|Taking the leap to homeownership is no light matter. The amount financed through a mortgage loan and the long-term commitment expected of borrowers is frankly, too overwhelming for my taste, especially since I have a while to go before I shed my existing debt.
However, according to the U.S. Census Bureau, the average amount owed on a home loan is a staggering $95,000. With national average mortgage interest rates at 4.20% for a 30-year fixed mortgage, homeowners are looking at thousands of dollars in interest costs alone to own a property.
The example above may be the typical scenario for Americans across the country, but Dave Ramsey’s Seven Baby Steps looks to cut borrowers’ ties with their home loans by paying off mortgages early instead of at the end of the term.
Baby Step 6: Paying Off Mortgage Early
By this point in the game, Dave Ramsey recommends waiting until after you’ve paid down all your non-mortgage loan debt, and have put saving money for retirement and your child’s college fund (more on this later) into gear. While it can be tempting to stretch out payments over the course of the entire term due to record-low mortgage interest rates, Dave Ramsey encourages homeowners to use their newly freed funds to aggressively and successfully learn how to pay off your mortgage early.
While I myself don’t currently have a mortgage , millions of Americans have found success using Dave Ramsey’s debt reduction method on their home loans. Kristine Tanzillo, of Myrtle Springs, Texas, is an avid Dave Ramsey follower and expects to pay off her 30-year mortgage with an initial principal balance of $560,000 within the next 12 years.
“We have paid more than $140,000 in principal in 4.5 years,” shares Kristine. “According to our amortization schedule, we wouldn’t achieve this until 2025 if we paid the minimum principal each month.” Kristine goes on to explain her strategy when paying off her mortgage early, noting they “pay extra every month and a lump sum once or twice a year, depending on income.” She adds, “When [they] receive escrow refunds for overage [they] send it right back to the mortgage company to apply to the principal.”
Similar to the debt snowball in step two of the Seven Baby Step program, the point of waiting until now to pay down the mortgage is to ensure you’re building momentum. With all past debt gone and future financial goals already begun, there’s less room for getting distracted when executing this step.
Mortgage Loan Tips and Warnings for Home Buyers
For individuals who don’t presently have a mortgage loan to pay off, but are looking forward to buying a home in the near future finding the right financial balance can be challenging. Dave suggests that if you can’t pay for a home up front with cash, turn to a 15-year fixed rate mortgage loan with a minimum 10 percent down payment. Additionally, your mortgage payments should not exceed 25 percent of your net pay per month.
Before buying a home, however, Dave Ramsey warns home buyers of the dangers behind a couple of the most common types of mortgage loans.
30-Year Mortgage Loans
30-year mortgage loans turn mortgage payments into smaller, more manageable amounts, since homeowners have an extended period of time to pay off their loans. While this may sound like benefit for those who want bite-sized monthly mortgage responsibilities, Dave says it’s a financial trap.
“Actually, the 30-year mortgage was always a bad idea,” argues Ramsey. “It simply enabled borrowers to buy more house than they could afford by spreading the payments out over a longer term. On top of that, those homeowners paid tens — even hundreds of thousands of dollars more in interest.”
But that’s not the only popular mortgage loan product that the financial guru has blacklisted.
Adjustable Mortgage Interest Rates
Another widely accepted mortgage loan option that Americans have bought into are adjustable mortgage interest rates, which also get the boot from Ramsey. This kind of mortgage loan offers an even lower mortgage rate than its 30-year counterpart, but are variable throughout the loan term based on the market.
Should mortgage interest rates increase at an inopportune time like during a layoff for instance, a greater financial burden would be placed on your shoulders.
Before making any drastic move — including paying off your mortgage early — always familiarize yourself with the terms and conditions outlined in the loan contract, as factors like a prepayment penalty can deter you from your goal of getting rid of debt and saving money for the long term.