Consumer activist and financial author Marc Eisenson spends a lot of time teaching people how they can save money. His quarterly publication, “The Pocket Change Investor” contains witty, engaging stories about buying used cars, cutting credit card costs, painless penny pinching, and how to negotiate.
He also spends a fair amount of time on mortgages. His book, “The Banker’s Secret,” details how you can save thousands of dollars by prepaying your home loan. As Eisenson correctly notes, if you add just $25 to the required payment on a typical $100,000 home loan, you’ll save more than $25,000 over the life of the loan. And, you’ll reduce the term of your loan by 44 months, or 3 years and 8 months. If you make one extra mortgage payment per year, divided into 12 equal payments, you can cut more than 10 years off the life of your loan.
Although the process isn’t particularly difficult (you just write a check for more than the mortgage that is due and direct the lender to use the rest to pay down the principal), he suggests that some homeowners are stopped by the following “myths:”
It sounds too good to be true. “Anything that promises to save you $25,0000 or more sounds like a get rich quick scheme, and we’ve all been warned to avoid deals like that. However, investing in your mortgage, even a piddling amount, really does reap great rewards,” Eisenson notes.
I can’t afford to pre-pay. “If you borrowed $100,000 at 8.5 percent for 30 years and sent in just 25 cents a day, you’d save $9,069 over the life of the loan. A dime a day will save $3,779,” Eisenson says. “figure out where you can cut back, even just a little. Then, send it what you can, when you can.”
I’ll lose my only tax deduction. Eisenson believes it’s never a good idea to pay $1 just to get back .28 cents from the IRS. He also notes that with a rising standard deduction, the first $6,700 you spend on your mortgage interest doesn’t give you any additional tax benefit. Finally, he believes prepaying works even for those who itemize.
“If you send in $25 per month more in the first year of your $100,000 loan, you’ll save $3,300 in interest over the life of the loan. The tax cost will be $3.35 in write-offs, if you’re in the 28 percent bracket.” If you’re in the 15 percent bracket, the tax cost is $1.79 in write-offs.
My bank will be angry if I pre-pay. Eisenson wants mortgage holders to know that banks don’t take prepayment personally. He points out that lenders make most of their money up front on points and closing costs, and then usually resell the loan immediately to a secondary market lender. You likely won’t be prepaying the loan to your friendly mortgage broker or banker who gave you the loan, but to a national pension fund.
I’ll end up in a hassle with my bank. Now that everything is computerized, lenders almost always credit pre-payments correctly, Eisenson says. Make sure you check your statements to see that the extra pre-payment is credited correctly. Then, keep those statements (and check stubs) as proof of your prepayment.
“A lot of people are concerned that bank won’t do this right, but that’s a false fear. Your check goes to bank and someone other than the bank president enters the amount of check into computer. To keep yourself comfortable, you could enclose a note that directs the lender to apply the extra payment to your loan’s principal, or simply enter the extra onto your mortgage coupon,” he says, adding that mortgage holders can call the lender and find out exactly where their loan balance is.
I’ll probably move in the next few years, so pre-payment doesn’t make sense. While homeowners do move, on average, every five to 10 years, they generally go from one mortgaged home to another, creating from Eisenson calls the “serial” mortgage.
“If you keep pre-paying, no matter what mortgage you have at the moment, the ultimate result will be an early escape from mortgage debt and years of mortgage payments you won’t ever have to make,” Eisenson says. “Regardless of how often you move, every dollar you invest in your mortgage will earn you money at the rate you’re paying. If you have a 8.5 percent loan, your pre-payments will yield a return of 8.5 percent, tax-free. Why tax free? Because they’re savings, not income.”
I don’t have the discipline. Eisenson suggests rounding off your mortgage check to start the pre-payment ball rolling. The monthly payment on our $100,000, 30-year fixed rate loan at 8.5 percent interest is $768.92. If you round that up to $800, you’ll save more than $30,000 over the life of your loan.
I’ll get hit with a pre-payment penalty. Usually, pre-payment penalties are only active during the first few years of a loan. Once you’ve held onto your loan for 4 or 5 years, you can usually pay it off without invoking the penalty.
Pre-paying is so complicated, I’ll need to hire someone to do it for me. "Nonsense," Eisenson says. “I know there are a lot of ads out there for ‘bi-weekly’ or other mortgage acceleration programs. They’re expensive and absolutely unnecessary.” Eisenson says if you pay with a mortgage coupon book, it may have a space labeled something like “additional principal.” Write in the amount of your pre-payment, and simply send in your check.
My banker says the pre-payments will be subtracted off “the back end of my loan.” What you send into your lender today pays down the total balance due on the loan. Since you owe less, Eisenson explains, more of next month’s mortgage payment will go toward reducing your balance even further. "Your loan will cost you less because you pre-paid and you will pay it off earlier.
I can get a better return some place else. Unless you have a good 401K plan at work, Eisenson finds that mortgage holders rarely do better when investing such small sums as $25 per month. But he believes most folks should be able to manage paying down their mortgage an extra $25 per month and investing more substantial sums in a retirement plan at the same time.
There is only one place where you’re guaranteed to get a better return than pre-paying your mortgage — paying down your credit card balance. To get the biggest bank for your buck, Eisenson recommends paying down your highest interest debts first.
To order The Banker’s Secret by Marc Eisenson (17.95 including postage), contact Good Advice Press, Box 78, Elizaville, NY 12523. Or call toll-free, (800) 255-0899.