The Mortgage Hack That Can Save You Tens of Thousands of Dollars

Nadav ShemerByNadav ShemerMay. 12, 2019
Celebrate your bi-monthly savings
When it comes to mortgages, lenders generally let you choose the repayment term but not the frequency of payments. Most mortgage lenders offer a choice of 15-year, 20-year, or 30-year loan terms, and some even offer 10 years. But almost all lenders lock their borrowers into monthly payments without presenting alternative options.

The alternative to monthly payments is bi-weekly payments for half the amount—and it can save you tens of thousands of dollars. 

How Bi-Weekly Payments Save You Money

When you take out a mortgage, you pay your lender principal plus interest (and fees). If you take out a $200,000 loan, this means you owe your lender $200,000 in principal at the beginning. Each payment comprises a principal and interest component. The principal component is deducted from your balance until your balance eventually reaches zero and you become the sole owner of your home. 

APR is the annual percentage rate you pay for your mortgage, comprising interest and some fees. 

The confusing thing is that interest accrues daily, not yearly. Interest is charged on whatever your remaining balance is at the time. 

When you take out a 30-year mortgage, you are given a schedule of 360 monthly payments for the exact same amount every month. The first monthly payment comprises mostly interest and only a little bit of principal. With each payment, your loan balance shrinks and, on the subsequent payment, the principal component gets a little bit bigger and the interest component a little bit smaller. By your final payment, you are paying mostly principal and very little interest.

What does all this have to do with bi-weekly payments? As you know, the year is divided into 12 months or 52 weeks (plus 1 extra day, or 2 in leap years, but let’s not go there). Divide 52 weeks into bi-weekly payments and you get 26 payments. Divide 26 in half (because bi-weekly payments are for half the amount of monthly payments) and you get 13.

With bi-weekly payments, you effectively make 13 payments instead of 12—and this makes a big difference. By making the equivalent of 13 monthly payments each year, you pay off your balance much quicker. As we discussed earlier, the lower your balance in a given month, the less interest you pay on that balance. You might not notice the difference each month but, to use the example of a 30-year, $200,000 loan with 5% interest, you would save more than $41,000 across the duration of the loan.

Monthly vs. Bi-Weekly Payments


Monthly Payments
Bi-Weekly Payments

Payment

$1,288.37

$644.19

Time to Pay Off Loan

30 years

25 years, 3 months

Total Interest paid

$223,814

$182,586

Source: MortgageCalculator.org

Getting a Bi-Weekly Payment from Your Lender: Pros & Cons

The most convenient way of getting bi-weekly payments is by asking your lender. Some, but not all lenders, allow borrowers to make bi-weekly payments. If your lender agrees to this option, it will set up a schedule for bi-weekly payments instead of monthly payments. 

Getting a bi-weekly payment from your lender is certainly the simplest way, but it has a couple of downsides. First, you may be putting yourself under undue pressure by committing yourself to making payments every 2 weeks for a period of 15 to 25 years. You don’t know what the future will bring. If you fail to make a payment at any time, you could face penalties. Also, your lender may charge you additional fees for switching to bi-weekly payments, cutting into your savings.

Before closure, your lender may even offer you a bi-weekly mortgage without you even having to ask. We recommend doing your own calculations and thinking very carefully about the risks before agreeing to this option.

The Alternative: DIY Your Bi-Weekly Payment 

There are ways to get a bi-weekly payment without going through your lender. One option is to use a third-party service, such as a payment processing company, to pay your lender, but this is unnecessary and it comes with significant downsides. For starters, these companies charge high setup fees and monthly fees. Some companies have even been known to take payments from customers every 2 weeks, but to hold on to the money and forward the payments to the customer’s lender each month. When this happens, the customer loses out on all the benefits of bi-weekly payments while incurring extra costs. 

The best alternative to making bi-weekly payments through your lender is to do it yourself. There are a few variations on DIY bi-weekly payments. Because of the complexities of mortgage calculations, these options aren’t all equal to one another. However, they do each achieve more or less the same goal of a 13th monthly payment.

  • Divide your monthly mortgage payment by 12, then add that amount to your monthly auto-pay. This will amount to the equivalent of one extra payment every 12 months—your 13th monthly payment.

  • Save money throughout the year or use a year-end bonus from work to make one extra payment. Again, this would constitute your 13th payment and lop some time off the end of your term.

  • Set aside money each month and add it to your monthly payment. This requires a bit of work and it won’t necessarily amount to the equivalent of a 13th payment (unless you’re very good at saving the exact right amount every month), but it will still reduce your total interest payment in the long run.

Bi-Weekly Payment Options: Pros & Cons


Pros
Cons
Verdict

Directly through lender

Convenient

Potential fees, risk of missed payments

Proceed with caution (and check that the numbers add up)

Third-party service

Convenient

High fees, unnecessary, and not very reliable

Avoid

Do It Yourself

No fees, no risk

You do all the work and calculations

Best option—if you don’t mind the extra work

Winner: Do-It Yourself Bi-Weekly Payments

Getting your lender to collect bi-weekly payments can pay off in the long run, but it also carries risks. For the only truly risk-free bi-weekly payment, you’ll need to do it yourself.

You may have observed that the DIY option is basically just a spin on prepayments. Prepaying your mortgage means paying off some of your loan before it’s due. If you can afford it, structuring your prepayments in terms of bi-weekly payments or a 13th monthly payment makes more sense than just randomly making payments whenever the mood catches.

Before going down the DIY prepayment route, a couple of bits of advice. After the subprime mortgage crisis of 2008, most lenders stopped charging prepayment penalties, but you should still double check to make sure you won’t be hit with any fines. Also, when making a payment outside of your mortgage schedule, notify your lender that you want it deducted from your principal. If you don’t tell your lender, it might mark it as an interest payment—and that wouldn’t benefit you.

Nadav ShemerByNadav ShemerDec. 25, 2018
Nadav Shemer specializes in business, tech, and energy, with a background in financial journalism, hi-tech and startups. He enjoys writing about the latest innovations in financial services and products.