This is a question about mortgage payment timing in Canada
February 21, 2015 3:52 PM   Subscribe

What is the difference between making an overpayment [allowed once per year without penalty] and hanging onto that money until the mortgage is up for renewal?

I have heard some conflicting information on this. Does an additional payment [allowed once per year and up to 10% of the balance go toward the principle + interest, like normal, or does it go towards just the principal?

This is year 3 of a 5 year fixed term [25 year amortization], between 4-5%.

I had assumed that making a payment between 5 year terms would be like another down payment [ie: straight to the juicy principal] and that a larger payment now would be wasteful. After talking with some people, I am no longer so certain.
Is this something that I should be considering? Or just wishful thinking like lots of informal money advice turns out to be? Obviously, if it turns out to be the case, I'd like to know sooner rather than later.

I'd also like to know if this extends to larger than normal payments [allowed up to a certain %, I think], which would be the best idea for the future.

I know that the first advice here will be to invest that money at 5+% or pay off higher interest debts. I have no other big payments, and I feel like choosing investments past an rrsp and mutual fund is something I'd talk to a professional about eventually.
posted by Acari to Work & Money (7 answers total) 1 user marked this as a favorite
Best answer: Unless your mortgage is unusual, making one of those anniversary payments will apply directly to the principal. It won't generally cause your payments to go down immediately, but since you'll actually owe less money and thus be incurring lower interest charges, your following payments will be paying less interest and more principal.

Here's a mortgage calculator that lets you look at the option of doing a one-time pre-payment and what it will do to your mortgage term.
posted by jacquilynne at 4:08 PM on February 21, 2015

Best answer: I'm sure the overpayment goes directly against the principle, not to interest that has not yet accrued. Small overpayments made when a mortgage is young can reduce the term of the mortgage and the total amount of interest paid by a surprising amount.
posted by SemiSalt at 4:46 PM on February 21, 2015

Best answer: Unless something is very odd about your mortgage, the money goes directly on the principal, which means that you will pay less interest over the long run (and pay it off more quickly).

If your normal mortgage payment is 1000 and you are paying 500 to interest and 500 to principal, if you pay 1200, you will put 700 on the prinicpal.

As a general rule, paying it earlier is better than later, so if you can pay a lump sum in January, that's better than a small amount every month, which is better than a lump sum in December.
posted by jeather at 5:01 PM on February 21, 2015

Best answer: The others are correct. I maxed out my options for increasing payment - my mortgage allowed for something like doubling up the payments and doing a 10% lump sum every year - and I had the 25 year amortization paid off in about 7 years. I did triple check with my bank to make sure I wasn't overpaying in a way that would attract any penalties, and that combining those two options was okay.

This was a standard mortgage from RBC in Ontario, FWIW.
posted by clawsoon at 5:24 PM on February 21, 2015

Response by poster: This is great news. I know what to do on monday!
posted by Acari at 5:29 PM on February 21, 2015

From my vantage point weighing the risks vs benefits, the plan that makes the most sense for me is to continue my regular mortgage payments and work towards paying it off early in one lump sum in potentially less time using just a basic index fund or ETF. Financial advisors and high MER mutual funds will eat into the benefit of investing.
posted by waterandrock at 8:01 PM on February 21, 2015

I don't know about other places but one advantage to reducing outgoing interest by paying down your mortgage, versus trying to beat the mortgage rate with incoming interest by investing that money elsewhere, is that the incoming interest is often taxable.

I'm not your financial adviser and all that.
posted by pompomtom at 1:10 AM on February 22, 2015 [1 favorite]

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