We can help you master your mortgage in four steps.
You’ve already set your new home budget, now it’s time to build your mortgage plan.
Buy a home you can afford
Before you even sign the papers to your new casa, crunch the numbers. How much house can you actually afford (read: not how much are you pre-approved to buy!).
And we mean crunch all of the numbers—like credit card debt, college loans, retirement savings plan, monthly budget, etc. Are you left with enough for a solid 20 percent down-payment and enough cash flow to cover your mortgage? Do you have enough left over in your cash reserve to cover a few months of mortgage payments just in case disaster strikes?
If you answered yes to all of those questions, sign away, Mr. Hancock! Ready for 4 steps to mastering your mortgage?
1) Put extra cash toward your mortgage.
Have a good month? Awesome! Get a large tax return? Great! Ready to use that cash to take a bite out of your big debts, like your mortgage? Not so fast. Before you pull out your checkbook mobile pay, check a few things first.
Saving and investing is all about balance. Yes, young grasshopper, you should pay off your mortgage with extra dough lying around. But only after you’ve taken care of high interest credit card debt and loans, and you have a bigger plan for your cash flow and personal finance (debt management, college savings, retirement, etc.).
All set with your budget and debt payment plan? Awesome. You’re almost ready to throw down more cash at your mortgage. Just be sure you don’t have any prepayment penalties. And, consider what your interest rate is compared to the current mortgage rates—could you make more if you invested that excess cash in the market?
2) Make a plan to pay off your mortgage aggressively.
Sure, it’s great to throw some extra cash at your mortgage every now and then when you’re cash flow is super green. If you can, we’re all for planning to be aggressive, right from the get-go. That way, you’re buying a home you know you can afford—comfortably, too—and you’ll be chipping away at your debt faster, helping you pay less in interest over time.
All good, right? So, what does that mean for you?
For the sake of an example, let’s say your mortgage—after your 20 percent down-payment—is $200,000 and you have a 5 percent interest rate. To pay off your mortgage in five years (60 payments), use the following excel formula:
=PMT (interest rate/number of payments per year, total number of payments, outstanding balance)
Using the formula for this example:
To pay off your $200,000 mortgage in five years, your monthly mortgage payment would be $3,774.
Another option is to make an extra house payment each quarter. Let’s say your $200,000 mortgage has a 5 percent interest rate and you have a 30-year mortgage. If you make one additional mortgage payment each quarter, you will save approximately $35,000 in interest and pay off your loan approximately 5 years early. Or, you can always divide an extra payment up over the course of your payments throughout the year. That option will save you less in interest, but will still help you eat away at your mortgage faster.
3) Make sure escrow is right for you. An escrow service automatically sets aside money for property taxes and insurance that the mortgage lender will pay on your behalf. Your mortgage lender may offer or insist on an escrow service for your loan. They tend to do that because escrow increases their security that you won’t default on these expenses.
Escrow can be a great forced-budgeting tool that ensures you’re putting away enough to cover your expenses. And, it helps keep you from having to write these big-@$$ checks twice a year.
However, the downside is that escrow accounts typically don’t pay interest on funds that you could otherwise earn in other accounts. And, once you set aside the money in escrow, you can no longer access it.
So, is it worth if for you? The choice is yours!
4) Mortgage payments can be forced savings (emphasis on can)
Hey, we’re always fans of saving money. But, just know that relying on your mortgage as a primary investment contributed to the 2008 housing crisis. Yes, your aggressive monthly mortgage payments help you pay off your house sooner (less debt = 🙌). But, don’t assume that your home value will increase each year.
One of the factors that contributed to the 2008 housing crisis was that people bought homes they couldn’t afford, but since they assumed their home would increase in each year, they’d just refinance down the road with an assumed higher real estate value. When the home values didn’t go up as much as expected, people were left underwater on their mortgages, and ultimately, lost their homes. Many people’s largest asset is their home. But! We advise you to think of your home as a place to live, not a prized asset. In other words: don’t bank on those “savings” paying out.
Now you’ve sufficiently mastered your mortgage! Remember: financial planning doesn’t have to be hard. #YouGotThis. We can help.
Great news! The Pocketnest app is now available for iOS! Download Pocketnest and get your finances in order—in just 10 minutes a month! No jargony finance-speak, pricey fees or in-person meetings required. Download now!