Mortgage payments are like clockwork – they’re always due on the same day each month and go on forever. Well, not forever, but its sure does seem like it.
Your mortgage is likely your most significant expense and a decades-long commitment to boot. Like many homeowners, you may have pondered how you can save some money on your mortgage costs or how you can pay off the balance earlier.
The most common mortgage payment frequency in Canada is monthly, where you make 12 payments per year. But there are also other payment options available, one of which is the bi-weekly payment frequency. A bi-weekly payment structure can help trim interest costs and shave years off a mortgage. For this reason, it’s a popular alternative among many homeowners.
Let’s dig in and see how bi-weekly payments can keep more money in your pocket and help extinguish your mortgage sooner rather than later.
How Do Bi-weekly Mortgage Payments Work?
The first thing to know about bi-weekly payments is there are two kinds: regular and accelerated.
Regular bi-weekly payments are calculated by multiplying your monthly mortgage payment by 12 and then dividing by 26. Under a bi-weekly payment plan, you’ll end up making 26 mortgage payments per year, rather than 12 under a monthly schedule. Thus, if your monthly payment is $1,000, you’ll make a payment of $461.54 every two weeks ($1,000 x 12 / 26).
Accelerated bi-weekly payments are determined by dividing your monthly mortgage payment by two, then multiplying by 26. Under an accelerated plan, you still end up making 26 payments each year, but each payment is slightly larger. Using our previous example, you would pay $500 every two weeks ($1000 / 2 x 26) instead of $461.54.
By doing some number-crunching, it becomes pretty apparent how regular bi-weekly payments differ from the accelerated version.
Choosing a regular bi-weekly payment structure won’t provide you with any substantial cost savings, nor will it shorten the life of your mortgage. Continuing with our example, your total annual mortgage payments under a bi-weekly plan will be virtually identical to the monthly plan ($461.54 x 26 = $12,004.04). Not very impressive, huh?
On the other hand, accelerated bi-weekly payments add the equivalent of one extra monthly payment each year. If you opt for accelerated payments, your total outlay each year will amount to $13,000 ($500 x 26).
That one extra payment is crucial and will help you reap the full benefits of bi-weekly payments. It may not feel like you’re making progress initially, but over time, you’ll end up with a fatter wallet and be mortgage-free sooner. It’s abundantly clear: if you’re going to commit to bi-weekly payments, make sure you get the accelerated version!
The Benefits of Bi-weekly Payments
Bi-weekly payments (the accelerated kind) offer numerous benefits.
In the first place, a bi-weekly payment plan allows for better cash flow matching, as you can adjust your mortgage payments to your income stream. For example, many people receive a paycheque bi-weekly, which conveniently aligns with bi-weekly mortgage payments. Optimizing your cash flow management this way means you’re less likely to experience cash shortfalls. You don’t have to fear the sting of one huge mortgage payment at the end of the month, especially if you find yourself strapped for cash.
As previously alluded to, bi-weekly payments can help you tackle crippling interest costs and put your mortgage to rest sooner.
The financial benefits of bi-weekly payments are best understood when analyzed side-by-side with monthly payments. Assume you’re about to acquire a $360,000 mortgage with a 25-year amortization period at an interest rate of 3%. Here's how your mortgage would play out under monthly and bi-weekly payment scenarios:
|Monthly Payment Schedule
|Bi-weekly Payment Schedule
|Total amount paid each year
|Total interest paid
|Total cost of mortgage
|Time to pay off mortgage
|22 years and 4 months
As you can see, if you opt for bi-weekly payments, you’ll end up saving $18,566 in interest over the life of the mortgage. You’ll also pay off the entire principal two years and eight months early.
Another benefit of bi-weekly payments is that you can build equity in your home more rapidly, thereby increasing your net worth. More equity ensures that you’ll keep a little bit of extra money in your wallet should you decide to sell your home. Also, if you’re keen on financing a major expenditure, such as a home renovation, you can leverage your home equity by taking out a home equity line of credit (HELOC).
The Disadvantages of Bi-weekly Payments
Bi-weekly payments are not without their drawbacks. You should consider the following before settling on them:
- Less money available for other needs –Bi-weekly payments can put a strain on your finances, affecting the flexibility in your budget. With more funds allocated to your mortgage, less is available for other financial obligations and investment opportunities.
- Prepayment penalties and fees – If you end up paying off your mortgage sooner due to a bi-weekly payment schedule, your lender could charge you a prepayment penalty. Some lenders also levy extra fees for setting up and processing bi-weekly payments. Ensure you examine your mortgage contract thoroughly to avoid any unpleasant surprises.
- Your payments may not get applied optimally – Even though payments are withdrawn from your bank account every two weeks, they may only get applied to your mortgage once a month. As a result, you’ll save less money, as the interest has more time to accrue. Be sure to inquire with your lender about payment application details.
The Bottom Line
Bi-weekly mortgage payments are a wise choice – they can lead to sizable savings in interest charges and help pay off your mortgage balance sooner. However, it must be implemented prudently and employed only if its benefits outweigh the costs. Before committing to bi-weekly payments, ensure your budget can accommodate them and that you’ll come out financially stronger in the end.