Homes in Order

Pay off mortgage, save big!

1 = 5: Time & Money Formula

Our Challenge: Turn $1 into $5

My challenge is simple: make the world of finance understandable to everybody.

  • Music teacher. Student. Artist. Business owner. Engineer. Realtor.
  • You shouldn’t need an MBA to understand how your money works.

Your home may be the largest financial commitment you’ll ever make. Homes in Order is about helping you make smarter financial decisions around it.

Before we get to 1 = 5, understand two things.

1. Mortgages are powerful.
A mortgage allows you to buy a home without having the full purchase price in cash.

2. Interest matters.
When you understand interest, you begin to understand where your money is going—and how to make it work harder for you.

Let’s look at a typical 30-year mortgage.

As you can see, each monthly payment is made up of principal + interest. And as you can see, you will pay more interest than principal on this mortgage in your payments for over 20 years. Once again, you will pay more interest than principal on this mortgage for over 20 years! (Click here for more MORTGAGE BASICS)

Now let’s look at what happens when you prepay your mortgage. Shawn, from the book, saves his money every month, every year, until he has enough to pay off his mortgage. So in year 25, Shawn pays $80,760 and pays off his mortgage!

Congratulations, Shawn! You paid off your mortgage! You own your house! Next month (and every month thereafter), you will have an extra $1,580 in your pocket because you don’t have a mortgage payment. That’s awesome. Now let’s look a little deeper.

As you can see, by saving his money and paying off his mortgage, Shawn eliminated 5 years (FIVE YEARS!!!!) of mortgage payments. Not only that, Shawn will save $14,050 in interest payments! Boom! Congratulations. Paying off your house is a major accomplishment. Way to go, Shawn!

BUT….. You don’t have to wait until you can pay off your whole house to start paying off your mortgage. Let’s look at another scenario. Let’s say Shawn gets an extra $10,000 bonus, or commission, or gift. Now, let’s say Shawn applies that extra $10,000 to his mortgage in year 2 of his mortgage.

As you can see, by prepaying $10,000 in year 2 of his mortgage, Shawn:

  • Saves $48,984 in future interest.
  • Eliminates 3.13 years of mortgage payments.

That’s a pretty remarkable result from a $10,000 prepayment. By putting $10,000 toward his mortgage in year 2, Shawn saves $48,984 in future interest and eliminates 3.13 years of mortgage payments.

Shawn isn’t required to pay that extra $10,000 towards his mortgage. Let’s look at what happens if he decides to make that payment later.

As you can see, in this scenario, Shawn makes an extra $10,000 payment in Year 18 of his mortgage. By making a $10,000 prepayment in year 18, Shawn saves $11,051 in interest payments, and Shawn saves over 1 year of payments! Boom! That’s incredible!

But considering the previous scenario and nearly $50,000 in savings, this scenario somehow doesn’t seem as exciting, does it? Which would you rather have?

  • Scenario A: $48,984 in interest savings
  • Scenario B: $11,051 in interest savings

So what’s the difference?

Time.

The longer you borrow money, the more interest costs accumulate. The sooner you can reduce your debt, the more future interest you can avoid.

So, where does 1 = 5 come from?

Mathematically, here’s what it looks like.

This graph shows mathematically how much you would save by prepaying just $1 at any point in this mortgage. In this scenario, mathematically, for the first five years of this mortgage, $1 prepaid would save $5 or more in future payments

That’s 1 = 5. In other words, for the typical new homeowner, $1 PREPAID = $5+ SAVED.

Bottom line is time matters. The sooner you reduce your debt, the more future interest you can avoid.

So, next time you’re at the drive-thru, before you spend $1, you can ask yourself:

Is this worth $5?

  • $1 drink → $5 mortgage savings?
  • $2 fry → $10?
  • $3 upgrade → $15?
  • $4 add-on → $20?
  • $5 meal → $25?

You don’t have to stop buying things you enjoy. But when you start thinking about what today’s dollar could become tomorrow, you may start making different choices.

And 1 = 5 isn’t just for the drive-thru. You can use it anywhere. And it scales.

  • $100 shoes → $500 mortgage savings?
  • $1,000 smartphone → $5,000?

So does $1 really equal $5 for you?

Not necessarily. It could be less. Or, it could be more!

Your actual savings depend on your loan terms, your original loan balance, your current loan balance, interest rate, when you make the payment, and other factors. Generally speaking, 1 = 5 illustrates the concept.

Calculate your $1=$5

  • That’s why I built the Homes in Order calculator.

Go deeper

  • And if you want to understand the bigger philosophy behind Homes in Order, that’s why I wrote the book.