Everyone wants to save money on their mortgage. And if you've spent any time at all discussing savings strategies with friends and co-workers, you've probably heard about the idea of making extra mortgage payments.
A biweekly mortgage payment schedule, or every two weeks, is one of the more well-established "tricks" for saving money on your home loan with a minimum of effort. There are actually two ways of doing this - one that works pretty well and another that, despite what some people claim, simply does not. We'll talk about the one that works first.
To understand how biweekly loan payments can save you money, let's think about how mortgage payments work. Normally, you make one mortgage payment a month. During the first years of the loan, most of your payments go toward interest charges and very little toward paying down the mortgage principal.
As you gradually pay down the loan balance, you pay less in interest each month and more of your payment goes toward loan principal. That process gradually builds momentum so that, in the final years of the mortgage, you're paying down your loan balance at a very fast rate. In fact, on a 30-year mortgage, you'll pay off nearly half of the amount borrowed in the final 10 years of the loan.
Making extra mortgage payments
To accelerate the process, some homeowners make a half-payment every two weeks instead of a one full one once a month. That's like making two mortgage payments a month – but not exactly.
Except for February, most months aren't exactly four weeks long. They're 30 or 31 days, and those extra two or three days each month add up. In fact, they add up to almost an entire month each year.
A year has 52 weeks. So if you make half a payment every two weeks, over the course of a year you'll make 26 half payments – or the equivalent of 13 monthly payments. And that extra mortgage payment goes completely toward paying down mortgage principle – shrinking your interest payments more rapidly and hastening the day you pay off your mortgage as well.
This works best if you're paid every other week or every week, so you can take the same amount out of every paycheck. With biweekly mortgage payments, there will be two months a year when you need to make three payments – so if you're paid monthly or bimonthly, you'll need to be a pretty good money manager to cover those two extra mortgage payments a year – or half payments, to be precise.
Yes, you're paying more of your annual income with biweekly mortgage payments this way – but you're going it in a fairly painlessly. And it not only pays off your mortgage more quickly, but reduces what you pay in interest as well. If you calculate the payoff on those extra mortgage payments, you'll find you can trim about five years off a 30-year loan with this method and save a big chunk of interest charges in the process.
Biweekly vs. semimonthly payments
There's another way of making extra mortgage payments that many people swear will enable you to shave years off your mortgage - the semimonthly approach. Unfortunately, it just doesn't work that well.
Here's how it works: Instead of making one monthly mortgage payment, say on the first of every month, you make two: one on the 1st and one on the 16th. You also make arrangements with your bank so your payment is credited to your account and interest is recalculated on those date, rather than doing so once a month.
With semimonthly mortgage payments, the idea is that by paying half of your payment early, you're reducing your mortgage principal just a bit more quickly - and thereby shaving a bit off your interest payments as well. Advocates of this approach claim that over the course of a 30-year mortgage, the laws of compounding interest will allow that slight monthly advantage to accumulate into major savings, knocking several years off your mortgage.
The truth is, it doesn't work that well. Yes, paying half your monthly mortgage payment early will pay off your loan a bit faster, but not very much - maybe one month over a 30-year loan. Given that you may have to pay a fee for your lender to set up your loan to handle and properly credit your early payments, your savings may be even less than that.
On the other hand, if you have enough discipline to mail payments every two weeks, you can set up your own biweekly loan payment program for free and make 13 full payments each year instead of 12.
For the cost of the extra postage stamp each month, you can save yourself thousands of dollars over the life of a 30-year loan. Who said 13 was an unlucky number?
(Updated November 2017)