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I'm wondering if this is possible and a wise decision.

Let's say I have a house mortgage for $100k. Now, if I were able to save up half of the amount. Should I get another mortgage of $50k and pay off the original $100k with the new $50k plus $50k in savings. This way I could end up having smaller monthly payments.

Is this the best way to lower a mortgage? How often should this be done? Let's say if I were able to save $20k every year. Should I do this repeatedly every year or how does this work? Do banks offer some kind of decreasing monthly payments by paying towards the principle in order to avoid always getting a new mortgage to pay off the previous?

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    Why not just pay more towards the mortgage rather than save it? – Nosjack Sep 27 at 17:53
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    @Nosjack, it will not reduce the monthly payments. – Grasper Sep 27 at 17:58
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    Why do you need smaller payments if you're paying extra? – D Stanley Sep 27 at 18:11
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    Keep in mind that not all mortgage products can be recast, and some institutions do not offer recasting at all. – dwizum Sep 27 at 19:51
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    @DStanley One scenario where I can imagine that making sense is when I have a large one-time amount of money (e.g. from a heritage), but know that my future income will be lower. Using that amount of money to reduce the monthly payments later might be useful. – Paŭlo Ebermann Sep 28 at 6:20
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I think what you are looking for is a reamortization or recasting. Basically, after you make a lump sum or few extra payments you can ask the bank to recalculate your mortgage payments based on the remaining balance keeping everything else the same. This is done for a fee though it should be less than closing costs if you were to refinance. See Investopedia: Re-amortizing your home.

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    It doesn't always incur a fee - I did it a few times with my own mortgage for free. I'm using a European bank though, maybe it's different vs the US. – Ordous Sep 28 at 10:48
  • In the UK I could overpay by up to 10% of the original amount borrowed per year. I was offered the choice of the bank automatically recalculating my payments every year to achieve the same end date, and bringing the end date in. No fee involved. – Martin Bonner supports Monica Sep 30 at 16:32
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Is this the best way to lower a mortgage?

The main financial reason to re-finance is to lower the interest rate (in order to reduce the amount of interest that is paid). There's no point in refinancing just to lower your monthly payment if you're going to pay extra anyways. When you pre-pay (with most mortgages at least), your payments going forward will be the same total amount, but more of the payment will be applied to principal, reducing the amount of interest you pay and paying off the mortgage sooner.

So let's say your monthly payment on your $100k mortgage is $500, and this month $300 is interest and $200 is principal. If you prepay half of the remaining balance, then next month only $150 will be interest, and $350 will go to principal.

Say instead you get the bank to reduce your monthly payment to $250, which would still be $150 in interest (because the interest rate is the same) but only $100 in principal. So you have an "extra" $250 to pay toward the loan. If you pay that extra $250, you've still paid $150 in interest and $350 in principal, so you're in the same spot. Certainly you shouldn't pay the bank a fee to do that if any savings from the loan payment are just going to go back back towards the loan.

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    Why? If you're paying an extra 20k/year why do you need lower payments? – D Stanley Sep 27 at 18:31
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    It won't matter. whether you're paying $10k in payments and $20k extra or $5k in payments and $25k extra you'll be paying the same amount. I'll explain that in the answer shortly. – D Stanley Sep 27 at 18:35
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    @Grasper Not sure I fully understand but if you just need flexibility in cash flow then keep some (or all) of the $50k in cash. Refinancing or recasting won't save you any interest - in cast it will cost you more interest because you'll be dragging out the payments longer. So possible? Yes - wise? No. – D Stanley Sep 27 at 18:41
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    It won't save you any money, but I don't think I'm convincing you of that. – D Stanley Sep 27 at 18:50
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    @Grasper - you're actually better off making the extra payments to the mortgage rather than saving it and paying it off all it once. It will get paid off slightly faster if you overpay monthly like D Stanley suggests, compared to saving it and paying it off as a lump sum. The reason is you reduce your interest owed every time you overpay. If you save the money off to the side, you don't reduce the interest. – TTT Sep 27 at 19:03
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There's actually a few different things to unpack from your question.

First up: is it possible?

Absolutely! That's actually what a home refinance is - you're getting a different mortgage on your house. The new lender repays the remaining principal on the existing loan. The main difference is, you're refinancing a smaller amount - which isn't even an issue (if it helps, think of it this way: you're refinancing your loan, and then afterwards using all the money you've saved up to make principal deposits on your mortgage.)

Second, is it smart to refinance?

That depends. Refinancing a loan isn't cheap - it costs thousands of dollars. Refinancing typically costs around 3% of what you're financing.. So it's not something you do for no reason - typically, you only do it if there's a large difference between the interest rates. If your current mortgage is 6.5% and you're able to go down to 3.5%, you might be able to save a lot of money; if you're only going to save 0.5% or 1%, it's probably not worth it.

Just make sure to run numbers on this on your own - banks have a lot of tricks to try to disguise how much additional money things will cost. For example, I refinanced my house to get a lower interest rate, and regret it. The refinance cost $2,500 and saved me $100/month... except that $100 was mostly due to the loan reverting back to 30 years (instead of 26, since I'd already been making payments for 4 years.)

Will paying off the extra $50k save me money?

The easiest way of thinking about paying back debt is imagining being able to invest money at the same interest rate.

