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jwderene · Joined: 05 Mar 2008 Posts: 2 1.69 Dollars($)

I have a second mortage of about $90,000 at an 8.5% interest rate. In the first 6 months, I paid about $2000 in interest, which is of course tax deductible. I have some extra money (about 15,000) that I am considering paying to the principle of the mortgage. This will not reduce my monthly payments, but will reduce the term of the loan. How do I determine the cost benefit of paying the principle down quickly vs. continuing to have the interest as a tax write off?

larry · Joined: 27 Jun 2007 Posts: 3322 474.67 Dollars($)

Hi jwderene,

Welcome to the forum.

I think you should better pay off the principal of the mortgage. Because, in that case, you will pay less amount of interest to your lender.

Best of luck,
Larry

jwderene · Joined: 05 Mar 2008 Posts: 2 1.69 Dollars($)

Right but, does the reduced interest outweigh the benefit of the tax deduction and the return on investment I could otherwise get. I am trying to figure out what considerations are part of that analysis.

helping_user

Hi jwderene,

Welcome back.

What you need to do is, calculate the total interest you will save by reducing the loan term. Say, if you are paying $1200 as interest on a monthly basis and you reduce loan term by 5 years, then you'll be saving = $1200 * 12 * 5 = $72000 in interest.

Now you need to get an estimate of the total taxes you can write off by paying interest for the number of years (say 5 as per my example) your loan will reduce. Towards the end of the loan term, interest will reduce and hence the deduction will be almost negligible. Considering this fact, you need to compare the tax deduction you can get with the extra payment you are likely to make towards the principal . Also note that the extra payments are not tax deductible whereas if you pay interest throughout the loan term it will be deductible.

You can use the calculator at http://www.mortgagefit.com/calculators/extra-payment.html to determine how much you can save in interest by extra payments.

Thanks.

kenl314 · Posted: Sat Mar 15, 2008 6:24 pm Post subject: pay down early-

Hello- There are different ways to look at this, and I have a post on my mortgagefit Blog which gets into some of this.
How long is your term on the 2nd mortgage?
With a 30 year loan, the first year or 2 about 90% of the monies that you are paying is going towards INTEREST. Almost all of what you pay is just going to interest. Yes, it is a tax deduction, but for most people that is around 28%- 30%. That's all good, but I think with that link that mortgagefit has you can see what is better.
Roughly, 30% of your 90% in payments is essentially money in your pocket due to less taxes needing to be paid. That leaves 70% of the 90% of your payments that you're still paying that has ZERO tax benefit.

Also, keep in mind that someday Congress could very well start reducing or eliminating the mortgage interest tax deduction rule- to start raising money for social security, etc. Unlikely, but it could happen....
Thanks,
Ken

Posted: Thu Mar 20, 2008 1:17 pm Post subject:

Always reduce your principal -- if you can. Tax advantages are here today, gone tomorrow -- also, think of the money you'll save in the long run.

Your 90k HELOC will cost you about 146k in interest.
Paying it down to 75k now you will accrue about 121k in interest. [standard 25-yr term with 10-years Interest-Only]

You can essentially save 25k over 25-years, or $1000 per year. But, you are still paying lots of interest, my friend. I always advise tossing tax returns and year-end bonus' at your principal -- especially your 2nd lien. Would you want to hold a 75k credit card debt?

Your Form 1098 mortgage interest-paid for the 2nd at 90k will be about $7650 for the year. At 75k, it will be about $6375. You're still getting a good deduction, and you're saving interest down the road. Pay the principal!

[If your 2nd lien has different terms, these numbers will vary.]

sara · Posted: Wed Mar 26, 2008 1:12 am Post subject: RE:

Ok guest, so you mean to say that one should be focussed on paying down the principal through extra payments instead of going for tax breaks. I mean it makes a lot of sense reducing the principal as you get to save a lot more than the tax benefits due to deduction.

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Pay down the mortgage or continue to take tax write off?