Interest weighted at start of mortgage question

3Smees23

Hi all,

This may sound a daft question but struggling to understand something.

We are nearly into our 5th year on a 5 year fix and accepted an offer on our house yesterday. We may be better off ditching our fix and paying the ERC, and getting a completely new mortgage at a better rate.

What i don't understand is that we were told that at the start our mortgage repayments are heavily weighted on interest rather than paying back the loan. If we decide to ditch then surely we are back to square one in terms of we will be paying back the high proportion of interest. Thus not really getting anywhere with paying off the loan.

Have i understood the above correctly?

Thanks

Sam

ACG

Have a look at an online amortization calculator. You can see how your payments will look on the new deal compared to the old and see which works out the better option.

AnotherJoe

3Smees23 wrote: »

Hi all,

This may sound a daft question but struggling to understand something.

We are nearly into our 5th year on a 5 year fix and accepted an offer on our house yesterday. We may be better off ditching our fix and paying the ERC, and getting a completely new mortgage at a better rate.

What i don't understand is that we were told that at the start our mortgage repayments are heavily weighted on interest rather than paying back the loan. If we decide to ditch then surely we are back to square one in terms of we will be paying back the high proportion of interest. Thus not really getting anywhere with paying off the loan.

Have i understood the above correctly?

Thanks

Sam

Not really. If your new loan is shorter than the original by 5 years so the end target date remains the same, you'll be in the same position as now paying off the same proportion of capital . If though your new loan is instead another 25 years (or however long the original was) then you have another 5 years of interest to pay which is why you'd be back at square one.

Interest isnt really weighted as you say in terms of it's a deliberate policy, it's just the mathematics. If you start out with constant repayments over the period of a loan, then by definition interest will be the highest at the start as that's when you owe the most.. as you pay if off and owe less, then interest due is less so naturally more of the repayments go to reducing the amount owed.

For example,say you borrow £100,000 at 3%. In year one you'll have to pay off £3,000 of interest. So let's say your annual payments sum to £5,000, then in year one you'll pay £3,000 interest and £2,000 off the capital, leaving £98,000. Let's say some years later you now owe £50,000. So interest on that is half what but was, £1,500, so that years £5,000 pays off £3,500 of capital.. it's just the way the maths work..

Of course, if you every five years you took out a new 25 year mortgage then yes you'll be back to square one every five years, "not getting anywhere" as you say , so, make your new mortgage term 5 years less, keeping the end date the same,

SouthLondonUser

AnotherJoe wrote: »

For example,say you borrow £100,000 at 3%. In year one you'll have to pay off £3,000 of interest. So let's say your annual payments sum to £5,000, then in year one you'll pay £3,000 interest and £2,000 off the capital, leaving £98,000.

Not exactly. Assuming it's a repayment mortgage, in the first year you'll pay less than £ 3k of interest, because you are repaying capital every month, so the amount over which you are paying interest reduces over time.

As suggested, you can download one of the many spreadsheet templates, or look at sites like:
http://www.amortization-calc.com/
https://www.drcalculator.com/mortgage/uk/

Let's say you borrowed 100k at 3% fixed, for 25 years.
The monthly instalment is 474.21.
On month 1, you pay 250 of interest (= 100,000 x 3% /12) and 224.21 of principal.
After month 1, the balance has gone down to 100,000 - 224.21 = 99,775.79.
In month 2, you therefore pay 249.44 of interest ( = 99,775.79 x 3% /12), and 224.77 of capital.

The total instalment you pay is the same (if the rate stays constant), but every month you are paying a bit less of interest (because you are reducing the principal over which you pay interest) and a bit more of capital.

AnotherJoe

SouthLondonUser wrote: »

Not exactly. Assuming it's a repayment mortgage, in the first year you'll pay less than £ 3k of interest, because you are repaying capital every month, so the amount over which you are paying interest reduces over time.

As suggested, you can download one of the many spreadsheet templates, or look at sites like:
http://www.amortization-calc.com/
https://www.drcalculator.com/mortgage/uk/

Let's say you borrowed 100k at 3% fixed, for 25 years.
The monthly instalment is 474.21.
On month 1, you pay 250 of interest (= 100,000 x 3% /12) and 224.21 of principal.
After month 1, the balance has gone down to 100,000 - 224.21 = 99,775.79.
In month 2, you therefore pay 249.44 of interest ( = 99,775.79 x 3% /12), and 224.77 of capital.

The total instalment you pay is the same (if the rate stays constant), but every month you are paying a bit less of interest (because you are reducing the principal over which you pay interest) and a bit more of capital.

Well yes, but for point of explaining a principle, which is better for the OP, a simple example with rounded numbers or one with the minutea down to the pence?

And that the details dont affect the actual point, that more interest is due initially siimply because the amount owed is at its greatest, and as its constant payments then more interest is paid from the payments at the start leaving less to be paid off the capital (indeed perhaps that's an even simpler / clearer explanation) ?

My fault I suppose for not putting a rider that "this is a simplified example but the details don't affect the principle."

SouthLondonUser

@AnotherJoe, chill down. I simply wanted to explain to the OP why, month after month, you pay more capital and less interest - which is the crux of the matter here, as per the OP's question.