How to reduce your debt faster with extra repayments
Even if it’s just a small amount, making extra repayments on your home loan is one of the simplest ways to reduce the time taken to pay it off.
How do extra repayments work?
Making extra repayments on your home loan means paying more than the minimum monthly repayment you are required to make according to the terms of your agreement. You can make such extra repayments regularly by paying a little more than your minimum monthly repayments. Or, you can choose to pay irregular lump sum amounts into your mortgage account, in addition to the minimum repayment amount stipulated by your loan provider.
This strategy is quite helpful in tackling your debt faster, mainly when done in the initial years of your mortgage. That’s because most of your payments during the initial five to eight years go towards paying off the interest on a standard principal and interest mortgage. However, any additional amounts paid into your mortgage account are applied towards reducing the principal, which automatically cuts down the amount of interest you pay and shortens the loan term.
You can use an online extra repayment calculator to find out the impact additional contributions are going to have on your loan.
Three tips to get ahead of your mortgage through extra repayments
Paying an extra amount regularly towards your home loan can make a big difference in the long run. Here’s how you could easily schedule some additional payments:
#1 Pay off half of your monthly instalment every two weeks
If you are currently making monthly repayments, switching to fortnightly payments can help you reduce your debt faster. By paying half of your minimum monthly amount every two weeks, you’ll automatically end up paying an extra month’s repayment every year. That’s because there are 26 fortnights in a year (equalling to 13 monthly repayments), but only 12 months.
#2 Apply any unexpected gains to make lump sum payments into your mortgage account
Your annual tax refund, company bonus or any other lump sum of money saved by you or gifted to you can be used to reduce your mortgage debt.
One idea could be considering a round-up feature in your everyday bank account to grow your savings each time you make a purchase using that account. For instance, you can choose to have all your purchases rounded up to the nearest dollar, transferring the difference to your savings account. At the end of the year, you can use these accumulated savings to make a lump sum payment on your mortgage without feeling the pinch in your pocket.
#3 Switch to a lower rate but continue making your repayments at your existing rate
If you’ve been on the same mortgage for the past few years, the chances are you may find a deal with a lower rate with another lender.
To get more business, many lenders advertise discounted rates for new customers. It’s also possible that your lender is charging you at a higher interest rate than what it offers to new customers. To ensure you’re on the best deal possible, make a list of the features you wish to keep in your loan and compare rates for mortgages from various lenders accordingly.
If you find a lower rate, you can call your lender or ask your broker to negotiate a better deal. If not, you may even consider switching to a different lender offering you a lower interest rate. However, do keep in mind the various refinancing costs, like any exit fees or loan set-up fees, which could add to your expenses.
Once you switch to a lower rate, your minimum monthly repayment amount will likely reduce. However, if you continue making repayments as if you had a loan with a higher interest rate, the extra money will help reduce your mortgage principal every month, enabling you to pay it off sooner.
Is it worth making extra repayments into my mortgage account?
Paying just a little extra into a home loan could help you save money in the long run and also reduce your home loan term. Planning to make extra repayments into your mortgage account may also encourage better budgeting habits overall.
However, it may not always be the right choice to make extra repayments for paying off your loan early. For instance, if your home loan provider charges any additional fees for making extra repayments, it may not be worth paying small amounts into your mortgage account, as each transaction may incur a fee. Some lenders may also have a cap on the number of additional repayments you can make every year without paying any extra fees. You must also read the Product Disclosure Statement for the loan carefully to check whether there are any early exit fees if you terminate your home loan before its original expiry.