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Monday, April 2, 2012
Is Making Biweekly Mortgage Payments A Good Idea?
Did you get a brochure in the mail or an email that offered a great way to chop off six to eight years from your home loan?
The way to do this, according to the brochure, is to no longer pay one monthly mortgage payment but instead, pay every two weeks. The conventional logic is that increasingly the frequency of the payments doesn't allow interest to build up and over the course of a 30- or 15-year mortgage that can equal years eliminated from your loan.
Before you sign up for these biweekly payments, let's see if the accepted logic is actually true and if you're really saving money.
Better Credit?Some people believe that making biweekly payments improves their credit, but this is no more than a myth according to experts. Using a biweekly payment schedule set up by your mortgage lender puts you on an automatic withdrawal plan that assures that your payments are made on time. If you're the type of person who misses payments from time to time because you forgot to write the check, an automatic payment schedule will improve your credit because of the on time payments, but you can get the same advantage with an automatic monthly payment too.
Reduces Interest?Sadly, this is another myth not to believe. Depending on the particulars of your loan, there is a good chance that the company receiving your mortgage payment isn't the company that holds the loan. Although you're paying twice per month, the servicer receiving your payment isn't making biweekly payments to the company who owns your loan. They're likely holding it in an account until the end of the month.
But does this mean that the interestthat is building up isn't reduced? Remember that each calendar year has 52 weeks and if each month has four weeks that would only be 48 weeks. This means that biweekly payments won't consist of two payments each month but instead, 26 half payments which equals the equivalent of 13 monthly payments in a year. If the math is a little tough to follow, it works like this: Biweekly payments are equal to 13 monthly payments in a year where making traditional monthly payments are equal to 12 payments each year. By paying an extra month, you're paying extra principal which shaves six to eight years off the life of the loan over time.
But do you have to make bimonthly payments to do that? You could divide the amount of one month's payment by 12 and add that amount to your monthly mortgage payment. If you're paying $1,500 per month, divide 1,500 by 12 and make your monthly payment $1625. Talk to your mortgage company first to make sure there isn't something more you have to do to make sure it is applied to the principal amount of your loan.
Don't Make it a ContractThere are two problems with answering the call from your lender for biweekly payments. First, the reason they want to sign you up for this plan is because there will be a fee and that's more revenue for the bank. They are charging you to give them a two week loan. Second, most consumers already have enough contractual payment obligations in their life. Especially for those without a lot of financial reserves, it is better to keep some flexibility in your budgeting rather than committing to the biweekly payments.
You can always make extra payments when you get three paychecks in a month, receive a tax refund or come in to unexpected money.
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