You don't have to calculate a specific monthly amount to pay back your loan faster. Even a modest lump sum principal payment can accelerate your loan by months. But a disciplined approach to extra payments each month can shave years off the life of your loan. You only pay interest on the portion of your loan that you haven't paid yet, so a smaller principal balance reduces the amount of money you pay in interest. The result is that more of your payment goes against principal and the effect snowballs over time.
Review your mortgage statement to determine what your exact interest rate and principal are. The former may be labeled "annual percentage rate" or "APR," and the latter may be called "principal" or "loan balance." Your loan balance is whatever you borrowed -- the original principal -- minus whatever you've already paid back.
Navigate to an online mortgage calculator and enter your loan balance, interest rate and remaining years to pay-off. For example, assume a brand new loan for $250,000 at interest of 4.5 percent, a term of 30 years and a start date of November 7, 2010. The Interest.com calculator displays a monthly payment of $1,266.71 and a pay-off date of November 7, 2040. This should match the contractual amounts on your current payment.
Decide how much sooner you want your loan to go away, subtract that number of years from your current term and enter the shorter term into the calculator to learn how much more you would have to pay each month to pay if off by that date. Continuing with the example, replace the 30-year term with 25 years, for a slightly higher payment of $1,389.58 and a pay-off date of November 7, 2035.
Subtract the contractual payment from the early pay-off payment to learn how much more you would pay each month to achieve the early pay-off. For example, $1,389.58 minus $1,266.71 equals $122.88 added to each month's payment.
Multiply the number of months removed from the life of your loan by the original contractual payment to learn how much interest you can save with your early pay-off. For example, $1,266.71 times 60 months (five years) equals a whopping $76,000 saved on interest over the life of the loan.
Compare the result with what you feel you can actually afford. Is it too much to come up with each month or could you afford more?
Enter the amount of extra money you feel you can afford into the "extra payment" section of the calculator and click "Calculate." For example, if the homeowner feels more comfortable with $100 a month extra, he will yield a new pay-off date of September 7, 2036 and a savings of $62,069.
Calculate the impact of a lump-sum payment by entering the amount you have available into the one-time payment box on the loan calculator. For example, you can determine what would happen if the hypothetical homeowner just received a bequest of $10,000 from a generous relative and applies it to her loan balance. In this case, the lump sum payment would yield a pay-off date of July 8, 2038 and an interest savings of $35,468 -- almost four times the amount of the original bequest.
- Make sure you earmark extra payments in a way that will ensure your lender applies the money to the principal, rather than some other portion of the loan, such as tax or insurance escrow. Some lenders have a space on the payment coupon for disposition of extra money and others may require that principal payments be made with a separate check.
Billie Jo Jannen is a politics and lifestyle columnist in rural San Diego County and a senior copy editor for Demand Media. Her writing and editing career spans 23 years, and she specializes in border and environmental affairs. Jannen's eclectic education includes engineering and horticulture, and she represents the Rural Economic Action League in regional economic development planning.