Real Estate

A faster pay-off on short-term mortgages

Bay Area bankers offer ways to cut down years on house payments

by Ranjini Raghunath

The moment you sign the mortgage deed on your new home, the clock starts ticking. You start tightening your belt, keeping track of monthly payments and pushing all your extra pennies towards getting the mortgage "monkey" off your roof, so to speak.

But what if your retirement is looming and you want to chop a few years off the mortgage, while saving money at the same time?

One option is to switch from a 30-year loan to a shorter term, especially when interest rates are low, according to Linda Hays, mortgage banker at Bank of the West, Palo Alto.

"That's the safest way to do it," Hays said. "The shorter the term, the lower is the interest rate."

Hays remembered when her grandparents bought a home in Santa Clara in the 1950s. "The interest rate was 5.25 percent and it cost them 2 points. We have been enjoying interest rates at 3 to 4 percent and that is very inexpensive money," she said. "A reduction in interest rates from a 30-year to a 15-year term can save hundreds of thousands of dollars."

But higher savings also mean higher monthly payments.

Switching from a 30-year payment on an $800,000 loan at 5.5 percent, for instance, to a 15-year term at 4.25 percent means paying an extra $1,500 each month, according to Palo Alto mortgage broker Chuck Fuery.

"That's a lot of money. But in terms of interest savings, over the life of the loan, they'll save over half a million dollars," Fuery said.

Fuery, founder of Stanford Property and Finance, has been helping clients with "creative financial solutions" for the past 25 years. One of his suggestions is to make bi-weekly payments instead of monthly payments: splitting the monthly amount in half and paying the interest every other week. This option is more "manageable" because it adds just two extra weeks of payments a year, and "you can still chop four to five years off your 30-year mortgage," Fuery explained.

Some people also choose to refinance their mortgage at a lower interest rate or simply make extra payments on their mortgage whenever they can.

"Anyone can walk in anytime and just decide they are going to make an extra payment. You could say you were going to pay an extra $50 a month, or make an extra principal payment at the end of the year. There's always flexibility," said Diana Stauffer, branch manager at Wells Fargo home mortgage, San Francisco.

Apart from saving money and time, the "peace of mind" that comes with being debt-free adds to the lure of switching out mortgages.

"For older people nearing retirement, it gives them a sense of mental security. ... You don't want a lender coming to your house and saying you are defaulting on your payment, you could lose your house," Fuery said.

Some people also realize that paying off a mortgage costing them 5 percent annually, for instance, is a better use of their money than keeping it dormant in a savings account paying them less than 2 percent annually, according to Fuery.

More people are choosing different mortgage options now, not only to save money but also to increase their wealth, invest in stock, buy annuities or just to have funds on hand, Hays said.

"Recently, we had one of our wealth clients refinance their home and take $2 million out, just because they thought they might need it, and it is cheaper at 3.5 percent than it might be down the road," she said.

Before the market crash, some lenders charged a prepayment penalty for paying off their mortgage faster. Now, however, most lenders don't, as it is considered an "abusive practice," Hays said.

Not everyone chooses to pay off their mortgage faster, however, because they can use the extra money to invest in their "Apple or Google stocks, their 401(k), college funds, real estate or even a second home," she said.

A second reason is the savings on tax deductions on a 30-year mortgage.

"If you have a mortgage at a million dollars or less, you can write off the entire interest amount as tax deductions against your income," Fuery explained.

Switching out a mortgage would work only for those who have a strong financial strategy and have already invested in retirement and other vehicles, Hays pointed out.

"I talk people out of 15-year term a lot because I find out they have things on the horizon, like ailing parents, or young children, or they have a business that goes through cycles. Why would you want to force yourself through a higher payment when you have these variables?" she said.

One would think that the Bay Area, known for its high incomes, is one of the few places where people can afford to pay more on their mortgage payments. "But we also have bigger loan amounts here and higher purchase prices," Stauffer said. "It all kind of balances out in the end."

Freelance writer Ranjini Raghunath can be emailed at ranjini.raghunath@gmail.com.

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