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Additional mortgage payment - need help with formula.

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  • 13-10-2009 8:06pm
    #1
    Thoie
    Registered Users Posts: 6,344 ✭✭✭


    I need some help working out the formula to figure out savings of making an additional mortgage payment. I'm going to use "easy" numbers as an example of what I'm talking about, so no screaming about changing mortgage rates or anything :)

    Say I've got 20 years (Y) left on a mortgage, and there's 200,000 (P) outstanding. Current interest rate is 2% (I) and you're paying 1,000 (M) a month.

    If you were to put a random 2,000(X) towards the mortgage now, what's the formula to figure out how much interest you'd save or how many years you're knocking off the term? Assume that there are no penalties or other weirdness associated with a gratuitous payment.


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    #2
    LionelNashe
    Registered Users Posts: 1,961 ✭✭✭LionelNashe


    Thoie wrote: »
    If you were to put a random 2,000(X) towards the mortgage now, what's the formula to figure out how much interest you'd save or how many years you're knocking off the term? Assume that there are no penalties or other weirdness associated with a gratuitous payment.

    I think its the compound interest formula that I vaguely remember from school and that I have just found on Google:

    P(1 + r)^n
    where P is the principle invested, r is the rate and n is the number of years.
    so, the total that you are chopping off the tail end of your mortgage is 2000 X (1 + 0.02)^20 = €2971, of which €2000 is the principle you paid off and €971 is the 20 years interest you didn't have to pay. So, €971 saved and your mortgage shortened by 3 months.

    Intuitively it doesn't seem like much so I could stand corrected.
    Personally, I do have a mortgage that is currently charging interest of 2.05%. Rather than paying anything extra off it, I'll be putting any extra cash into other investments and earning as high a rate as I can. I'm only getting a 2% return (or 4% or 5% when mortgage rates go up) for my money if I use it to reduce the mortgage, whereas there are a lot of ways to save money that offer a better return than that.


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    #3
    Thoie
    Registered Users Posts: 6,344 ✭✭✭Thoie


    I think you're heading along the right lines, but of course it depends on if the mortgage interest is calculated annually.

    Alternative investments are OK, but deposit interest rates are no great shakes at the moment, and some of us are more risk averse than others :)


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