Sally Herigstad is a certified public accountant and the author of "Help! I Can't Pay My Bills: Surviving a Financial Crisis" (St. Martin's Press, 2006). She writes "To Her Credit," a weekly reader Q&A column about issues involving women, credit and debt, for CreditCards.com, and also writes regularly for MSN Money, Interest.com and Bankrate.com, and has guested on Martha Stewart Radio and other programs. See her website SallyHerigstad.com for more personal finance tips and free budgeting worksheets. Ask Sally a question, or read her previous answers in the To Her Credit archive
Dear To Her Credit,
How can I pay off my mortgage early? I have 12 years left on
my 30-year loan, and my current balance is $65,000. I would like to pay it off
in five years or less. Is that possible? -- Minnie
It's not only possible, but it's a very with-it thing to do.
Paying off one's mortgage is once again coming into vogue. For years, too many
people thought their homes were piggy banks they could raid every time the value
went up. Instead of paying off their mortgages, they refinanced them for
ever-larger amounts -- and we all know how that turned out!
Here's why I'm so sure you can do it.
Common sense would say that to pay off a $65,000 debt in five
years, you have to come up with $13,000 per year plus interest. That's true on
the face of it, but it's also true that you are making monthly payments anyway.
The more you pay down your balance, the smaller your monthly interest expense becomes
and the more your regular payment goes directly to principal. So there's a
little bit of magic when you pay extra on your mortgage, and the sooner you do
it, the better that magic works!
Assuming your mortgage rate is 6 percent, your payments are
probably about $634, not including taxes and insurance. To pay off your
mortgage in five years, you could:
Pay an additional $605 per month on your
mortgage. You might be able to come up with that $605 per month by some
combination of brown bagging your lunch ($200), canceling cable ($100), finding
a better deal on auto insurance ($30), eating out half as often ($200), and getting
rid of your car with payments and buying one you can afford with cash ($400).
Or you might choose instead to work extra hours or take on occasional evening
or weekend work.
Make a big payment now, and then continue making
your regular payments for five years. If you pay $32,000 next month and then
continue making payments as usual, you'll be done in five years. Possible
sources of the lump sum might be savings or the sale of an investment such as
another piece of real estate. (Don't touch your retirement accounts, especially
if you're not age 59-1/2 yet!)
Make an extra payment every year; for example,
when you get an annual bonus. An extra annual payment of $8,000 would eliminate
your mortgage by Christmas five years from now. (Let's hope your tax refund
isn't that big -- if it is, adjust your withholding and add the increase in
your monthly take-home pay to your mortgage payment.)
If each of these strategies sounds impossible, don't give
up! Use a mortgage
calculator to try different strategy combinations until you find one
you can manage.
For example, say you have $5,000 you can take from savings
without depleting your emergency fund. Plus, you get $1,000 back on your income
tax return every year. If you apply the $5,000 now and another $1,000 every
February to your principal balance, you'll only have to add $450 to your
payments every month to meet your five-year goal.
Another tactic to consider is refinancing at a lower
interest rate. If you expect to pay your loan off in five years, a five-year
ARM could be the way to go. Rates on ARMs are now under 4 percent. If your
current interest rate is 6 percent, for example, just refinancing could save
you $90 per month that you can use to reduce your principal balance.
Keep working the numbers until you find a way to reach your
goal. It will be worth it when you have the security and financial freedom that
comes with owning your home free and clear.
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