Wednesday, October 7, 2009

15 Tips on paying off your mortgage faster

1)Firstly, have a decent deposit.
20% deposit minimum will save you having to pay lender’s mortgage insurance which is also known as LMI. LMI protects the bank, and not you, if you default on your loan

2)Get a loan with only the features you need at the lowest rate.
It MUST be flexible enough to allow you to make extra repayments, allow redraw and 100% offsets without penalising you

Getting the right loan with the appropriate features in the first place may save you from having to refinance and pay penalties later on. Some loan features to consider are: ability to redraw, make extra repayments, switch between fixed or variable rates, take repayment holidays, offset accounts, line of credit accounts and your loan portability are just a few features.

3)Be wary of “introductory rates”, “honeymoon rates” and “low start” rates.
They typically have lower interest rate for 6-12 months but may not allow additional repayments, thus costing you more in the end.

4)Make your first repayment on settlement date.
Don’t wait for the first payment at the end of the month and this will save you thousands of dollars

5)Pay your purchasing fees upfront and do not capitalize them into your loan.
Fees such as establishment fees, stamp duty fees, legal fees and Lenders Mortgage Insurance fees (LMI). This will save thousands of dollars.

6) Don’t pay your mortgage monthly, but pay it fortnightly.
This ensures you make one extra payment per year which cuts 7 to 8 years off a 30 year mortgage term.

7)Have your salary deposited directly into your mortgage offset account.
That way, the salary is reducing the interest payable from day one.

8)Make extra repayments(consistent or ad-hoc) as often as you can, or make payments that are bigger than the amount required.
EG: if your fortnightly repayment amount is $500, try and pay $600 per fortnight or more if you can afford it.

9)Make sure your extra repayments are deducted from the principle owing, and not recorded as a prepayment of interest.
Check your statements! Contact the bank if this isn’t happening.

10)Interest is calculated daily
So extra repayments made in the early days will reduce your loan principal immediately, reaping a far greater benefit on saving you interest than extra repayments made in the later years

11)Sign up for the professional package.
See your bank to see what they have available. Professional packages can be free or cost up to $400-500 in fees per annum but save you thousands of dollars of interest per annum. It may have features such as a discount on your loan rate, no annual fee credit card, no account or transaction management fees on your account(Eg: CBA Wealth Package)

12)Be careful with the loan amount that you fix the rate on and the fixed term period.
If you’ve fixed too much for too long, this restricts your ability to make extra repayments (usually limited at $10k pa). Or you can be penalized for breaking the loan if you wish to relocate to a new property (portability) and close the loan off. Penalty fees for breaking fixed loans are very exorbitant and can be up to even $40,000 to break.

13)If your bank reduced the loan interest rate, maintain your monthly repayment amount instead of reducing it.
This will ensure you pay off more loan principal because the ratio of interest to principal has changed due to the interest component decreasing. In Australia, banks ordinarily maintain your monthly payments when rates go down (which is a good thing for you!), unless you contact them to change the monthly repayment amounts.

14)Rent out your spare rooms.
Take on some renters and rent those spare rooms out. This could provide you with 300- 1000 per month (for each room) in extra income to pay off your mortgage faster. This can save you thousands, the earlier you do it, the better the results. The bonus is that you don’t even have to work hard for the income. Let your property pay for itself!

15)Check your mortgage contract for any early prepayment penalties and/or deferred establishment fees that may be applicable.
These could cost you up to $700 and more depending on the penalty stipulated on your loan contract. Deferred establishment fees are usually charged when you pay off your loan within 3 or 4 years of the loan start date. This differs between lenders and is usually stated on your loan contract.

Why would anyone pay their mortgage off early when they can invest that extra amount instead?

Roughly, each $1000 you owe on the mortgage, you will end up paying $2,500 to $3000 to the lender in return if you pay according to their required monthly payment amount and do not make any extra repayments.

The earlier you make those extra payments above the required mortgage amount the bank has stipulated for you, the quicker you will pay off your loan and end up saving yourself thousands of dollars, not to mention, you may also be among the rare few to pay off your mortgage loan in less than three years.

Paying off your mortgage quickly may not always be an ideal (or the best) financial goal, but for most people, it’s better to have this as a goal to aim towards than to have no goals at all. Without any financial goals, we trend towards excessive consumption(of crap) and buying too much useless consumer goods. If you can earn more from investing, then it’s always better to invest than to pay off your mortgage early. The challenging part is finding an investment that yields something worthy of your attention.

But I can earn more if I invested the extra amount saved instead of dumping it into my mortgage?
If your mortgage loan rate is 6% pa, each dollar that you pay off your loan principle is in essence, earning 6% pa tax free for you for the life of your mortgage loan, whether that be 1 year or 30 years. That’s equivalent to 6% after tax. If your tax rate was 40%, your investment returns will need to yield at least 10%pa to even justify you not paying off the mortgage with that extra dollar.

Many people are now fearful of the share market and investing in stocks, properties, mutual/managed funds, superannuation and retirement accounts. How could you not feel wary when the market has been as volatile as it has been in 2007, 2008 and 2009? Portfolios and asset values plunged by up to 60% and more. Property values careening below the value of the mortgage loan (particularly in the US) and retirement savings annihilated worldwide.

For these reasons, paying off your mortgage faster is a sure fire way to build equity in your property without as much volatility as investing…not to mention the huge peace of mind that you get, especially if you’re at the retirement(older) end of the spectrum.

I’ve read somewhere that in the US, mortgages are supposedly tax deductible. The problem with tax deductions is that people are so misguided with this feature that they do not try to pay off their mortgages early (so that they can maximize their tax deductions). Instead, the unwise ones will pay only the minimum mortgage amount required and with the funds left over…it’s spent on consumption, keeping up with the joneses and buying flashy cars.

If you can find investments that yield more than the interest charge you pay on your mortgage, go ahead and invest those extra funds. Although, just be sure to adjust the yield rate for taxes before you compare it to your mortgage interest rate.

On that note, I have to say, choose your path and walk your own road.

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