How Important Are Low Interest Rates

Mortgage payments aren’t that different from credit card payments. Part of the money you pay goes toward the balance you owe, called principal, and part goes to the interest.

In the early stages of a mortgage, most of the money goes toward the interest with very little going toward the principal balance. Gradually this changes over time as you drive down the principal balance. Less is charged for interest and more goes toward the principal.

The higher your interest rate, the longer it takes to pay down the principle, thus the more interest you pay. At an interest rate of 5% the payment plan may set your total interest at anywhere from 55% of the amount your borrowed to 75.4%.

Just another half percent, increases the amount of interest to from 59% to just over 83%. This highlights one of the most important reasons you want to get as low an interest rate is possible. That’s an increase of anywhere from 4 to 8% in more interest.

Here are some ways you can minimize the amount of interest you pay when you purchase a home.

• The more you pay down and the smaller your mortgage is, the less interest you pay.
• The faster you pay off your loan (shorter amortization), the less you pay out in interest.
• The more often you make payments, the faster you reduce the principal, leaving a lower balance for interest to be charged on. For example, if you pay every two weeks instead of only once a month, you’ll get an extra payment in every year.
• If you make extra payments toward the principal, you reduce the amount of interest you pay. One strategy is to ask for the amortization schedule and just pay the amount listed on the schedule for the next month’s principle. You’ve just eliminated one month of mortgage payments at the end of your loan.

There are other considerations of course. Will your mortgage terms allow you to accelerate payments? Learn more about prepayment penalties and open mortgages.