That was the opening line of an e-mail I received last week from Citi Mortgage. I’d heard of a bi-weekly payment plan before but never been offered one by my mortgage provider. This type of payment plan essentially drafts half your mortgage payment every 14 days giving you 26 payments a year, or 13 full payments per year instead of 12.
With a typical mortgage, you only have one payment a month and you’ll make the same payment every month for 30 years. If you were to follow this schedule, you would pay a ton of interest since the loan is amortized over 30 years. But since the average length of home ownership is only around seven years, most people never make it that far.
A Good Deal?
A bi-weekly mortgage will always have the same payments like a traditional plan, but the length of your loan will be reduced and you’ll pay less in interest. Sounds like a pretty good deal, doesn’t it? With this specific plan, the one caveat is: “a $3.00 transaction fee is collected with each draft.” $3 per draft is a lot of money so let’s see if this is still a good idea.
Since I just refinanced, let’s take a look at my 7/1 adjustable rate mortgage of $220,000 at 3.125%. For simplicity, we’ll assume it’s fixed for 30 years(even though I’m a big fan of ARM’s!) with a start date of Nov. 2, 2012. Using bankrate’s bi-weekly mortgage calculator, we can see how my payments would break down:
Switching to bi-weekly payments would save me $17,000 in interest and I would pay off the loan four years sooner. I think the former is the more important of the two numbers though. In both cases, my principal paid will be the same amount but I can reduce the length of the loan by four years with a bi-weekly payment plan.
In order to realize the $17,000 in interest savings though, you’d have to pay off the entire balance of your loan over 26 years. Your savings would be much less if you moved after 5 or 10 years and paid off your loan.
How Much Does $3 Really Cost You?
I was pretty surprised to get an e-mail from Citi telling me how I could lower my total interest. It seemed a bit ironic that they were telling me how to pay them less, but alas, there was the hidden fee(not very hidden at all if you ask me).
The e-mail stated that there would be 26 drafts a year, and with each draft, a $3 transaction fee would be collected. Over the life of a bi-weekly payment plan, I would have to make 26 years and 9 weeks of payments or a total of 681 payments to pay off the loan. At $3 a pop, that’s $2,043 in fees over the life of the loan, WOW! My $17,000 savings is now $15,000 because of all these damn fees.
Do It Yourself!
I’m a big do it yourself-er(just check out my identity theft plan) and in this case you can easily set up a bi-weekly payment plan yourself that will allow you to save over $2,000 in fees. The first method involves adding principal to your payment every month. You can use almost any mortgage calculator to figure out what your interest savings will be over the life of your loan and then decide how much you want to add.
If you want to mimic a bi-weekly payment plan, all you need to do is take your monthly payment amount and divide it by 12. Add this much of principal to each monthly payment and your results will be nearly identical to a bi-weekly payment plan. Talk with your mortgage service provider though and make sure they are aware that your extra payments are going towards principal. You should be able to designate this with them, otherwise they might mistakenly apply it to your next month’s mortgage payment.
Better Than a Bi-Weekly Plan
My preferred option though is to just add one lump sum payment at the end of every year. All you need to do is send in an extra month’s payment(designated to principal) and this will produce almost identical results to paying bi-weekly with less hassle.
I don’t plan on owning my condo for more than 5-10 years so a bi-weekly payment plan doesn’t interest me that much; I’d rather save up for my next real estate purchase. But these types of plans can save some people a lot of money, just make sure you do it yourself. That way you’ll save thousands in interest and fees.
Readers, do you make extra principal payments or have you enrolled in a bi-weekly payment plan? Is it common for a mortgage provider to charge $3 in fees every payment?!
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-Harry @ PF Pro