Paying off a mortgage early offers potentially thousands of dollars of interest savings and eliminates your monthly housing payment. It can also grant you peace of mind — your home will be 100% yours and can serve as a tappable equity source.
But how should you go about paying off your mortgage faster? You can reach the finish line early by refinancing to a shorter term, making extra payments, applying cash windfalls to your balance and more.
Here are four strategies to consider. Plus, learn the pros and cons of paying down a mortgage early, such as prepayment penalties and the opportunity cost of not investing.
How to pay off your mortgage faster
If you decide to pay off your mortgage early, there are multiple ways to do it. To illustrate each method in action, consider the following example: Say you have a $400,000 mortgage with a 7.04% APR, and you’re due to pay $561,907 in interest over a 30-year term.
| Strategy | Repayment timeline | Interest savings (versus 30-year term) |
|---|---|---|
1. Refinance to a shorter term (15 years) | 15 years | $283,091 |
2. Apply cash windfalls ($3,000 annually) to your principal balance | 23 years, 2 months | $150,121 |
3. Make biweekly payments | 23 years, 8 months | $139,573 |
4. Pay ($200) more than your monthly payment | 2ndfalls ($3,000 annually) to y4 years, 3 months | $127,836 |
1. Refinance to a shorter term
Refinancing your mortgage to a shorter term involves replacing your existing loan with a new one and paying more per month. The new mortgage would come with closing costs (about 2% to 6% of the loan amount) and a new APR, so it’s critical to calculate your break-even point — that is, how long it will take for your refinancing savings to trump the costs.
“Generally, refinancing makes sense when you can achieve a lower interest rate on the new loan than the existing loan,” said Thomas J. Brock, a CPA and chartered financial analyst. “It makes even more sense when the new loan term is shorter than or equal to the existing loan term… Achieving both these loan modifications guarantees a lower long-term cost of borrowing.”
With mortgage refinancing interest rates hovering above 7% in November 2023, it’s unlikely that you could score a decreased APR in the near future. Still, as long as refinancing won’t stick you with a higher APR, switching to a shorter term at least minimizes the accrual of interest.
Tip: Using a mortgage refinancing calculator can help you determine the biggest opportunity for savings in your situation.
2. Apply cash windfalls to your principal balance
The average American’s tax refund for the 2022 filing year was $3,039, according to the IRS. Over the calendar year, you might also receive a bonus from work. You could even be the recipient of an inheritance.
Apply such lump sums to your mortgage principal to shave time and interest off your loan. Using our example above, of a $400,000 mortgage with a 7.04% APR, applying a $3,000 windfall to your loan annually would trim nearly seven years off a 30-year term.
Warning: If you don’t specify that you want to pay down the principal, the lender may apply your funds to your upcoming loan payments, which may include pre-scheduled interest charges. This will negate your interest savings, so make sure you choose to apply the payment to your principal only.
3. Make biweekly payments
Instead of making a single payment each month, you can pay half of your monthly mortgage payment every two weeks. In doing so, you’ll end up making one extra payment per year.
In our example above, of a $400,000 mortgage with a 7.04% APR, making biweekly payments would take more than six years off a 30-year repayment term.
Lenders may allow you to opt into this biweekly payment schedule, but ask about enrollment fees, if applicable, and account for them in your estimated savings.
4. Pay more than your monthly payment
Figure out the amount you want to pay and then request to have it added to your principal balance. Pay more each month, once per year or whenever you have extra funds to contribute. But, again, be sure that your lender applies the payments to your principal balance.
Should you pay off your mortgage early?
You can pay off your mortgage before the end of your loan agreement, whether you’d like to make extra payments over time or pay off the entire amount at once. However, if you decide to take the latter, lump-sum approach, prepayment penalties may apply.
On the upside, federal law prohibits lenders from imposing prepayment penalties on all nonqualified mortgages (which lenders offer without adhering to Dodd-Frank Act consumer protections, such as confirming your affordability of repayment). The law also prevents these penalties on several government-backed loans (such as FHA loans, VA loans and USDA loans), plus qualified mortgages 36 months after they originated. If you want to pay off a qualified mortgage before the 36-month mark, the penalties are limited to:
- 3% of the outstanding balance in the first year
- 2% of the outstanding balance in the second year
- 1% of the outstanding balance in the third year
What’s a qualified mortgage? It’s a home loan from a financial institution that took the extra step to ensure you could afford repayment when you initially borrowed.
