Paying down your mortgage
A recent newspaper article, “Finding better ways to pay down your mortgage” caught my eye. The article was probably written by a Realtor because it states, “Your Realtor will be able to explain the many financial options available before you buy”. If the writer wanted to plug a profession, it should have been Mortgage Brokers not Realtors. Realtors specialize in the logistics of selling houses. Mortgage Brokers specialize in all aspects of mortgages!
A vague and potentially confusing explanation in the article, for a novice home buyer with a mortgage, is the writer states twice, that in most cases/most lump sum payments or extra money is applied directly against the principal, implying that there are some normal instances when the extra money or lump sum goes towards the interest. The wording should have been,.. IN ALL CASES EXCEPT TWO and then name or explain them.
An interest charge is a cost to a borrower for the use of other peoples money. By definition, the very first penny in excess of the interest owing at the end of a period (at the end of the month, week or biweekly period) is applied towards paying down the principal. Nobody pays down interest in advance as the writer’s sloppy explanation implies. This is a common misconception that I have heard many times over the past 25 years. The two exceptions of extra money going towards interest is if a mortgage is in a negative amortization mode, which occurs when your payment is less than the interest that is due for that period, or if the borrower is paying the Interest Rate Differential, IRD to prematurely exit the term. Both are unique situations and not referred to as paying down your mortgage. Using “extra money”, “pay down” and “lump sum payments” interchangeably is confusing to a novice. This is analogous to using the expressions, “climate change”, global warming” and “pollution” all to mean the same thing, .. which they are not! Chose your experts carefully!!!