I’ve been making extra payments to principle on my mortgage. A while ago a coworker said [someone] made a point to make extra payments to interest on her mortgage.
Ar? 
Why would anyone make extra interest payments? By paying to principle, you would reduce the amount of interest you’re paying.
Is there some sort of angle to be played here? Or was the coworker’s [someone] just doing something weird?
That’s a new one. If you have a balance of (let’s say) $200k at the beginning of the year, and a (let’s also say) 6% mortgage, then you owe about $12k this year in interest on the loan (less, since the principal drops each month). What is the advantage to paying more interest on the loan than required? You don’t pay the mortgage off faster.
Maybe she missed some payments previously and wanted to catch up on what she owed? That’s the only thing that leaps to mind.
I don’t know. My coworker said her friend/relative was very proud to make extra interest payments. She seemed to think it was a great idea too. I’m guessing that either coworker was mistaken and the person was actually making payments to principle, the person’s bank was applying her ‘interest’ payments to principle, or the person really was paying ahead on interest. Since i had mentioned making extra principle payments and my coworker stressed interest in her comment, I assume the she was pretty sure of it. (Doesn’t mean she wasn’t mistaken though.) I don’t see a bank taking earmarked funds and applying them to a different use, but I suppose it can happen.
In any case, I’d never heard of anyone doing this and I thought I should ask just to make sure I wasn’t missing something.
I pay extra to principle. It makes sense to me!
Principle, yes. Interest? Makes no sense.
(argh argh argh I have to say this argh I’m sorry)
Principal, not principle.
It is just semantics. After you have paid the current period’s interest you can’t apportion a payment to “interest”…there isn’t any more. All that you can pay is principal.
Paying additional money to the loan each month reduces the amount of principal and therefor the amount of interest. Also the amount of time left on the mortgage. If you do this faithfully over the time of your loan, you will save thousands of dollars on interest for your mortgage.
That was interesting in principle.
One might have a case for paying ahead interest in one year to take advantage of the tax deduction. I have done this with property taxes, making three payments in one year when my income was high and I knew my income would be lower in the following year. Other than that I can’t think of a reason to do this, and even that is not a really compelling reason.
When I overpay my mortgage, I have the option of keeping the monthly payments the same but reducing the term (payment to principal) or keeping the term the same but reducing the monthly payments (payment to interest).
You might check and make sure that the bank, or whatever, is handling this right.
I made extra, principal only payments filling out a little form at the local bank each time. I kept track of payments and balances on a spreadsheet. Then I transferred my loan to my credit union and when the bank quoted the payoff amount they were off from my figures by several thousand dollars. So I bitched and was given a phone number to call. When I talked to the guy he said they had been counting the principal only payments as advanced regular payments and deducted interest from them.
I told him no, those were principal only payments and that I had so specified on the form. Believe it or not, he say, “Oh, we never see those.”
We got the thing resolved and the final payoff was within $20 or so of my numbers. Had I not kept track I would have lost quite a sum.
As a result, I always check up on how things are going in any such transaction. In the large, computer driven, corporate world nobody bothers to think and the right hand never knows what the left and is doing.
Any chance that your coworker’s friend has an interest only loan? Then any overpayment might be a payment to interest.
Sure, I’ve done that (two years, though, not three) with property taxes. But I can’t even imagine how you could pay money to the mortgage holder as interest instead of principal.
The mortgage company charges you interest each month, based on how much of their money you currently have. It’s not like there’s an interest account, and a principal account, which you can choose from. If you have an oustanding balance on your loan of $165,000 and a 5.5% APR loan, then they charge you $756.25 in interest the following month. If you pay extra, over and above the standard payment, the extra has no choice but to go towards the principal, at least in any mortgage I’ve ever seen.
The effect of this is that the following month, your balance is slightly lower, and the interest you’re charged will be proportionally lower, therefore out of your standard payment, more of it will go towards the principal, and this compounds in all the successive months, causing the loan to be paid off sooner.
Mine defaults to the expected “extra money to principal”, and has two other options, including one we haven’t mentioned yet - “deposit into escrow account”. That would be fairly daft most of the time, too. You might wind up reducing your monthly payment for a while because there was excess in the escrow account, but the escrow is “trapped” money earning a fairly low interest rate. Around here, escrow accounts are standard on mortgages, and you’ll have a hard time getting a lender not to attach one. They DO have to pay a minimal interest rate on them under CA law.
In Texas, escrow accounts for payment of taxes and insurance are required only if your loan is for more than some portion of the house’s value. I think it’s 80%, but I may be confusing that with the threshold for PMI.
Anyway, I haven’t had an escrow account on my mortgages for the last 15 years or so.
Then you haven’t seen some of the ones being talked about here which may have various checkboxes on the payment coupon. It’s obviously a misnomer, and the usual effect seen by the consumer is that their payment is reduced rather than the length of time for the loan. Logically, to do that “right”, your extra payment should still go towards the principal and the loan should be reamortized to retain the remaining term length with a lower payment. I’ve never personally done anything with an extra payment but applied it to the principal. I have a sinking feeling that “payment to interest” simply means they simply carry a credit forward to be applied to next months interest and bill you less. If no interest is being paid on that excess, it’s obviously a lousy deal.
I concur. That’s what I was going to say when I read the OP.
Damn it!
I can’t see thinking that was a REALLY good idea, but I could have seen doing it at one point.
It could function the same as an “emergency fund” some people maintain, complete with a couple of month’s pay enclosed in a savings account.
Perhaps if I had poor willpower I might love the idea that my mortgage was pre-paid for 12 months.
Still, I concur, kinda’ daft.
Plus I’d rather have the $10200 for my next 12 mortgage/escrow payments in one lump sum, rather than have to wait 12 months to get at it in case the Slantmobile needed replaced, or some such.