Progress to Date

  • Original Loan Amount: $204,000.00
  • Balance at Beginning of 5-year Goal (1/1/08): $188,983.82 @ 6.00%
  • Balance at Refinance in February 2009: $148,000.00 @ 4.625%
  • Outstanding Balance: $0.00 (PAID IN FULL!!!)
  • Latest Payment Date: April 2011
  • Latest Additional Principal Amount: $17,623.22
  • Amount Ahead of Schedule (since refinance): $121,462
  • Time Ahead of Schedule (since refinance): 7 years 10 months
  • Interest Saved Last Month: $23,972.48
  • Total Interest Saved: $28,435.55 ($1,037.74 on original mortgage; $27,397.81 on current mortgage)
  • Months Remaining in 5-year Goal: 20
  • Average Monthly Principal Needed to Meet Goal: N/A (Goal achieved)
  • Progress List Explained

Sunday, May 4, 2008

Catching Up

I haven't yet posted the Monthly Summary for April because we still haven't closed the books on April. As I mentioned in several previous entries, our April spending was much higher than normal due to several (hopefully) one-time charges, including the tax bill and the cost of car repair. [By the way, we ultimately decided to have the mechanic replace the side mirror, as I wasn't prepared to learn how to do that work myself in such a short amount of time.] The original plan was to skip the extra principal payment for April, resuming the attack on the mortgage in May. However, not long ago I came across this article by "Mortgage Professor" Jack Guttentag which made me realize there might be another way to avoid missing the extra payment in April.

Even though I've taken the time to learn how mortgage amortization works on my own, this article inspired me to look at the mortgage payoff strategy in a new light. It's brief, but I think Guttentag does an excellent job of detailing the important points.

  • First, it's interesting to note that there is no penalty for making a payment a few days after its "due date". There is a built-in grace period of 15 days on my mortgage. Each statement indicates that the due date is the first day of the month (for example, May 1), but also includes a second line which states that a late charge will be assessed to payments received on or after the 16th of the month (the end of the grace period). What the statement doesn't explicitly state is that the effective due date is the 15th of each month.
  • Second, an individual who pays the mortgage bill on the 15th (instead of the first) has given himself/herself "the use of [the monthly payment amount] free of interest for 15 days". This also means that a payment made before the due date (the first of the month) is an interest-free loan to the lender, as the borrower doesn't receive any benefit for making the payment several days early. Unlike the finance charges for credit cards, which accrue on a daily basis, mortgage interest accrues on a monthly basis. A payment on the 2nd is the same as a payment on the 17th, which is the same as a payment on or before the 15th of the following month (made during the grace period).
  • Third, because interest accrues monthly, it's advantageous to make an extra principal payment for the prior month during the grace period whenever possible, rather than delaying and making the payment for the current calendar month. An extra principal payment made on May 10th will have a greater impact on the overall interest if it's applied to the payment due May 1 instead of the one due on June 1, because that extra month of interest savings will compound throughout the remaining mortgage term.
The one caveat is the way the lender applies extra principal payments received after the due date. As Guttentag explains,
Extra payments that are made later in the month might have the same effect, or might not be credited until the following month, depending on the lender. To be credited within the same month, extra payments have to be received before the Nth day of the month, but N varies from one lender to another.
I don't know with certainty what N is for my lender. I'll admit I don't feel like calling customer service and asking for clarification of the policy. I'm going to learn this one through trial and error by studying the next statement they send us. I'm guessing that they will treat extra principal payments the same way as the regular monthly payments, but that is only a guess at this point. Right now, I plan to make the "April" mortgage payment (normally due May 1) by May 10, including an extra principal payment of $2,000. Waiting the extra time will allow both of us to receive another paycheck from our employers so that we have the cash on hand for the extra principal payment. If the lender ends up just crediting the extra principal for May anyway, then this experiment is over.

So if we didn't have the extra cash on hand to make the additional principal payment in April, and plan to make this up by paying during the grace period in May, then aren't we just setting ourselves up to be one month behind going forward? The answer would be yes if we didn't count on having some extra income in the near future. Thankfully, three sources of additional income are looming on the horizon:
  1. The economic stimulus payment of $1,200 should be arriving in May. While I question the wisdom of increasing the national debt to encourage people to spend money they don't have, I certainly won't be sending this money back to the US Treasury. Note to Congress and the President: My wife and I will not be spending one cent of this "stimulus payment" on anything other than reducing our mortgage balance.
  2. My wife expects to earn some extra income over the summer (June and July) which we aren't budgeting for anything else except paying down the mortgage.
  3. We finally put our second car up for sale. I have no idea how quickly it might sell, or how much we'll end up getting for it, but it's nice to know that we'll have an extra chunk of change coming to us in the near future which we can use to catch back up on our payment schedule. Even if it sells for a trivial amount, we'll be able to drop the insurance for that car once it's gone, and we won't need to pay for registration, inspection, and further maintenance in 2008. This will free up money each month that we can use for extra principal payments.
Our short-term goal is to use the three sources of extra income above to get back on a schedule of paying the mortgage by the due date each month. It's nice to know the 15-day grace period exists in times like this, but I don't want to rely on it each and every month. We're already debt-free aside from our mortgage, so I don't want us to feel like we're struggling financially all the time.

For the first time in a long time I've actually created a spending plan (some might call it a detailed budget) for April-July to ensure that we stay on track and don't miss any important payments. If it ends up being helpful, I may extend it beyond July. It's amazing how debt reduction requires nothing more than sticking to a spending plan involving only grade-school arithmetic (addition, subtraction, multiplication, and division).

By the way, at the end of the amortization article there are links to spreadsheets which Guttentag has created to help calculate the effect of extra principal payments on the overall mortgage balance over time. His fixed-rate mortgage calculator is applicable to our loan. I'm pleased to report that my own self-created spreadsheet agrees with his calculations, but mine takes it a step further. I have two amortization schedules laid out side-by side. The left-hand schedule shows the standard mortgage amortization without any extra payments. The right-hand schedule tracks our actual progress, including all the extra payments we've made to date. I then compare the current numbers to the standard schedule to calculate our interest savings over time, and our progress ahead of schedule. [At some point I still hope to make my spreadsheet available for download, but I need to take some time to make it more generic, and able to handle scenarios other than my own.]


jguttentag said...

Interesting project, let me know if you discover anything surprising.
Jack Guttentag

The Executioner said...

Thank you. I appreciate your insight on the amortization process.

SavingDiva said...

Good luck with paying down your mortgage!

I "spent" my rebate check ($600) on my emergency fund.

The Executioner said...

Nice job! I'm sure that will immediately jump-start the economy, just like our elected officials planned.