Is a hefty monthly mortgage payment weighing your finances down?
Good news: there are ways to lower your mortgage payments, decrease the amount you'll pay in interest, and own your home sooner. That's because today's historically low mortgage interest rates are giving homeowners a lot of options, says Jim Duffy, a mortgage banker with Cole Taylor Mortgage.
One of these options is refinancing, which is the process of paying off your existing mortgage with a new mortgage (often with better terms, like a lower interest rate).
"It's a great time to refinance, and while refinancing might not be right for everyone, most people do have options to improve their financial bottom line," Duffy says.
Interested in seeing just what your options are? Read on for five possible ways to cut your mortgage payments…
Payment Cutter #1: Refinance to a Lower Interest Rate
It's a simple idea: If you refinance your loan to a lower interest rate, and all other factors remain the same (like the length of the loan, for example), you'll have a lower monthly payment.
Most importantly, you'll save a lot over the life of the loan. That's because your interest rate is a major factor in your monthly payment calculation, says Justin Pritchard, a financial planner who writes About.com's banking and loans column.
And with interest rates hitting historic lows, refinancing could be a real money saver.
Just how much of a money saver? Let's take a look at this example below, which compares a $300,000 fixed-rate mortgage at an existing 5 percent interest, with a refinanced rate at 3.32 percent - the average market interest rate as of November 29, 2012, according to government lender, Freddie Mac.
|Existing Mortgage||New Mortgage|
|Interest Rate:||5 percent||3.32 percent|
|Interest Over Life of Loan||$279,767.35||$174,182.01|
Savings: As you can see, dropping even less than 2 percent in interest rate saved $293.29 per month, and over $105,000 over the life of the loan.*
Payment Cutter #2: Make Bi-Weekly Payments
Does owning your home sooner and paying less in interest over the life of your loan sound good? One way to do both is to divide your monthly payments into two installments, paid every other week.
How does this help? While it won't result in lowering the amount you pay per month - remember, you are simply dividing your monthly payment into two equal payments due every other week - it will result in 26 payments per year. So, simple math tells you that is the equivalent of 13 monthly payments. The extra month's worth of payments will then be put towards your principal (the amount of money you originally borrowed).
"This can result in thousands of dollars worth of savings over the life of the loan," says Duffy.
Again, let's crunch some numbers and see how much money this could save. Our example will use a $300,000 mortgage with an interest rate of 5 percent and a 30-year term. Our mortgage start date is November of 2012.
|Monthly Payment Plan||Bi-Weekly Payment Plan|
|Each Payment:||$1,610.46 (monthly)||$805.23 (bi-weekly)|
|Total Interest Paid:||$279,767.35||$228,232.48|
|Payoff Date:||November, 2042||February, 2038|
Savings: Pretty good stuff for merely changing the way you pay. Our borrower paid off their mortgage four years and nine months earlier, and saved $51,534.88. Just keep in mind, every mortgage is unique, so your savings could be different.
Payment Cutter #3: Eliminate Private Mortgage Insurance
Are you paying tens or even hundreds of dollars every month in private mortgage insurance (PMI)? Well, if you thought that was a cost that would last the life of your mortgage, we have some good news: you might be able to get rid of it.
Before we get into that, let's define PMI. This is an insurance policy that protects the lender in the event you default on your loan, and is usually required if your equity is below 20 percent.
The cost of PMI varies due to many variables, but according to the Federal Reserve, which oversees national monetary policy and banks, it can range from $50 to $100 per month. Duffy says it can be substantially more, which is why getting rid of it could provide some substantial savings.
Once you've built up 20 percent equity in your home, based on the original purchase price, the Federal Reserve says you can simply write a letter to your lender and get PMI removed. In fact, the Federal Reserve says federal law dictates that your PMI payments automatically stop when you reach 22 percent equity.
We say, why wait. If you have 20 percent equity and you're still paying PMI, all that's standing between you and a good chunk of monthly savings might be some typing.
Payment Cutter #4: Ask for a New Home Assessment
If you're a homeowner, there hasn't been much to like about the past few years of mostly declining home values. But here's one potentially good thing: that loss in home value could result in saving you money on your annual property taxes.
It's not automatic, however. Your local assessor might use any number of tools to appraise the value of your home, says Duffy. This includes things like comparing sales of other homes in your neighborhood, computer models, and other means.
So if you think you're paying higher taxes than you should, you can apply for a reassessment - just make sure you do your homework beforehand, says Duffy.
For example, you might consider gathering recent comparable sales of similar homes in your neighborhood or even paying for an independent appraisal of your home, which could cost a few hundred dollars, he says. By doing this initial homework, you'll be able to better gauge whether or not you're receiving a fair appraisal from your county assessor.
Payment Cutter #5: Convert Under-Performing Assets into Equity
There's a flip side to historically low interest rates on mortgages, and that's very low interest rates on savings and other interest-bearing investment accounts. So for some people, using that money to pay down their mortgage, often through refinancing, could make financial sense.
"It certainly has a lot more merit today when you look at some of the investment alternatives that people would possibly put their money into," says Chris L. Boulter, president of Val-Chris Investments, Inc., a California company specializing in residential and commercial loans.
"Typically the most conservative saver would put their money in the bank, purchasing CDs [certificate of deposits], or treasury bills. But those rates are so incredibly low - one percent or less per year - that it hardly makes sense to have that money sitting in a bank when you could pay down your mortgage in a much shorter period instead," adds Boulter.
The point, he says, is to pay off some of the principal of your mortgage, which typically has a higher interest rate than those safe investments.
Boulter cautions that while this could be a very savvy and wealth-building move, it does come with some costs. So he strongly advises checking with a finance professional, especially since everyone's situation and goals are different.
*Just remember, says Pritchard, that when you refinance you essentially "restart" your mortgage. So the interest you've already paid is "just gone. You're not repaying the loan principal with that," he says. For that reason, if you're loan is older than a decade or so, consider refinancing carefully. Our examples cannot and do not take this into account since every individual's loan is unique.