How Much Difference Will Extra Payments Make Towards My Mortgage?
Michael Hallett • May 15, 2019
Have you ever wondered how much difference extra payments actually make in paying down your mortgage? Let's take a look and maybe do a little math.
The first (and largest) factor to look at is the amortization, which is the remainder of your mortgage’s life. A majority of mortgages today start with 25-year amortizations. If you have made only regular payments for 5 years on a 25-year mortgage, your remaining amortization will be 20 years. Pretty simple, right?
Someone making an extra payment on a mortgage with 20 years left will save WAY more interest than someone making the same payment on a mortgage with 5 years left. The more years remaining on a mortgage, the more impact your extra payment will make.
The second factor to keep in mind is the mortgage interest rate. Your interest rate will change many times over the life of your mortgage, divided up by mortgage terms. If you agree to a 5-year term, you will only have that interest rate for 5 years, and then it will be time to renew at a different interest rate. At the time of this writing, mortgage rates are exceptionally low (even after some recent increases in 2018), and based on the last rate decision from the Bank of Canada on April 24/2019, they do not appear to be increasing anytime in 2019.
So what does that mean for you? Well, it depends if you are renewing this year, or 3 years from now. If you are renewing this year, you may want to consider your investment options for a lump sum amount, as opposed to paying down your mortgage. Paying down your mortgage makes the most sense when your amortization is high, and interest rates are also high (or going higher). If you’re renewing in three years time, then you may still want to consider paying down your mortgage, especially if you think mortgage rates will be higher at your renewal. The more you can pay when your mortgage is below 4%, the better payoff it will be if rates increase above 5%.
This is all conjecture and guesswork, especially when deciding between paying down your mortgage or investing more. However, mortgage rates have been abnormally low for a while now, and for whatever reason, the government of Canada selected a benchmark rate above 5% to qualify for a mortgage. Where interest rates go is anyone’s best guess, but it’s nice to be ahead of the game on your mortgage than trying to play catch-up with higher interest rates.
So let’s talk dollar amounts. For all of my examples, I’m going to use a $250,000 mortgage at 3.49% with 20 years remaining - that works out to a payment of $1445.40. If you switch to an accelerated bi-weekly, you’ll pay $722.70 every two weeks (half of the monthly amount), but you’ll save over $12,000 over the next 20 years because you will be making a couple of extra payments per year. Those payments really add up.
With the same mortgage (back on the regular monthly payment), let’s say you have $10,000 floating around your accounts, and you decide to use that money to pay down your mortgage. You’ll have saved around $9,500 in interest thanks to that payment. If you did BOTH the accelerated bi-weekly schedule and the $10,000 payment, it combines to over $20,000 of saved interest.
One more calculation with this mortgage - let’s say that, instead of any of the options described here, you decide to increase the monthly payment from $1445.40 to $1600 even. In just the 5 years time, you would save almost $6000 in interest over the life of the entire mortgage. But if mortgage rates stayed the same for the entire life of the mortgage, and you kept up the additional payment of only $154.60/month, you would pay off the mortgage 3.5 years sooner, AND save almost $15,000 in interest.
In summary, paying down your mortgage can feel good, both in your mind and in your wallet. It makes the most sense to pay down your mortgage when both amortization and interest rates are high. It can sometimes be difficult choosing between investing more and paying down your mortgage, but you can think of your mortgage interest rate as a guaranteed return, which is typically better than your GIC options.
If you'd like to discuss your financial situation and and want to review your mortgage to make sure you have the best mortgage available, contact me anytime!
