How To Pay Off Your Mortgage Early
Paying off your mortgage early can save you a significant amount in interest, giving you financial freedom much sooner. However, it requires careful planning and consideration of the various strategies available. Here is an in-depth guide on how to pay off your mortgage early, along with examples, benefits, and potential drawbacks for each method.
1. Increase Monthly Payments
One of the simplest ways to pay off your mortgage early is by increasing your monthly payments. By paying more each month, you reduce the overall loan balance more quickly, which reduces the amount of interest charged over the life of the loan.
Example:
Let’s say you have a 25-year mortgage with a balance of £150,000 at an interest rate of 3%. Your monthly payments are £711. By increasing your monthly payment by just £100 (to £811), you could shave nearly 4 years off your mortgage and save around £12,000 in interest.
Benefits: Easy to implement and doesn’t require a large upfront payment.
Drawbacks: You need to ensure you can comfortably afford the higher payments each month.
How to Do It:
Contact your lender to find out if you can increase your payments without incurring penalties.
Use an online mortgage calculator to understand how much you can save by increasing your monthly contributions.
2. Make Lump Sum Payments
A lump sum payment involves making an occasional large payment on top of your regular monthly payments. This can be especially effective if you receive a windfall, such as a bonus, inheritance, or savings.
Example:
If you make a one-time lump sum payment of £10,000 on a £150,000 mortgage at 3% interest, you could reduce your mortgage term by around 2.5 years and save over £6,000 in interest.
Benefits: Reduces your mortgage balance quickly and helps save a substantial amount in interest.
Drawbacks: You need to have a large sum of money available, and some lenders may impose limits or penalties on how much you can pay off in a single year.
How to Do It:
Check with your lender to ensure there are no early repayment charges (ERCs) or limits on how much you can overpay in one go.
Make lump sum payments strategically, such as after a bonus or other financial gain, to reduce your mortgage balance.
3. Switch to a Bi-Weekly Payment Schedule
By switching from monthly to bi-weekly payments, you make one extra payment each year. This approach works by taking your monthly mortgage payment, dividing it in half, and paying that amount every two weeks. Since there are 52 weeks in a year, you end up making 26 half-payments, or 13 full payments, instead of 12.
Example:
On a £150,000 mortgage at 3%, switching to bi-weekly payments could reduce a 25-year mortgage term by about 3 years and save you more than £8,000 in interest.
Benefits: Achieves savings without significantly increasing your payment amount.
Drawbacks: You need to ensure your lender accepts bi-weekly payments.
How to Do It:
Contact your lender to see if they offer or accept bi-weekly payment plans.
Set up automatic bi-weekly payments through your bank if your lender allows it.
4. Shorten Your Mortgage Term
When remortgaging or renegotiating with your current lender, consider reducing your mortgage term from 25 years to 20, 15, or even 10 years. While this will increase your monthly payments, it can result in huge interest savings over the life of the loan.
Example:
A £150,000 mortgage at 3% over 25 years results in a total interest payment of around £63,000. Reducing the term to 15 years increases your monthly payment from £711 to £1,035 but reduces your interest payments to just £40,000, saving you £23,000 in interest.
Benefits: Substantial savings on interest and you’ll be mortgage-free sooner.
Drawbacks: Higher monthly payments that may strain your budget.
How to Do It:
Check if your lender allows you to shorten the mortgage term when remortgaging.
Use a mortgage calculator to see how higher monthly payments will impact your budget.
5. Remortgage to a Lower Interest Rate
Remortgaging to a lower interest rate can save you a lot of money, even if you keep the same mortgage term. The key is to continue paying the same amount (or more) each month, as this will reduce your principal faster.
Example:
If you have a £150,000 mortgage at 3% for 25 years, you’ll pay £63,000 in interest. Remortgaging to a 2% interest rate reduces total interest to around £41,000, saving you £22,000. If you continue to pay your original monthly payment, you’ll pay off the mortgage even faster.
