Periodically, many homeowners will receive a rather sizable amount of extra cash. This may be from a bonus from your employer, a refund on your tax return, a financial gift from a relative or something else altogether.
While there are many things that you could do with your windfall, you may be wondering if paying down your mortgage balance is a wise idea. Before you make your decision about how to spend your money, consider what impact your lump sum payment will have on your mortgage.
Reduction in Principal Balance
The most obvious impact a lump sum payment will have on your mortgage is an immediate reduction in your outstanding principal balance. Your regular monthly payments will be applied to both interest and principal, but your lump sum payment will be entirely applied to principal. Therefore, you can expect to see a rather sizable reduction in the outstanding balance, and this will have a direct and positive impact on your home equity.
More Effective Loan Payments
Your required monthly mortgage payments will not be lowered when you make a lump sum payment on your mortgage, and you will still be required to pay the same amount to your lender going forward. However, your interest charges for each month will be adjusted. Your interest will be calculated based on the current loan balance each month. A reduction in outstanding balance lowers the interest charges. This essentially makes your future payments more effective at debt reduction and reduces the amount of interest you will pay over the life of your loan.
A Change to the Final Loan Payment Date
Because each of your loan payments going forward will be more heavily weighted on principal reduction than on interest charges, the fact is that your final loan payment date can be accelerated. Depending on the amount of the lump sum payment that you make toward your mortgage, this may be an acceleration of a single month, several months or even several years in some cases.
Making a lump sum payment on your mortgage can have many positive effects for you. However, this is not the only option available when deciding how to spend or invest your windfall. Compare these benefits against the benefits of other options available to determine your best course of action. You may also speak with a mortgage professional for personal guidance and assistance.
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About the Author:
Babak Moghaddam graduated from University of Southern California in 1985. He entered the mortgage industry as a compliance auditor at the Bank of New York in 1986 and completed his masters in Business Administration two years later. After seventeen years in the traditional mortgage banking world Babak finally transformed this vision into his own practice in 2002 when he formed Charter Pacific Lending Corp, a mortgage company that has provided over $900 Million in residential real estate loans throughout Southern California. Babak and his team do things a little differently than other mortgage providers. They work as financial advisors, because they have come to realize that a mortgage is a very powerful financial tool. And just like any other financial tool, it should be managed as part of the overall financial management plan to reach every home owner’s long and short-term financial goals much faster. You can contact Babak for a free consultation and strategy session at (800) 322-1217 X103.