Benefits of Mortgage Prepayment

Paying off a mortgage early can give us a feeling of accomplishment and relief. Dropping a large monthly payment can put us in a great position to save more and do more of the things we enjoy. It is a step to financial freedom!

Warning: Do not prepay a mortgage if you have other debts outstanding. This is the last step in the debt elimination process. I have had people as me how much they can really save so I put together this post!

Example:

30 Year Mortgage, $100,000 @ 6.00%

Normal payment: $599.56

Prepayment Examples (assuming you pay extra from day 1):

• Add $100 in principal each month: Paid off in 258 months (21.5 years) and save $39,896.57 in interest
• Add $200 in principal each month: Paid off in 197 months (16.42 years) and save $58,446.42 in interest
• Add $300 in principal each month: Paid off in 163 months (13.6 years) and save $69,460.99 in interest

As you can see adding as little as $100 per month can save you a lot of money. You also knock off 8.5 years of payments to boot. Prepaying a mortgage can help us get to our goals faster. If you have the free cash flow and no other debts or obligations I highly suggest you do this.

To calculate the above scenarios I used this free tool here. It is a little quirky but once you get the hang of it you will be able to play with the numbers and decide what is best for you!

Credit Card Balance Transfer Pitfalls

Credit card companies are currently slowing down on the balance transfer offers due to the high rate of default and the current economy. I have used them in the past to save me a lot of money in interest over the years. I was a fan of the 0% offers but they have now all but dried up.

I find that a lot people see a great rate advertised in balance transfer offers but fail to read the fine print. They then become victim of the change in terms and get hit with high rates, fees, and possibly end up worse off than they started. I personally believe this deceptive practice by the credit card companies is at least partially part of why they are in this mess to begin with!

What to look out for in a balance transfer offer:

• Teaser rates: This was big with the 0% offers. It would be 0% for 12 months and then jump to a much higher rate. As high as 25%! Make sure you don't do the transfer if you cannot pay it off within the allotted time. I call this the "bait and switch" method.
  
• Balance transfer fees: Most of the companies charge for doing the transfer. I have seen as high as 5% of the balance. I personally will not pay more than 3% (for a 0% rate). You are best doing a transfer that has no transfer fee attached but these are rare these days.
• Convenience Checks: A lot of the direct mail offers give you checks (if you already have an account open). SOME of them are for the rate offer. Others are for cash advances which charge the highest interest rates. Be sure you use the correct checks!
• Protection Plans: If you are not careful you will get signed up for the "protection plans" which cover your payments if you lose your job or some other financial disaster occurs. They charge a lot of money and are best avoided. This is typically offered over the phone by customer service reps at the company. "No" is your best word of choice!

Balance transfers can be useful, money-saving tools if utilized properly. As long as you do your homework and avoid the above pitfalls you will be on the road to becoming debt free. As with any other credit card offer you have to be sure to read the terms and understand them. If in doubt go without.

Rule of 72: How it works

I have had a few friends ask me about how the rule of 72 works in the investing world. It is a quite simple tool used commonly with investing. It tells you how (approximately) many years it will take for your to double your money at a given rate. It is great for demonstrating why the stock market is the best investment for retirement funds.

Here is an example: Let's say you have $10,000 in cash ready to invest in something for the long term. I will apply the rule of 72 to determine how long it will take to make the $10,000 initial investment $20,000.

Savings account: Average rate for online accounts: 1.50%

72 / 1.5 = 48 years

Bonds: Average return on the bond market as a whole: 7.1%

72 / 7.1 = 10.14 years

Stocks: Average return on US Market: 10.5%

72 / 10.5 = 6.86 years

As illustrated in the above numbers it becomes obvious why people invest heavily into stocks. It only takes 7 years to double your money in stocks while a savings account takes 48 years. This shows how your money is working for you. Retirement assets are invested aggressively for this very reason.

This is a useful tool to use when deciding your asset allocation as well. You can split up your investments between cash savings, bonds, and stocks to come up with a weighted average return on your entire portfolio. Here is an example:

10% Cash Savings (at 1.5%) = 0.15
30% Bonds (at 7.1%) = 2.13
60% Stocks (at 10.5%) = 6.3

Average Return = 8.58% (total of numbers above)

You can set this up in Microsoft Excel or any other spreadsheet program and play with the portfolio breakdown to come up with the right mix for you. Use the rule of 72 on your average return to see how long it will take you to double your investment.

Making the switch to an Internet/Online only bank

I did this a few years back as the interest rates, among other features, that were offered were very attractive to me. I also got tired of fees by the "big banks" and used to work for a big bank and did not like the way they treated their employees. I will not name which bank I worked for but I can say they failed and were bought up.

Reasons to use an online only bank versus a traditional bank:

• Free checking account with interest
• Generally better rates on savings accounts and CD's
• No checkbook -- if you can't have one for the account then they cannot be stolen
• Less overhead means less expenses and the ability to continue to offer better rates
• No paper statements to be lost/stolen (also helps the environment
• No need for envelopes and stamps. Use online bill pay. This saves money and paper too!
• Ability to send money electronically to anyone at any bank
• Ability to have checks mailed from you to people or businesses (no bouncing as the money must be in the account!)

Drawbacks of online banks:

• Check deposits must be mailed in
• You cannot deposit cash to these accounts
• Call center customer service versus live person
• Only useful if your employer offers direct deposit

Here is how I combat the drawbacks:

• I have a free checking account at a local bank that I deposit checks and cash too then transfer it online to the online bank
• I rarely need to interact with a human so the customer service aspect is no big deal to me. I would rather go online, take care of my business, and move on. I don't want to spend the time or gas to go to a bank anyway!
• I do have direct deposit at my job but if I did not I would just use the deposit and transfer method listed above

Other thoughts:

• You can use online banks to chase the best interest rates. Very few have minimums or fees. The only way they can compete is by adjusting rates!
• I use a rewards credit card for everything and pay off the balance each month. This requires discipline but the money sits in the account and earns interest until the due date!

I will agree that online banks are not for everyone. Some people feel that they need checks but that is no longer the case. With online bill pay, the ability to so anyone a check or even an electronic deposit, and debit cards being widely accepted: checks are going the way of dodo bird. They present risk for identity theft and account breaching that can be avoided now.

For those looking for a recommendation on a particular online bank my answer is two fold. I use ING Direct for checking. I like their site and system and I am used to it. I also love the ability to send people money through ACH and no need for paper checks or waiting. For savings I am currently with HSBC Direct as they offer the best rate for the amount I have in the account.

Try living without your checkbook for a month and see if you can do all of your business through bill pay or debit card or ATM. You will be surprised!