Ways to Be Mortgage-Free Faster

Many homeowners look forward to the day when their mortgage is paid off, and the biggest debt of their lives is behind them. What they may not realize is that the day could come a lot sooner if they just pay a little extra each month.

In this article, we’ll show how making additional monthly payments can save you thousands of dollars in interest and payoff the loan sooner.

How an Amortization Schedule Works

To understand how mortgage loans work—and why even modest additional payments can go a long way—it's helpful to view a typical amortization schedule. Essentially, the schedule is a table listing each scheduled mortgage payment chronologically, beginning with the first payment and ending with the last one.

In an amortization schedule, every monthly payment is split into two parts: an interest payment and a principal payment. Early in the amortization schedule, a large percentage of the total payment goes toward interest, with a small percentage going toward principal. As you continue to make mortgage payments over the months and years to come, the amount allotted to interest gradually decreases, and the amount allotted to the principal increases.

Using a mortgage calculator is a good resource to understand these amounts.

How to Calculate Amortization

Here is an example of how an amortization schedule is calculated.

The Monthly Payment

The total monthly, or “periodic,” payment (shown in Column 5 of the table below) is determined using this formula:

$\begin{aligned} &\text{A} = \frac { \text{P}_i }{ 1 - ( 1 + i ) ^ {-n} } \\ &\textbf{where:} \\ &\text{A} = \text{periodic payment amount} \\ &\text{P} = \text{mortgage's remaining principal balance} \\ &i = \text{periodic interest rate} \\ &n = \text{number of remaining scheduled payments} \end{aligned}$​A=1−(1+i)−nPi​​where:A=periodic payment amountP=mortgage’s remaining principal balancei=periodic interest raten=number of remaining scheduled payments​

As you can see from the table, the monthly payment stays the same for the life of the loan. (For the sake of space, only the first five months and the last five months are shown.)

The Monthly Interest Payment

The monthly payment's interest portion (Column 6) declines over time as the principal is paid down. It is calculated by multiplying the interest rate (Column 3 ÷ 12) by the remaining principal balance (Column 4). Note that the interest rate shown in Column 3 is an annual interest rate, which must be divided by 12 (months) to arrive at the periodic interest rate. The total interest paid over the life of the loan is $656,620.99.

The Monthly Principal Payment

The principal portion of the monthly payment (Column 7) is the total monthly payment minus that month’s interest payment. The total amount of principal payments over the life of the loan is $400,000.

How Extra Payments Can Pay Off

The second table below also shows an amortization schedule for a 30-year, 8% fixed-rate mortgage. However, this time, the borrower makes an extra $300 payment toward the principal each month. (While 8% is a high interest rate by historical standards, it will work here for illustration purposes.)

The table shows that paying an additional $300 each month will shorten the life of the mortgage from 30 years to about 21 years and 10 months (262 months vs. 360).

Also, by paying an extra $300 monthly, the total amount of interest paid is reduced to $446,672.79 over the life of the mortgage, for a savings of $209,948 ($656,620.99 - $446,672.79).

As you can see, the principal balance of the mortgage decreases by more than the extra $300 paid each month. For example, if you pay an extra $300 each month for 24 months at the start of a 30-year mortgage, the extra amount by which the principal balance is reduced is greater than $7,200 (or $300 × 24). The savings by the end of those 24 months in this example is actually $7,430.42. So you would have saved more than $200 additionally in that period alone—and the benefits will only increase as they compound through the life of the mortgage.

That’s because an ever larger percentage of your regular scheduled mortgage payment will go toward principal rather than interest as you continue to make those $300 extra payments.

A further benefit of lowering your mortgage debt is that it reduces your overall financial risk. If you lose your job or face financial hardship, you will have less debt, helping you to better manage the financial storm. Also, the extra payments add up to more home equity over the years, making it easier to get a home equity loan or reverse mortgage. In short, paying an extra amount to your mortgage can give you more financial flexibility in the long term.

The Downside of Accelerated Payments

The financial benefit of making accelerated mortgage payments is well illustrated by the example above. However, whether it's the best choice for you depends on the other uses you might have for the money. This concept is often referred to as opportunity cost.

For example, if you’re carrying a substantial amount of credit card debt, paying an extra $300 monthly toward the balance could be a better idea. The median interest rate on credit cards in the Investopedia database recently stood at 24.37%, while most mortgages charge just a small fraction of that rate.

Suppose, for example, that you owe $10,000 on a credit card with an interest rate of 19% and have been making a minimum monthly payment of $300. It would take four years to pay off the debt, costing you $4,329 in total interest.

Let's say you decided to apply the extra $300 to your monthly credit card payment versus the mortgage. As a result of the increased monthly payment to $600, it would take one year and eight months to pay off the debt, costing you $1,702 in total interest. You would save $2,626 in total interest ($1,703 vs. $4,329) and have the balance paid off 28 months sooner (20 months vs. 48).

After the credit card is paid off, assuming you don’t add to your credit card debt in the meantime, you could apply the extra $300 to your monthly mortgage payments.

Similarly, if you’re an investing whiz, your $300 might earn more in the stock market than you would save on your mortgage. However, you might also lose money in the market since investing comes with risk. Also, few of us are investing whizzes, and paying down your mortgage faster is the closest that most of us will ever come to a sure thing.

The Bottom Line

Making an extra payment to your mortgage can have substantial financial benefits. Those extra payments add up, saving you interest in the long term and allowing you to pay off the loan sooner. You also have the option of taking out an equity loan on the house since you've paid down a larger portion of the loan. If you become unemployed or face financial challenges, having less debt may help your financial position to better handle those challenges.

However, there is an opportunity cost to making extra payments to your mortgage. That extra money might be better spent on paying down high-interest rate credit card debt, saving for an emergency fund, or having cash on hand. Whether making additional payments to your mortgage is right for you depends on your financial situation.