Question about how mortgage prepayment affects amortization schedule.?

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So I’m buying my first house, its an FHA loan, and the biggest thing on my mind is figuring out how to pay as little interest as possible over the years. I’m buying a less expensive house that I could afford, so that I can have money left over to prepay on the principal as often as possible, and get the house paid off much quicker than 30 years. ( I know alot of people probably think, its my first house, I’m going to move soon, upgrade, etc, but I doubt it. I rarely move, I’ve been in the same 5 mile radius my whole life, I plan to be in this house for a long time)

Right now I’ve already got my minimum down payment/closing costs. I’ve also got enough money for an emergency fund. Then on top of that I’ve got around $ 4K extra that I can apply to the principal. Now since I’m not completely familiar with how the whole amortization schedule works, I’m wondering which way I’d be better off.

A) Just applying that extra directly to my down payment up front, which will lower my monthly payment by about $ 20 a month, but will still be amortized at 30 years (as far as I know).

B) Just putting down the minimum down payment, and then in about a month applying that $ 4K to the principle. That way the loan has already been amortized, and (if my thinking is right), I’ll be getting a jump start through the amortization schedule, so that on all my future payments, more of the payment will be going straight to principal and less towards interest. And in effect taking a year or so off the end of the loan. (that’s how i think it works, although I don’t fully understand how the ammortization works, so that’s why I’m asking the question)

So with overall interest savings throughout the years in mind, which is a better option, or are they both going to pretty much be the same?

  1. Reply
    February 5, 2011 at 8:25 pm

    I think they’re going to end up pretty much the same. The idea with prepayment is to lower the principal so that you’re paying interest on a lower overall balance. So let’s say hypothetically that you had a 100k loan – whether you paid the 4k before or after the loan dispersed, you’d still end up with a 96k balance to pay interest on every month, rather than the full 100k. And actually, option B might be slightly less advantageous, because you’d be accruing interest on 100k throughout that first month, rather than on 96k.

    Pretty sure you can do it either way and end up with basically the same result, but I’d probably just do it up front.

  2. Reply
    Expert Realtor
    February 5, 2011 at 9:13 pm

    Ok…your math is a little off, here is how it works.

    I’m going to assume that you are going to get an FHA fixed-rate mortgage to stay away from an ARM.

    Let’s say your payment is $ 1,000 per month. Your mortgage payment (let’s not talk about taxes and you know these will increase over time) will not change. So you would have $ 1,000 due every month, no matter what year.

    However, HOW the $ 1,000 is divided toward your principle and interest changes every month….you can clearly see this on your ammortization schedule.

    Now, if you pay MORE towards the principle each month, what happens is that your principle balance is also lowered each month….the principle balance each month is what the interest is based on. So the more you pay toward your principle, the less you pay toward interest, thus, your principle balance drops even further b/c you are still making the same $ 1,000 payment each month.

    What ALSO happens, is that even though your mortgage and interest portion of your payment will not change, your TERM will be reduced also. So if you ammortized over 30 years and send extra money in per month…your principle balance gets lowered faster than originally predicted, so instead of paying your house off in 30 years, you may easily pay it off in 23, 20, or even 15 years.

    Feel free to e-mail me if you have any questions.

  3. Reply
    February 5, 2011 at 9:35 pm

    Sounds like you are not putting 20% down.
    You will be hit with that nasty PMI.
    PMI does not apply towards principal or interest and it is not tax deductible, not to mention it costs thousands / year.
    It’s like throwing money away.

    If you can’t put 20% down. And must pay PMI, work hard on paying your house down enough to get it taken off. Forget everything else.

  4. Reply
    February 5, 2011 at 9:48 pm

    Whether you pay on a self-imposed bi-weekly schedule, add a set amount each month or merely kick in extra money when it’s available, your plan can pay the loan off sooner.

    First, be sure there is no pre-payment penalty. Some mortgages have them.

    Second, be sure that your over-payments are “applied to principle.”

    Third, your monthly payment is usually adjusted at the end of each year, as the mortgage holder takes into account any changed taxes and insurance costs.

    But don’t forget the loan is structured on the 30 year basis, so you won’t actually pay it off sooner, the amount due will simply nosedive. Periodically ask for the payoff amount until it gets down to where you’ll simply cut a check to pay it off.

  5. Reply
    Doctor Deth
    February 5, 2011 at 10:30 pm

    you’ll get more benefit with a larger down payment – every payment you don’t have that $ 4000 applied to principal, you will be losing long-term interest savings

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