How to choose an amortization period on your mortgage

August 9, 2012

For many, taking out a mortgage is a crucial part of becoming a homeowner. After making a down payment, which will be a certain percentage of the house value, the rest of the house value will be paid for by the lender. In return, you will be required to pay back the lender over the course of many years with interest applied.

The choice of mortgage amortization period (in other words, the repayment period for the mortgage) is one of the most important choices a homeowner will make. While interest is important, the length of time over which that interest is applied can be just as or even more important.

Why is this? A mortgage which takes longer to pay off has more total interest applied to the outstanding amount; this means that, over the course of the entire mortgage lifetime, the total repayment will be higher for a long amortization period than for a short amortization period. The mortgage amortization period is thus very important, and needs to be carefully considered before a mortgage is settled upon. Let’s take a more detailed look at amortization periods:

Shorter amortization periods

Generally, if you can afford to pay higher monthly payments, then a shorter amortization period will reduce the applied interest and so, while your monthly mortgage payments will be higher, the amount you pay overall will be less. This is a good option for those who want to be mortgage free as quickly as they can for as cheaply as possible.

Longer amortization periods

The general rule is that the longer the amortization period, the lower the monthly mortgage payments and the higher the total amount paid over the course of the mortgage lifetime. So, if you do not want to pay high monthly mortgage payments, or you cannot afford to do so, then a long amortization period provides a good option. Many people need a longer amortization period; otherwise they would find it impossible to make the required monthly mortgage payments (most often, when someone re-mortgages to reduce monthly payments, they extend the amortization period). The drawback, however, is that there is a higher total amount you will have to pay back, due to interest being applied over a longer time interval. For example, extending the amortization period by 10 years can reduce monthly payments by 40%, but increase the total amount repaid by 22%.

Flexible payment options

Longer amortization periods might not be ideal in the long run, but they serve their purpose for those unwilling or unable to make higher monthly mortgage payments. Having said this, amortization periods are not always rigid and static, and using flexible payment options can help you to reduce the amortization period. For example, making more frequent payments, such as biweekly payments, help to reduce interest, while not having to pay too much more each year. Some mortgage lenders are more flexible than others, with some allowing you to pay large amounts when you receive those lucky windfalls, so it helps to research available lenders.

*Monthly payments were assumed throughout this article, though the above applies for other payment frequencies (weekly, bi-weekly, etc.)