Fortnightly loan payments pay off loan faster?
A question I am often asked is whether fortnightly loan payments will help pay off your home loan faster. The answer is…it depends.
It depends on how your bank or lender calculates your fortnightly loan payments. Yes there are two ways of calculating the payment. One will accelerate the repayment of your home loan, the other won’t.
- Method 1; Your bank or lender takes your normal monthly principal and interest payment, divides it by 2 and you make this payment every fortnight.
- Method two; Your bank or lender takes your normal monthly principal and interest payment, multiplies it by 12 and divides it by 26.
Which method accelerated your loan repayment and which one doesn’t make a difference?
Method 1 is the winner. Why? With this method you make 1 extra months loan repayments in a year because there are 13 x 4 week periods in a year and only 12 calender months in a year.
Using method 2, the total amount you repay in a year is the same regardless of whether you pay fortnightly or monthly.
Example:
Fred and Mary have a $350,000 loan at 5% with principal & interest payments over 30 years. Minimum monthly repayment is $1879. Total payments per year are $1879 x 12 =$22,548. Total amount of payments over 30 years is $676,395.
Method 1-Fortnighly loan payments calculated as $1879/2= $939.50. Amount paid per year is $939.50 x 26 =$24,427.
Method 2-Fortnightly loan payments calculated as ($1879 x 12)/26=$867.2. Amount paid per year is $867.2 x 26 =$22,548 ie same as monthly repayments.
With method 1 you pay an additional $1879/year. The magic is that this extra payment is repayment of the loan principal, not interest.
In the above scenario method 1 will reduce the total amount of repayments to $616,975, saving $59,420 in interest. plus it will reduce the loan term by 4.75 years.
But, what do you do if you want to make fortnightly loan repayments and your lender uses method 2? Simply increase your fortnightly repayments by 8.3% and you will create the same effect. In this example $867.2 x 1.083=$939.5.
Hope this helps to save you some of your hard earned money.
If you are not sure which method your bank or lender is using Contact Us and we will help you find out. It could be a $50,000 decision. https://halogenhomeloans.com.au/contact-us/
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