Originally posted by @Rahul So:
One-word: Re-cast.
Just want to add my two cents since I took the time to read through this entire post. I am 100% writing this post assuming that the intent of the article was to pay off your home quicker and "save" interest on primary residence. I think that's been made clear by Josh. This is/was not a time-value-of-money (TVM) article.
A few things:
1st: Paying extra towards the mortgage doesn't change the amortization (read: interest) schedule for a FIXED-rate loan. You still pay heavier interest payments due up front. Period. Paying extra towards principle just "shortens" your loan on the back end 30 years from now. (In Josh's example it would shorten from August 2050 to whatever you're paying down. But NOT payments due tomorrow. That's still the "heavy" interest payment.) So the interest you're "saving" is actually on a lower principle amount, at the END of the loan. (This is what I think all the mortgage experts had a hard time conveying in earlier posts.) The amortization schedule would, however, change if you were to refinance. Except one thing...
2nd: Refinancing isn't free (usually, unless your broker factors it into the rate they're giving you and then it's definitely not "free"). The cost of multiple refinances would eat into your strategy. Not to mention that fixed rates are going up from what they were a year ago. And it's only going to get "worse". (4% ain't a bad mortgage man, it's not 2.5% but not bad at all).
3rd: Paying off your primary residence eliminates any tax savings, however little, you would get from being a "home-owner". (this used to be a good perk, not so much since 2018. This has recently been causing a lot of people to go towards renting (no equity/wealth building, but more advantageous financially in the short run according to recent articles.) I also understand that HELOC interest is NOT tax deductible as it once was. (At least not until 2025 or whenever they change the rules.) So you're paying for the full interest amount on a higher rate without the tax savings. (Can a CPA fact check me on that, please?) I don't believe any of the posts above addressed this.
However:
Most states, including the District of Columbia, allow you to re-cast your mortgage for free or a small, negligible amount (usually $250). You can only recast a loan once a year and requires at least 10k of additional principle payment, since inception or the last recast. This strategy would actually capture the "savings" you are trying to achieve. The way it's being described above seems less advantageous (higher HELOC interest rate, cost of refinance, and loss of (miniscule) tax savings). This will lower your UP-FRONT interest amounts as it re-amortizes the the loan in it's ENTIRETY.
Conclusion:
If you pay more towards principle - then RE-CAST your mortgage periodically. Otherwise, you probably aren't saving what you're think you're saving. However, you are paying your home off faster, and for those that don't like debt and want peace of mind/SWAN, that's worth all the money in the world to them. Just know, if you're every liable for anything, whomever is coming after you doesn't have to deal with the 1st lien-holder anymore and having a fully paid off home, is just ripe for the taking. /shrug
Also, with inflation the way it's going, it may be silly to not keep debt on the books. Given how much money the Fed just printed, we're going to laughing at our mortgage payments in 5-10 years given how low they are. I'm not smart enough to explain that part, but just know it matters.
Disclaimer: I am not a financial professional and this is not financial advice. This is purely my opinion. Do your own research.
Thanks for the reply, but unfortunately you're incorrect about a couple things.
First of all, a recast will save you money monthly if you are just paying the minimum payment, but it simply stretches your principal over a longer period of time and doesn't affect your interest at all. If you recast (lower your monthly principal amount) and then just put in more principal next month like I'm doing then it's pointless for the purpose of paying off faster. I have recasted to lower my monthly burden in case of a job loss or something, but it doesn't allow you to pay off quicker, which is my goal.
Second, you're incorrect about where the savings come from when paying extra principal and there's a real easy way to show you.
Pull up bankrate's amortization calculator for me. Click on show amortization table. Take note of the total amount of interest at the top - $136K and the interest portions of the last 24 payments. It's a range of $3 to $72, which is an average of $37.50.
In your theory, if you shave off two years of the mortgage by paying extra principal you'll have a savings of $900 ($37.50 x 24 months) at the back end of the mortgage in 28 years, so let's put that to the test.
Click on where it says add additional payments and put $5500 into the one time payment box and click calculate. You'll notice that it takes two years off of the mortgage, but the total interest goes from $136K to $121K for a savings of about $15,000. That's a lot more than $900.
That's because when you pay additional principal you are skipping over the next $5500 worth of principal payments and the corresponding interest you would have paid over that time.
So, let's test that claim. Add up the next 24 payments after that lump $5500 payment. It's an average of $586.50, so multiplied by 24 it comes out to $14,076. I think it comes shy of the $15K savings because you're also essentially re-amortizing the loan and the payments are a little less, but obviously $14K is way closer to $15K than $900 is.
See what I mean? The explanation CAN'T BE that you're simply shaving interest off the back end of the loan, because the savings would be pathetic. Obviously, you should test this on other amortization calculators, but the last couple years worth of interest payments will never match up with the savings on the calculator, because that's not where the savings are coming from. Hope this helps.