Benefits: You could save a significant amount of money in interest and reduce your mortgage term without increasing your payments.
Drawbacks: There may be fees associated with remortgaging, such as valuation and legal fees.
How to Do It:
Shop around for better mortgage deals or consult a mortgage broker.
Calculate potential savings after fees to ensure remortgaging is worthwhile.
6. Make Overpayments Whenever Possible
Whenever you have extra cash, consider making an overpayment on your mortgage. Even small overpayments can make a big difference over time.
Example:
If you make an extra payment of £1,000 annually on a £150,000 mortgage at 3%, you could reduce your mortgage term by nearly 3 years and save more than £7,000 in interest.
Benefits: Flexible option that allows you to pay off your mortgage early without committing to higher monthly payments.
Drawbacks: You need to ensure you have surplus funds available without impacting your financial cushion.
How to Do It:
Check your mortgage contract to see if overpayments are allowed and if there are limits on how much you can overpay without penalty.
Set aside any extra income, such as bonuses or tax refunds, for mortgage overpayments.
7. Refinance to a Shorter-Term Mortgage
Refinancing to a shorter-term mortgage can drastically reduce the amount of interest you’ll pay over time. Shorter terms usually come with lower interest rates, making it a double win.
Example:
Switching from a 25-year mortgage to a
15-year mortgage on a £150,000 loan with a 3% interest rate could save you a significant amount in interest. Over 25 years, you would pay £63,000 in interest. However, by switching to a 15-year term at 2.5%, you would pay only around £31,000 in interest. That’s a saving of £32,000 over the life of the mortgage.
Benefits: You pay off your mortgage faster and save a significant amount on interest.
Drawbacks: Your monthly payments will increase substantially, which may put pressure on your budget.
How to Do It:
Speak to your lender about refinancing options for shorter-term mortgages.
Compare mortgage rates and terms from different lenders to find the best deal.
8. Use Offset Mortgages
An offset mortgage allows you to use your savings to reduce the amount of mortgage interest you’re charged. Instead of earning interest on your savings, your savings balance is deducted from the mortgage balance, which reduces the interest you pay.
Example:
If you have £10,000 in savings and a £150,000 mortgage, you’ll only pay interest on £140,000. If your mortgage rate is 3%, this could save you around £300 per year in interest, while still giving you access to your savings if needed.
Benefits: Reduces your interest payments without requiring you to dip into your savings, and you can access the money in your savings account when necessary.
Drawbacks: You won’t earn any interest on your savings, and offset mortgages may come with slightly higher interest rates than standard mortgages.
How to Do It:
Look for lenders that offer offset mortgages.
Keep your savings account linked to your mortgage to maximise the interest savings.
9. Pay a Lump Sum After a Fixed-Rate Term Ends
If you're on a fixed-rate mortgage, you can often overpay without penalty once the fixed term ends. This is an ideal time to make a significant lump sum payment to reduce your principal.
Example:
At the end of a 5-year fixed-rate term, you might find you have saved £20,000. If you pay this as a lump sum, you could significantly reduce the remaining balance and shave years off your mortgage.
Benefits: You can avoid early repayment charges that might apply during the fixed-rate period.
Drawbacks: Requires a large sum of money saved up at the end of the fixed-rate term.
How to Do It:
Set a reminder for when your fixed-rate term ends, and check your mortgage terms for any penalties or conditions on lump sum payments.
Conclusion
Paying off your mortgage early can lead to significant savings on interest, greater financial freedom, and reduced monthly outgoings. Whether you choose to increase monthly payments, make lump sum payments, or switch to a shorter mortgage term, every little helps in reducing your mortgage balance faster. However, always consider your financial situation before committing to higher payments or lump sums. You’ll need to ensure you have enough flexibility to handle unexpected expenses while also reaping the benefits of early mortgage repayment. Make sure to speak to a mortgage advisor to tailor your strategy for paying off your mortgage early.