So if you've got a home interest rate of 4%, paying $10,000 towards the principal is the exact same as putting $10,000 in an account guaranteed to earn 4% each year. With the small caveat that you can't easily take that money out of the account in the case of an emergency.

That's a tough question for us to answer. If you've got any other debts, chances are the answer is a solid 'no' - that $50k should be spent paying off the likely higher-rate debts. Would you rather invest in a less conservative avenue? Then maybe your preference should be to take that $50k and invest it.

What if I want to pay down the $50k... but refinancing doesn't make sense?

In that case, you just make additional payments directly to the principal of your home mortgage. Nothing is usually stopping you from paying extra on your mortgage - you could likely even pay it all off now if you wished. To be honest, this is actually the simplest answer - it avoids refinancing cost, and still gets you what you ultimately wanted in your question.

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First mortgages are typically structured such that your monthly payment is constant through the life of the loan. If you pay extra, you essentially trim payments from the end of the loan (instead of reducing payment amount).

If you want a lower payment, you can certainly refinance (get a new mortgage, use it to pay off your existing mortgage). However, in most cases, there are other factors than just your monthly payment at work. Most mortgages will carry some closing costs, in terms of fees paid to the bank and/or your local government. You need to consider if the advantages are worth payment of those fees. Also, in the US, most first mortgages are fixed rate - that means you lock in a rate when you close the loan, and you keep that rate for the life of the loan. So, if rates go up, you may want to avoid refinancing, because doing so would mean you are paying more in interest.

Also- most lenders in the US sell mortgages in fixed terms (typically 10, 15, 20, or 30 years). If you refinance frequently, and don't consider your term carefully, you may end up stretching out your repayment over a longer timeframe and paying more in interest than you realize (for example, if you refinanced every year with a new 30 year mortgage, you're resetting that 30 year schedule over and over!)

To answer your specific questions,

Is this the best way to lower a mortgage?

In the US, if you have a typical fixed rate mortgage, refinancing is the only way to change the monthly payments. Of course, you can always pay more and end up with a shorter term, but if your goal is lower monthly payments, you need to refinance.

How often should this be done?

As often as makes sense for your goals, given the variables mentioned above.

Should I do this repeatedly every year or how does this work?

Probably not! You'd almost certainly lose more in closing costs than you gained in savings by refinancing every single year. And, if rates were climbing, you'd end up significantly worse off by refinancing every year.

Do banks offer some kind of decreasing monthly payments by paying towards the principle in order to avoid always getting a new mortgage to pay off the previous?

No. As mentioned, typical mortgages feature a fixed payment for the life of the loan, which means you're paying a lot more interest at first, and you don't start really biting into principal until later in the loan's life. If you have a wad of cash, you can always pay it towards the principal directly, but that just shortens the effective term of the loan, it doesn't reduce payments. The only way to get a loan with the effect of payments that slowly reduce over time would be to create that scenario artificially yourself - say you have a mortgage with a monthly payment of $1,000. You could certainly start out by paying $2,000 a month for a year, and then $1,900 for a year, and so on - if you specified with your bank that you wanted the extra money applied to principal, you'd effectively shorten the term of the loan and reduce your overall interest payments.

In practice, the most common reason why people refinance a first mortgage in the US is because rates have fallen since they closed their current loan. This is because most people are mostly motivated by the overall cost of the loan (i.e. reducing the interest they pay) more so than by the monthly payment (regardless of how much is interest).

  • How much is the closing cost normally? So there is no way to decrease monthly payments once signed for 30 years? Only shorten the time? – Grasper Sep 27 at 18:12
  • Closing costs can cover lots of line items with your bank or government; it varies significantly. Some banks charge more than others for their portion. And yes, essentially, once you're locked in to a fixed rate first mortgage you can't change the payment amount, but you can shorten the duration by paying more against the loan. – dwizum Sep 27 at 18:49
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In short, yes you can refinance your current mortgage, with the same bank or another bank.

Often this is done only when interest rates have reduced and you would like to take advantage of that. Note that in countries where the mortgage has a rate locked in for only 1-5 years, this will be done basically by default multiple times over the life of the mortgage.

When the mortgage is refinanced, with the same bank or another, you could do this a few ways:

(1) You could use identical payment terms to your expiring mortgage, maybe because you wanted to switch providers or access a new lower interest rate;

(2) (a) You could pay additional money to have the total balance reduced, and use this reduced balance to speed up how fast you will repay the full mortgage, keeping your payments the same;

(2) (b) You could pay additional money to have the total balance reduced, keeping your payment time frame the same, allowing you to reduce your payments made every month; OR

(3) You might ask the bank to loan you more money, if the value of your house has gone up, so you can use the cash for other things. Or, you might ask for the term of the mortgage to be 'reset' at a new 30 years down the road.

Note that if you take out additional money or extend the term of your mortgage, this can be a slippery financial slope. Eventually, you will retire, and if you keep extending your mortgage further in the future, you may still have a balance owing when you no longer have employment income. Think long and hard before you commit yourself to what you are proposing. Lower payments now just means more payments [and thus, more interest], in the future.

In some senses option 2(b) and (3) are similar - in each of these options, you are choosing to have extra cash now (either immediately when refinancing in option 3, or each month with reduced payments under option 2(b)), in exchange for making mortgage payments for longer than you have to.

Whether this makes sense will depend on many factors, especially what you're using the money for today. If you are using that extra cash to fund luxury goods, probably it doesn't make financial sense.

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