Biweekly Payment Plans
Someone told me he was saving lots of money because he switched his mortgage payment schedule to biweekly. He said it was a really great plan and that his mortgage would be paid, in full; several years ahead of his monthly payment schedule and that it would save him over $70,000!
I told him I thought it was a great deal and then asked him how much it cost to convert to the biweekly plan. He said, “Nothing!” and then proudly stated, “and there is only a $19 charge added on to each payment!” Ouch! I didn’t want to go into this more deeply, so, I just smiled, said “so long” and moved on.
Here’s the problem. Since I know his house is almost brand new; I figure he has 28 years left on his mortgage. The $19 charge he’s paying every month to covert to the biweekly plan is costing him: 26 (payments per year), times 28 (years left to pay), times $19 (per payment). This adds up to a total cost of $13,832 for something he could have done for free!
Most lenders, especially the high profile ones, don’t charge this much for a biweekly mortgage conversion. More commonly, there is an upfront charge of anywhere from $800 to $1,300. Often times these high profile lenders do the biweekly conversion in conjunction with a refinance.
When you go the refinance to a biweekly plan route, you usually only pay points and not a conversion fee per se, even though the payment plan you end up will be a biweekly one. If you pay 2 points for a $200,000 refinance, for instance, the cost is $4,000.
With a refinance, usually you would be taking cash out of your equity, so if you don’t need to do this and your new biweekly mortgage would have the same interest rate as your old mortgage, as you will see later, you would just be wasting money.
The instance where this type of refinance to a biweekly plan would work is in a situation where you did want to take cash out of your equity and you were changing from a high interest rate mortgage, like 9% to a nice low one, like 5%. That would change everything.
Let’s see how good of a deal this would be. You are paying off; let’s say an $180,000 mortgage. The interest rate is 9% and the full term of the mortgage is 30 years. On this mortgage the total interest and principal payment due is $1,448.32 each month.
Now, you are able to refinance to a $200,000 mortgage at 5%. Here, your new monthly cost is $1,073.64 monthly or $536.82, which is half the monthly payment, paid every 2 weeks or, biweekly. If you’ve paid your old mortgage for 6 years you would have paid about $10,000 off of that mortgage. This means your old principle was $170,000 ($180,000 - $10,000). So, the refinance puts $30,000, minus the 2-point charge, in your pocket as well as lowering your monthly payment by $375 a month. Not bad even if you are paying $4,000 in points.
Yeah! But what about the fact you’ve got to pay a mortgage for an extra 6 years? Well, here’s where they will try to sell you the biweekly plan. If you pay $536.82 biweekly instead of $1,073.64 monthly, the mortgage will be paid in 25 years and 3 months, not too much longer than 24 years. However, what they are not so upfront about is that with a biweekly mortgage plan, you pay more toward your principle each month.
There are 26 two-week periods in a year. So, 26 biweekly payments equal 13 yearly payments. This works out to the same as paying 1 and 1/12th payments each month. Of course, paying this extra fraction of a payment every month, is the real secret to how biweekly plans work. The plain and simple fact is; if you pay 1/12th of a monthly payment extra every month, you will pay off your mortgage in the same number of payments it would take to pay off the mortgage with the biweekly plan.
The refinance, itself, would still be a propitious move but, personally, I’d opt for the monthly plan if I were doing it. I’d rather be liable for as low a monthly payment as possible. I still could pay extra each month and pay this mortgage in 25 years, or a lot sooner if I chose to. However, maybe a few years down the road interest rates would be high.
If so, I’d be making more money by taking the extra money that would have been going toward the biweekly payment plan and putting it in a savings account, or better yet, a hot Mutual Fund.
So don’t be caught off guard if approached by a salesperson who is intent upon converting your mortgage to a biweekly plan. While a refinance can be beneficial in many circumstances, a biweekly plan never is because you can just as easily make larger than required payments without one.
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