Should you get a thirty year or a fifteen year loan?
There have been many questions recently on the BiggerPockets Forums about whether to get a thirty year or a fifteen year loan and why.
I always recommend investors, especially when just starting out, get a thirty year mortgage when financing through a traditional lender. The longer loan period gives more cash flow and cash flow, essential at all times, is especially vital when you’re new to the business. No matter how much money you have saved or how much profit you make off your properties, this is a very expensive business and it doesn’t take long to go through any amount of money you have.
And, with a longer term loan, you always have the option to pay it off sooner. Ten years down the road, accelerated payoff should be much easier to consider than it is in year one. In the beginning, keep all the money you can to purchase as many performing properties as possible; pay down debt later when you have built your kingdom!
Any time you recognize that you have excess cash just sitting around doing nothing, you can start paying off mortgages. Here’s how.
Easy steps to accelerate your loan payoff:
- Pull up your online amortization schedule.
- Write a check for the full amount of your current payment.
- With that payment, send an additional check for as many additional principal payments as you plan to pay. Attach to that second check a note saying something like: “Enclosed please find a check for payment number six (for this example, we’ll say your next payment is payment number six). Also, an additional check for the principal amount for payments number 7, 8, 9, and 10.”
- The next month, you will send in payment number eleven.
You cannot skip payments for the next 4 months!
You may never skip a payment. You must make another full payment the next month (month seven in our example), but it will now be payment number eleven. You just saved all the interest on payments 7, 8, 9, and 10.
Real life example:
When our youngest son and his bride purchased their first home, naturally we wanted to get them something wonderful for the momentous occasion. They had been married just over a year and were moving from their apartment which was well furnished. Turns out, there was really nothing new that they needed for their condo. So, we did something which turned out to also be a great life lesson for them. We paid their first year’s mortgage.
As you can understand from the explanation above, it was very easy and relatively inexpensive to do. The first year, after all, has the least amount of principal payment but is very high in interest. My son made the first full payment, we made the next eleven by simply adding up the principal amounts and sending in a second check along with his check for payment number one. We attached a letter to the second check which stated basically, “this check is for the principal payments number 2, 3, 4, 5, 6, 7, 8, 9, 10, 11 and 12. My son checked the online amortization schedule before making his next scheduled payment to confirm that all of our payments had been applied as directed. They had been, and he now owed the full amount for payment number thirteen. (The updated amortization schedule may show this next payment as the new number “two” payment rather than payment number “thirteen.” The amount left owing is what you want to confirm rather than the number of the next payment.) The payments had been applied correctly, meaning our son and his wife had just saved all of the interest they would have paid during year number one.
Easy! And exciting to watch the basically painless accelerated pay down.
Do you need to enclose the letter of explanation?
I’ve asked lenders if the letter that we send with our additional principal payments is necessary. It is. Without a letter of direction, the extra funds will simply be applied by them to another payment which will include the interest amount. You want to be sure that the entire amount is applied to principal ONLY, so best to write a letter everytime you send in extra payments explaining to the bank that the extra funds are to be applied only to principal. The whole point is not only to pay down your mortgage faster, but to pay it down cheaper, avoiding any unnecessary interest payments.
Note: when negotiating for a loan, always request no penalty for early payoff.
Did I explain this clearly? Have you ever done an accelerated payoff? What tips can you add?
Photo: Hello Turkey Toe