Save Thousands by Shortening the Term of Your Mortgage

Modern Day Interest and the Use of Mortgages

Interest is obviously a very powerful thing. Mortgage interest is one of the most important stimuli in our economy. Mortgage rates are a key component in keeping our economy moving along. Mortgage interest is talked about on the nightly news or around the coffee pot at work. Mortgage interest rates directly effect our quality of life.

You don’t hear friends or co-workers saying, “Hey Joe, Did you see that ABC bank is offering 3.5% on a CD?” Wow!

Who cares? Mortgage interest rates affects our daily lives because it effects our obligation on one of the most important things in our lives, our home.

One term that we don’t hear enough about is accumulated interest. Mortgages have huge amounts of accumulated interest because of the way the money is collected over the life of the loan. This is why banks love to offer mortgages to the public.

A simple interest loan with collect the same percentage based on the face value of the note.
A 30 year fixed mortgage will collect approximately 13 percent applied to principal in the beginning of a thirty year term. This creates a huge opportunity for profit for the bank. Thirteen percent is actually a very low number if you think about it.
Imagine borrowing $100 from a friend and you agree to pay him back 5 dollars every month and your friend says that .65 cents will be used to lower the balance and he will keep the rest. You would probably no longer wish to call that guy your friend.

Now that the mortgage frenzy has gone by the wayside and we are entering a new era of responsibility in lending perhaps it is time to start looking at our mortgages differently.

Currently, in the mortgage world we are seeing an increase in mortgages in which the borrower is paying down the balance. Here is an example of how the mentality has changed for the better.

Today I spoke with two long time customers whom I arranged a nice refinance for about three years ago. They had an ugly builder loan that I lowered and then they went out and secured a fixed mortgage second in order to do all of the necessary upgrades on their newly built home. Looking at their two loans into one, they have a first mortgage of $260,000 at 5.875% and a second 15 year fixed at 7.5%.

Available options:

Option #1: We could consolidate the two loans into one with a 30 year fixed mortgage and save them $500 per month which would go over quite well. This savings would pay their closing costs in one year and life would be easier. This option is what was typically done in the past because those same borrowers could invest that $500 at a different return or just go out to dinner.
Option #2: They could consider a 20 or a 25 year fixed mortgage which would also lower their interest rate substantially and save them a lot of accumulated interest over time.
Option #3: What we decided on doing is something that many others should seriously be taking a look at. They chose to opt for a 15 year fixed mortgage which ultimately raised their total payment compared to what they have now but also allowed them to save $158,000 in accumulated interest over 15 years. $158,000 is what some people save in their lifetime and by pledging to put their nose to the grindstone and send an additional $158 more than they are paying now , this couple is pretty much is ensuring a mortgage free retirement.

Another way to look at this is to weight the tax benefits versus the amount of money that is put in your own pocket. Most people understand that interest on a mortgage loan is tax deductable. ( although our government is discussing ways of changing that) Think again about the percentage of your monthly mortgage payment that is applied to principal payment and the decision gets easier. (Especially at today’s low rates!)
A new thirty year fixed currently has a rate of about 4.875% and 13% is applied to principal.
A new twenty year fixed currently has a rate of about 4.75% and 20% is applied to principal.
A new fifteen year fixed has a rate of about 4.375% and 53% is applied to principal.

Yes you are coming in with a lot more out of pocket each month but it goes in to the same pocket at the end of the day.

Who invented the mortgage and interest rates?

Just for fun I threw in some historical references to mortgages and interest rates. It is funny how our perception of mortgages and what is prudent has changed over time. In my own family I recall an uncle who had one mortgage his entire life and it was a five year fixed!

Here is one answer: The mortgage was invented by the Athenians around 6000 B.C. They actually had columns, named "mortgage columns," built and standing in fields stating who owed money on land and how much.

Read more: Who Invented the Mortgage

Israel: The combination of loans and interest, in Judaism, is a complicated and detailed subject. The biblical Hebrew terms for interest are neshekh (Heb.: נשך), literally meaning a bite, and marbit/tarbit (Heb.: מרבית/תרבית), which specifically refers to the gain by the creditor^[1]; neshekh referred to interest that was charged by deducting it from the loaned money itself, before the loaned money was handed over to the debtor, while marbit/tarbit referred to interest that was charged by adding it to the amount due to be repaid^[2]. The word marbit/tarbit, which referred to the form of interest more familiar in modern times, became ribbit (Heb.: ריבית), in later Hebrew, and hence in modern Hebrew^[1]. Similar to the Arabic word Riba used in the Quran.

France: People like to quote the original French meaning of the term mortgage – a death vow. How on earth did we get from a death vow to acquiring a middle class home in the suburbs? Well it all probably began with the vow to secure debts, after all anybody loaning money wants to be sure the money will be returned. The same principle goes with the mortgage. True, nobody gets executed on defaulting with a mortgage, however, once can lose his or her entire home, and this is not too far from the despair of execution. To be thrown out on the street for defaulting on a loan is not pleasant.