In recent years, it’s alarming to see a surge in requests for extended amortization periods exceeding 30 years
While it may seem like an attractive option to reduce monthly repayments, it’s crucial to understand the potential risks associated with this decision. Experts and researchers have raised concerns about the increased interest rates over time, which could result in borrowers paying hundreds of thousands of dollars more in interest over the years. Moreover, returning to the original payment plan when renewing the mortgage could result in significant monthly payment increases, leaving homeowners struggling to keep up. Therefore, it’s crucial to understand the pros and cons of long-term amortization and other alternatives to extended amortization to make informed decisions.
How does a mortgage amortization work?
Mortgage amortization refers to the entire duration required to pay off the whole mortgage amount, and it involves making regular payments towards both the principal and interest. The principal is the borrowed amount, while the interest is the cost of borrowing. In the beginning, most of the payment goes towards the interest, and a smaller portion goes towards the principal. Over time, as the mortgage progresses, the proportion of the amount that goes towards the principal increases, and the proportion that goes towards interest decreases. It is essential to understand that mortgage amortization is distinct from the mortgage term, which is the duration for which the interest rate is fixed. At the end of the term, the borrower can renegotiate the interest rate and other mortgage terms.
When should you consider an amortization extension?
If you are currently holding a variable-rate mortgage and finding it challenging to cope with the increasing interest rates, it is advisable to speak with your mortgage broker or lender to discuss the possibility of extending your mortgage. Moreover, if you have recently renewed your mortgage with a higher variable interest rate, opting for an extended amortization period may be a viable option for you to consider. Considering these factors, you can decide whether an amortization extension suits your financial situation.
Understanding the pros and cons of a longer amortization period:
It is important to note that while a longer mortgage amortization period has its own advantages, you may also end up paying more interest over the life of the loan. Therefore, weighing the pros and cons before deciding on the best mortgage amortization period is essential.
Benefits of a longer mortgage amortization period:
- Firstly, opting for a longer mortgage amortization period will result in lower monthly mortgage payments, which will benefit individuals who want to keep their monthly expenses down.
- Secondly, a longer mortgage amortization period will minimize risk, allowing homeowners to spread their payments for a longer period, thus reducing the chances of defaulting on their loans.
- Moreover, an extended amortization period will provide more financial breathing room, making it easier for homeowners to manage their finances and stay on top of their payments.
- Finally, it is advantageous for individuals with other financial obligations, such as high-interest credit card debt and other short-term loans, as it will allow them to prioritize these expenses while still owning a home.
Drawbacks of a longer mortgage amortization period:
- A lengthy amortization will lead to higher total interest costs over the life of the loan. This is because the interest is calculated over a longer period, and thus, the borrower pays more interest over time.
- Another important point to consider is that if you choose to extend the amortization period of your mortgage, it will result in a slower rate of equity accumulation. This means that it will take you longer to own the property fully. This is because a larger portion of the monthly payment goes towards interest rather than the principal, which slows down the equity accumulation process.
- Finally, there is a higher risk of being “underwater” on the mortgage. This means that if the property’s value decreases, the borrower may still owe more on the loan than the property’s current worth. This situation can occur because the outstanding loan balance exceeds the property’s value.
Alternatives to extending your amortization period
There are alternative options to reduce your mortgage payments if the idea of stretching your amortization time doesn’t appeal to you, some of which don’t include paying extra interest in the years to come.
- Initially, check with your lender to determine whether you’re eligible for an alternative rate of interest or mortgage package that will cut your payments without increasing the duration of your loan.
- You can also go for debt consolidation, where you can bundle all your high-interest debt, like credit card debt and other short-term loans, along with your mortgage. Then you may use your payments on these high-interest obligations to pay down your mortgage.
Based on how your property is built-up, you can also consider the option of rental income from an additional room or some extra basement space. The added revenue will aid in your mortgage payment.
The Bottom Line
Extending your amortization period may only sometimes be the best solution to manage increasing interest rates. But it is also crucial to consider the flaws, such as higher remaining balances and slow equity accumulation. However, if you are facing financial challenges and need to make your mortgage payments more affordable, there are effective alternatives that you can explore. To receive the best possible rates and advice, seeking guidance from a financial advisor or mortgage broker is advisable. At Pegasus, our team of dedicated professionals is here to help you make an informed decision and be your one-stop solution for all your mortgage needs. Check your mortgage amortization schedule in our mortgage amortization calculator and take charge of your financial future. Contact us today.