You have some spare money and want to put it into the loan. The lender asks a question that decides how much you save: shorten the term or lower the payment? The answer is almost always the term — but how much it matters, and when it does not, depends on two things that are easy to check.
All figures: a 300,000 mortgage over 25 years at 7%, annuity payment 2,120.34, total interest 336,101.28. Computed with the engine of our mortgage calculator; the rate is an example.
Why the early years are the expensive ones
Interest is charged on what you still owe, for as long as you owe it. In the first month of this mortgage 82.5% of the payment is interest; half of the debt is repaid only by month 209 of 300. Every unit repaid early stops earning the lender interest for all the years that remain — which is why when you pay matters as much as what you pay.
Term or payment: the same money, three ways
| Extra payment | Shorten the term | Lower the payment |
|---|---|---|
| 20,000 once, in month 12 | saves 73,896.84 44 months sooner | saves 21,342.95 new payment 1,976.79 |
| 20,000 once, in month 180 | saves 18,233.23 18 months sooner | saves 7,866.04 new payment 1,888.12 |
| 200 every month | saves 76,303.96 58 months sooner | saves 31,254.49 |
The same 20,000 paid at the end of the first year saves 73,896.84 if it shortens the term and 21,342.95 if it lowers the payment — 3.5 times less. Paid in year fifteen, the same amount saves only 18,233.23: there are fewer years left for it to cut.
Why lowering the payment saves less
Shortening the term removes the last months of the loan, and with them all the interest those months would have carried. Lowering the payment keeps the finish date: the debt falls, but you stay in the loan just as long, and the lender keeps charging for those months — on a smaller balance, but for the full term.
With 200 on top every month the gap is the same story told differently. Shortening the term: the loan ends 58 months early, you pay 48,200 extra in total and save 76,303.96. Lowering the payment: the instalment shrinks a little every month, down to 661.65 at the end; you pay 59,800 extra and save 31,254.49. Each unit put in saves 1.58 in the first case and 0.52 in the second.
When lowering the payment is still right
- When the monthly figure is what threatens you, not the total. If a smaller payment is the difference between coping and missing one, take it: a missed payment costs more than any optimization.
- When you expect a hard period — a new child, a job change — and want the smaller payment as a cushion.
- When you plan to invest the difference and expect it to earn more than the loan rate. That is a bet, not a calculation; the loan rate, on the other hand, is certain.
Three things to check in your contract
- Which option is applied if you say nothing. Ask, and state your choice in writing each time.
- When the extra money is credited. If it only counts on the payment date, money sent earlier sits idle until then.
- Fees and minimums. A fee or a minimum amount for early repayment changes the arithmetic of small, frequent payments.
Try it on your own loan
In the mortgage calculator and the loan calculator, add an extra payment — once, every month or every year — and switch between "shorten the term" and "lower the payment". The two totals appear side by side. If the loan is a card, the credit card payoff calculator shows the same effect on a revolving balance.