What do you suggest? And what can you tell me about his claims?
---P.M., by email
A. If you Google "Primerica+simple interest" you'll find that you are not alone. Many are confused by sales claims made by their agents, who are often impressionable true believers who don't really understand how direct reduction mortgages work.
Here are the important facts:
First, making more frequent mortgage payments does very little to reduce your interest costs on a home mortgage. Indeed, most of the "bi-weekly" mortgage programs that are offered don't make payments more often; they only collect the payments more often. The "trick" in bi-weekly mortgages is that 26 half payments is 13 complete mortgage payments, not the usual twelve.
Second, a bi-weekly mortgage will reduce the term of your mortgage because you are making 13 complete mortgage payments a year so you are paying more than you would on a conventional 12 payment per year mortgage. If you make more payments, you pay more principal. If you pay more principal you reduce the maturity of the mortgage and the total interest paid.
Third, you don't need to take out a new mortgage (with all its related fees) or pay for a bi-weekly mortgage payment plan to have the same benefit. All you have to do is add a small amount to each of your monthly payments. Do that and you will shorten the life of your mortgage and reduce the total amount of interest paid.
Fourth, the best way to make the greatest reduction in the cost of financing your home is to think of it as a two-step process. The first step is to find the lowest possible interest rate you can find for a given term of loan. The second step is to accelerate the pay-down of that loan by making additional payments. In other words, reduce the rate first. Then reduce the term with additional payments.
Now let's think about what this guy is proposing. He wants you to give up your 5 7/8 percent mortgage and replace it with an 8 percent mortgage so you can save interest? In fact, your effective interest rate on the additional money borrowed--- that $21,000 in credit card debt--- would be painfully high.
Why? Because you are paying 8 percent on money you formerly paid 5 7/8 percent on as well as 8 percent on the newly borrowed money. That's an increase of 2 1/8th percent over the original rate. What you are really paying on the additional money borrowed is 8 percent plus the increased cost of interest on the earlier mortgage balance. You didn't tell me how much you owed so here is what it would cost on a variety of mortgage balances:
If your existing mortgage balance was only $21,000, the effective cost of borrowing an additional $21,000 will be 8 percent plus 2 1/8 percent on the earlier $21,000 or 10 1/8th percent. A $42,000 existing mortgage would make the new money cost 12 ¼ percent--- two times 2 1/8th percent plus 8 percent.
An $84,000 existing mortgage would make the new money cost 16.5 percent--- four times 2 1/8th percent plus 8 percent. That may be more than you are currently paying on your credit card debt. This type of analysis is what a financial analyst would call the "incremental cost of new borrowing." You'd also have to add the cost of writing a new mortgage, no minor matter.
What this salesperson is offering doesn't make sense on any level. You don't want him anywhere near your finances.
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