on their mortgages.
“Rather than using your additional income to pay off your mortgage monthly, invest it monthly and use the 10 or 15 year returns to pay off the remainder of your mortgage later,” says Nelson. “Or, if you’re smart, continue to invest it and don’t pay off your mortgage early. Mortgage interest rates are so low and you can find better returns investing in the S&P.”
How to determine the best money move for you? Here’s a good gauge: If your mortgage interest rate is lower than the total potential return in the market, then you might be better off simply servicing your mortgage with the minimum payments and putting your extra money in the market to grow, says Frederick.
“When one takes into account that the mortgage interest deduction on your income taxes essentially makes mortgage interest rates artificially low, most people would be better off investing the surplus funds rather than paying off a rather inexpensive loan with great speed,” says Frederick.
Mia Taylor, Real Simple