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Banker's Secret Revealed!

by Jon Richards   

I think it is time someone put a stop to the accelerated mortgage nonsense. This scheme, variously known as the "Banker's Secret" or accelerated mortgage plan or bi-weekly mortgage plan are almost always a very poor deal for the person who decides to go into one of these programs. This is true for at least three reasons.

  1. You don't need to pay for someone's help to make extra payments on your mortgage. Just do it yourself--direct the bank to apply the extra money to your principal.

  2. For tax reasons, you should carefully consider whether you want to pay off your mortgage. If you are paying 10% nominal interest, your effective interest rate is closer to 7% because the interest is deductible from your income tax.

  3. Paying off your house early is only useful if you, for whatever reason, are unable to find an investment paying more than your current mortgage.

If you had a $100,000, 10% mortgage amortized over 360 months with payments of $877.57; you could pay an additional $197.04 per month and pay off that mortgage in only 180 months and save $122,929.17. To the average person this sounds like an amazingly lucrative savings. But we, as mortgage buyers, ought to know enough to see through this silliness.

If we invested that $197.04 in a good quality (no-load) mutual paying 14% per year, at the end of 180 months we would have $119,364.13. Now you sell the mutual fund and pay off you $100,000 loan which now has a balance of only $81,665.29, and you pocket the $37,698.84.

Better yet, don't pay off your house. At the end of 30 years your will have paid for your house and your fund balance will be around $1,082,335.00 (before taxes.)

So clearly, the time value of money makes the early pay-off of your home loan more interesting than is readily apparent to the lay person. But after all these are mathematical arguments. Some people just want to own their home free and clear. If that's what you want to do, at least understand what your are doing and do so with your eyes open. Don't fall for the "Banker's Secret."

 

About the Author:

Jon Richards was the founder of NoteWorthy Newsletter, the major newsletter for buyers and brokers of cash flows on the secondary market. It has been published monthly since October 1989 and is the largest paid subscription newsletter in the industry. Jon was the publisher of the NoteWorthy Newsletter until his death in 2003.

Jon was a licensed real estate broker, long time real estate investor, and an expert in finding, appraising, buying, and brokering discounted notes and mortgages. He was the professor and tenured instructor of Real Estate at the College of Alameda in California.

 
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