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If you’re new to the home buying process, it’s easy to get confused by some of the terms used. The purpose of this article is to clear up any confusion between the deposit and downpayment. What is a deposit? The deposit is the money included with a purchase contract as a sign of good faith when you offer to purchase a property. It’s the “consideration” that helps make up the contract and binds you to the agreement. Typically, you include a certified cheque or a bank draft that your real estate brokerage holds while negotiations are finalized when you offer to purchase a property. If your offer is accepted, your deposit is held in your Realtor’s trust account. If your offer is accepted and you commit to buying the property, your deposit is transferred to the lawyer’s trust account and included in your downpayment. If you aren’t able to reach an agreement, the deposit is refunded to you. However, if you commit to buying the property and don’t complete the transaction, your deposit could be forfeit to the seller. Your deposit goes ahead of the downpayment but makes up part of the downpayment. The amount you put forward as a deposit when negotiating the terms of a purchase contract is arbitrary, meaning there is no predefined or standard amount. Instead, it’s best to discuss this with your real estate professional as your deposit can be a negotiating factor in and of itself. A larger deposit may give you a better chance of having your offer accepted in a competitive situation. It also puts you on the hook for more if something changes down the line and you cannot complete the purchase. What is a downpayment? Your downpayment refers to the initial payment you make when buying a property through mortgage financing. In Canada, the minimum downpayment amount is 5%, as lenders can only lend up to 95% of the property’s value. Securing mortgage financing with anything less than 20% down is only made possible through mortgage default insurance. You can source your downpayment from your resources, the sale of a property, an RRSP, a gift from a family member, or borrowed funds. Example scenario Let’s say that you are looking to purchase a property worth $400k. You’re planning on making a downpayment of 10% or $40k. When you make the initial offer to buy the property, you put forward $10k as a deposit your real estate brokerage holds in their trust account. If everything checks out with the home inspection and you’re satisfied with financing, you can remove all conditions. Your $10k deposit is transferred to the lawyer’s trust account, where will add the remaining $30k for the downpayment. With your $40k downpayment made, once you sign the mortgage documents and cover the legal and closing costs, the lender will forward the remaining 90% in the form of a mortgage registered to your title, and you have officially purchased the property! If you have any questions about the difference between the deposit and the downpayment or any other mortgage terms, please connect anytime. It would be a pleasure to work with you.
Chances are if you’re applying for a mortgage, you feel confident about the state of your current employment or your ability to find a similar position if you need to. However, your actual employment status probably means more to the lender than you might think. You see, to a lender, your employment status is a strong indicator of your employer’s commitment to your continued employment. So, regardless of how you feel about your position, it’s what can be proven on paper that matters most. Let’s walk through some of the common ways lenders can look at employment status. Permanent Employment The gold star of employment. If your employer has made you a permanent employee, it means that your position is as secure as any position can be. When a lender sees permanent status (passed probation), it gives them the confidence that you’re valuable to the company and that they can rely on your income. Probationary Period Despite the quality of your job, if you’ve only been with the company for a short while, you’ll be required to prove that you’ve passed any probationary period. Although most probationary periods are typically 3-6 months, they can be longer. You might now even be aware that you’re under probation. The lender will want to make sure that you’re not under a probationary period because your employment can be terminated without any cause while under probation. Once you’ve made it through your initial evaluation, the lender will be more confident in your employment status. Now, it’s not the length of time with the employer that the lender is scrutinizing; instead, it’s the status of your probation. So if you’ve only been with a company for one month, but you’ve been working with them as a contractor for a few years, and they’re willing to waive the probationary period based on a previous relationship, that should give the lender all the confidence they need. We’ll have to get that documented. Parental Leave Suppose you’re currently on, planning to be on, or just about to be done a parental leave, regardless of the income you’re now collecting, as long as you have an employment letter that outlines your guaranteed return to work position (and date). In that case, you can use your return to work income to qualify on your mortgage application. It’s not the parental leave that the lender has issues with; it’s the ability you have to return to the position you left. Term Contracts Term contracts are hands down the most ambiguous and misunderstood employment status as it’s usually well-qualified and educated individuals who are working excellent jobs with no documented proof of future employment. A term contract indicates that you have a start date and an end date, and you are paid a specific amount for that specified amount of time. Unfortunately, the lack of stability here is not a lot for a lender to go on when evaluating your long-term ability to repay your mortgage. So to qualify income on a term contract, you want to establish the income you’ve received for at least two years. However, sometimes lenders like to see that your contract has been renewed at least once before considering it as income towards your mortgage application. In summary If you’ve recently changed jobs or are thinking about making a career change, and qualifying for a mortgage is on the horizon, or if you have any questions at all, please connect anytime. We can work through the details together and make sure you have a plan in place. It would be a pleasure to work with you!
