Maximizing Home Equity: The Power of Making One Extra Mortgage Payment Per Year

Making an extra mortgage payment each year can offer significant financial benefits at a relatively low cost. Not only does this strategy help you pay off your loan early, but it also accelerates the rate of building home equity and reduces the amount of interest you pay over the life of your loan. Here are three major benefits to making one extra mortgage payment per year, along with some alternatives and frequently asked questions.

If you have a 30-year mortgage, like nearly 90% of American homeowners, you likely have a more affordable monthly payment than a 15-year mortgage but are committed to paying off the loan over a decade. By making an extra payment on your mortgage each year—that’s 13 payments instead of 12—you can shorten your repayment period by several years. The exact amount of time you save depends on your mortgage loan balance, remaining payment term, and interest rate. But even with a smaller balance or lower interest rate, making one extra payment a year can greatly affect the time it takes to pay off your mortgage.

For example, let’s say you have a $300,000 mortgage with a 30-year loan term and a fixed interest rate of 6.75%. Your monthly payment is about $1,946, and you make 13 payments of $1,946 per year instead of 12. That single extra annual payment will shave almost six years off your repayment term, so your home loan will be paid off in roughly 24 years rather than 30.

Fixed-rate mortgages are amortized, meaning you make the same monthly payments throughout the life of the loan, but the amount of your payment going to interest decreases over time while the amount going to the mortgage principal increases. In the early years of your 30-year mortgage, payments mostly go to interest rather than the principal balance. However, any additional payments toward your principal will lower both your outstanding loan balance and the amount of interest owed more quickly.

For instance, if you have a $300,000, 30-year fixed-rate mortgage at a 6.75% interest rate and only make the required $1,946 monthly payments toward the principal and interest, you would pay $400,486 in interest over the life of the loan. But adding an extra $1,946 payment each year would not only shave off nearly six years of payments but also reduce the interest paid to $309,414 over the life of the loan, saving nearly $100,000 in interest payments over the years.

Build equity more quickly: Making additional mortgage payments also helps you build equity in your home. Home equity refers to the difference between the money you owe on your mortgage versus how much the house is worth. While changes to your home’s value can sometimes be outside your control—like when overall home values in your neighborhood increase or decrease—you also build equity by paying down your mortgage balance. As you pay down your loan, you increase the difference between what you owe and what the home is worth, provided your home value remains the same or increases.