When my husband and I bought our first home we started off with a 5 year fixed rate mortgage with an amortization of 25 years. Within our first year when we looked at our mortgage statement we were floored when we discovered that we had spent more than $7000 in interest in our first year!!! We could hardly believe that on such a small mortgage the interest would be so high. And we had a pretty good interest rate at that time, too. Our interest rate was 4.99% when most people were stuck paying at least 6%.
So what did we do?
After seeing how little principal we had paid down and how much of our money had gone to interest, we had all the motivation we needed to start getting serious about paying down our mortgage as quickly as possible. Whenever we could afford to, we scheduled a double up payment or at least put a small amount extra on our payments to pay down the principal and lower our interest. Because the mortgage was fixed, we had limitations on how we could pay the principal down, but we did our best to work within those limitations.
We paid a penalty and took a risk.
By our second year interest rates plunged due to the recession so a friend of ours whom we trusted gave us the good advice to switch our mortgage to a variable rate and pay the penalties for breaking our mortgage term. It was a really tough decision for us because we had no guarantee as to how long the rates would remain low. We also didn’t know if we would be able to recoup the penalty costs, especially if the rates happened to increase again very quickly.
We reaped the rewards.
This is always a chance you will take when switching to a variable rate from a fixed rate, but in our case it definitely resulted in a ton of savings. How? Well, rather than paying $7000 or more in interest every year, we were able to pay less than half of that. Also, because we switched to an open variable rate mortgage, we had no restrictions placed on us as to how we could pay off the principal quicker. So, we took full advantage of this freedom, and whenever possible we put extra money towards paying down the principal.
So, not only did we have more flexibility and freedom with our open variable mortgage, we also saved more than 50% of our interest costs. Better yet, the prime rate dropped again soon after we had made the switch so our interest costs plummeted even more!
In our case the timing was definitely right. The key here is that you can’t always count on this being the case. It is a good idea to get advice from someone you trust and be willing to do some research to find out your options. Make sure you understand what you are getting into before agreeing to sign on the dotted line.
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