Despite the possibility of being charged a prepayment penalty, you can still pay off your mortgage any time you’d like. You’ll just need to weigh the pros and cons to decide if it’s worth it.
Benefits of paying off your mortgage early
Paying off your mortgage early can offer various advantages. Here are a few to consider.
No more mortgage payments
A monthly mortgage or rent payment is typically the largest bill you have to pay each month. Once your mortgage is paid off, you remove that expense from your monthly budget. As a result, you should experience a boost in your monthly disposable income, which can cover living expenses in retirement, travel and more.
Save on interest
The earlier you pay off your mortgage, the more money you’ll save. But how much?
Say again that you have a $400,000, 30-year mortgage with a 7.04% APR, costing $561,907 in overall interest. Now suppose you increase your monthly payment amount by $439 to pay off the loan in 20 years: You’d save approximately $215,358 in interest.
If you don’t want to pay hundreds more per month towards your mortgage, smaller monthly payments can also make an impact. Continuing with the example above, an extra payment of just $50 per month would save you about $39,900 in interest on a 30-year loan. It’d also shave 21 months off your loan term.
Use mortgage repayment calculator to estimate savings for your loan amount, duration and APR.
Peace of mind
Owning a property free and clear means you’ll always have a home and won’t have to worry about a housing bill, aside from property taxes and home insurance. It’s also an asset you can borrow against if you ever need a sizable amount of funds. For example, loan options include a home equity loan or line of credit and a reverse mortgage once you’re at least 62.
Disadvantages of paying off your mortgage early
Paying your mortgage off early also comes with potential drawbacks.
You might save more by paying down high-interest debt
Mortgages often come with relatively low interest rates in comparison to unsecured credit products like credit cards and personal loans.
For example, credit cards had an average interest rate of 21.19%, and two-year personal loan rates averaged 12.17%, according to the latest Federal Reserve data. Meanwhile, the average 30-year fixed rate on a mortgage sat at 7.50% on Nov. 9, 2023, according to Freddie Mac. And many homeowners have mortgages with rates much lower than that.
Takeaway: If you have other debts with higher interest rates, it can be cost-effective to pay those down first (this is also known as the debt avalanche method).
Opportunity cost of not investing
If you funnel money towards paying down your mortgage more quickly, this is money that you won’t invest in the stock market or save for retirement. You might earn more elsewhere than you can save by paying off your mortgage. For example, individual retirement accounts (IRAs) with aggressive, stock-heavy allocations have a long-term historical average annual return rate of about 9%.
If you invest $439 into a traditional IRA each month from the age of 35 onward and earn a 9% average annual rate of return, you’ll have an estimated $858,878 by the time you turn 66. In comparison, a $439 extra payment on the $400,000 mortgage in the example above only offered $215,358 in savings.
Return rates will vary and investments carry more risk, but they also hold the potential for higher gains.
Possible prepayment penalty
Paying off your mortgage early in full within the first couple of years can trigger a prepayment penalty equal to up to 3% of your outstanding balance. If your loan amount is $300,000, that could mean a fee of up to $9,000. Be sure to factor applicable penalties into your potential savings.
Potential loss of a mortgage interest tax deduction
If you itemize deductions on your federal taxes, you might take the mortgage interest deduction. As a result, your mortgage payments may be helping to offset some of your income.
Paying off your mortgage balance will eliminate those savings and should be considered when calculating your net potential gain. When in doubt, consult your certified tax advisor.
Frequently asked questions (FAQs)
Paying off your mortgage early won’t have a significant impact on your credit score. Your mortgage account’s status will be updated to “closed and in good standing,” but that doesn’t cause a credit score boost. The main factors that impact your credit scores are making on-time payments and keeping your credit utilization low.
Lenders can charge a prepayment penalty if you have a qualified mortgage and pay it off in full within the first three years. However, prepayment penalties are prohibited after that period and on other types of mortgages.
Calculate the potential savings of your desired pay-off strategy. Be sure to include ancillary costs like lost tax deductions and prepayment penalties. Then, consider the potential savings and returns of investing the same money elsewhere.
Weigh the pros and cons of various options to find the best strategy for your situation. A certified financial professional can help you make the best possible decision.
Mortgages without prepayment penalties (like nonqualified mortgages and government-backed loans) are better suited for an early payoff. For qualified mortgages, you’re better off zeroing your balance at least three years after borrowing, as you’d no longer face a prepayment penalty at that point.
