This is because, on a fixed-rate mortgage, the payments remain the same regardless of how much you pay on top of the regular payments. On an adjustable rate mortgage (ARM), the payments may decrease slightly due to a decrease in the interest rate, but the savings are usually small when compared to the amount paid in extra principal.
At Mortgage Depot, we often hear from customers who are trying to save money by making additional payments above their required monthly payment. While we applaud their efforts, we must also caution them that this strategy nearly always fails and could actually end up costing them more.
Making additional payments on a fixed-rate mortgage will not result in a decrease in your payment. The reason for this is simple: the actual interest rate you are paying is determined by the original loan terms and cannot be changed. Therefore, if you make extra payments today, the amount of principal that you’re paying down won’t reduce your payment on the next month.
On an adjustable rate mortgage, paying extra today may allow you to benefit from a slight decrease in your payment on the next adjustment or after the loan amortizes. This occurs because the interest rate adjusts every year according to the index and margin. When the rate adjusts, the payment amount also adjusts and can be lower than it was in the previous period if the interest rate has decreased. However, the amount of the decrease is usually very small compared to the amount of extra principal you have paid.
In some cases, paying extra in principal can actually cost you more than you would have spent if you had just made the regular payments. The main reason for this is that you may be sacrificing other opportunities when you choose to pay down your mortgage instead of investing the money. If you were able to invest the money in a vehicle that earned a greater return than your loan interest rate, then you would have been better off investing the money rather than putting it towards the mortgage.
Paying additional amount above the monthly payments can help you to reduce the loan tenure; however, it may not be the most effective way to save money in the long run. We recommend that customers consult with a financial professional beforehand to determine which payment strategy will provide them with the greatest return. It's important to remember that while paying more on your mortgage now won’t directly lead to lower payments in the future, there are still numerous strategies that you can use to save money over the life of the loan.
Mortgage Depot suggests that customers should consult a financial advisor before deciding to make additional payments on their mortgage. Paying extra on a fixed-rate mortgage will not generally result in a decrease in payments for the next period, though it may reduce the loan tenure. With an adjustable rate mortgage, the potential savings of extra payments are small and could be outweighed by other investment opportunities. Customers should plan ahead and compare different strategies to determine which route will provide them with the most benefit over the life of the loan.
This article was contributed on Nov 17, 2023