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From the interest rate your lender sets to the loan term you sign up for, there are several factors that affect how much interest you pay — and you can save thousands by taking advantage of those terms.
The following factors will affect the amount of your interest payments:
Interest on your mortgage is generally calculated monthly. Your bank will take the outstanding loan amount at the end of each month and multiply it by the interest rate that applies to your loan, then divide that amount by 12.
Assuming you have an outstanding loan amount of $500,000 and an interest rate of 5% APR, your interest payment for one month would be calculated using the following formula:
($500,000 x 0.05) ÷ 12 = $2083.33
There’s another factor that can affect your monthly mortgage payment: whether you’re making principal and interest or interest-only payments. Principal and interest payments are the most common way to pay off a home loan, and they basically mean that one portion of your monthly payment goes towards paying off the amount you borrow and another portion goes to paying off the interest you owe.
However, some loans are designed to allow you to make interest-only payments for a certain period, for example if you’re building a new home or if you’re a property investor with an investment mortgage. This allows you to reduce your monthly payment amount.
Susie is borrowing $700,000 to buy a house and she wants to save as much money on interest as she possibly can. She decides to calculate just how much difference a 0.25% APR difference in interest rates could make to the total cost of a loan.
If she can find a loan with an interest rate of 4% APR on a 30-year loan term, her monthly principal and interest payments will be $3,341.91. The total interest she will end up paying over the life of the loan is $503,086.54.
But if Susie finds a loan with a marginally lower interest rate of 3.75% APR, her monthly payments will be $3,241.81 and the total interest over the life of the loan will be $467,051.29 — that’s a total interest saving of $36,035.25.
Now that you know a bit more about how interest is calculated let’s look at the ways you can actually pay less of it.
Interest makes up for a substantial portion of your monthly mortgage payments, but choosing the most competitive home loan and making extra payments can help you cut tens of thousands off the cost of your home.
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