So, you’ve gotten a new house and a new mortgage and suddenly you’re staring at a statement that says you’ve committed a substantial amount of your income for the next 30 years. It’s kind of depressing, isn’t it? What if I told you that you could cut that amount of time in half for very little additional cost and do it 100% legally? Well, keep reading…

 

This payment scheme relies on the fact that all mortgages front-load the interest, so that you are paying more interest than principal during the first few years of your loan. This is the mortgage banker’s way of receiving their profit on a loan as quickly as possible. Of course, this does very little for the benefit of the borrower. Look at your last mortgage statement and divide the amount of principal paid by the total payment. You’ll see that this is a depressingly low number.

 

In most states, if not all, there is a little known law that allows you to pay your principal down ahead of time, thereby saving you interest in the long-term. By adding extra principal payments to your mortgage payment every month, you will effectively shorten the term of your loan by the amount of principal that would have been paid in the last years of your loan. In principle, you can shorten the term of your loan as much as you like just by adding principal payment to your mortgage payment, but of course, this is limited by the amount of income your willing to dedicate to the cause.

 

The easiest way to cut your loan term in half is just by adding the amount of principal from the next month’s payment to the payment for the current month. To figure out how much this will be, you will need an amortization schedule for your loan. An amortization schedule is a breakdown of each month’s interest and principal paid throughout the term of your loan. You can find a good amortization calculator here: http://www.hsh.com/calc-amort.html.

 

Now, shortening the life of your loan is not really the goal here. The real goal is to save money by paying principal down, so that you save the amount of interest incurred over the last half of your loan. For an example, on a loan of $300,000 at 6.25% APR paid off in half the time of the normal loan, you would save around $304,000 in interest!

 

A word of caution, though. Using this method, the amount of money you pay each month will grow, reaching some pretty high numbers in the last years of the loan. If you think that your income will not grow enough to accommodate those number, you should consider paying some fixed amount each month on the principal. A good way of doing this is to get the amount of principal left at the end of the 15th year from the amortization schedule and dividing by 180 (number of months in 15 years), and adding that amount to each payment. This will again shorten the loan term by half, but will be more expensive in the beginning, probably prohibitively so.

 

The real lesson to be learned here is that you should pay down your principal as quickly as possible, because it will save you an immense amount of money in the long term. Just paying $200 extra per month on the loan mentioned above saves nearly $100,000 in interest and shortens the life of the loan by almost seven years. Can you afford to lose $100,000?