Amortization is the amount of time (in years) that it takes to pay off your mortgage.
The standard mortgage amortization is 25 years. That’s also the maximum allowable amortization if you have less than a 20% down payment.
When you shorten your amortization, your payment gets bigger but you pay off your mortgage faster. That’s because shorter amortizations increase the amount of principal you pay in each payment.
Here’s a chart to illustrate.
Despite the mortgage interest savings, a shorter amortization is not always your best move. For example, a shorter amortization may not be appropriate if:
- You have debt at a higher interest rate than your mortgage (in which case a longer amortization may free up cash and help you pay down that high-interest debt faster)
- The mortgage interest is tax deductible (i.e., the mortgage is used to finance income-generating assets like a rental property or dividend paying stocks)
- You have an uncertain income stream and want to keep your payment obligation as low as possible.
Remember, you can always reduce your effective amortization by making prepayments, to the extent that your mortgage allows them.
You don’t need to commit to a short amortization up front, but doing so is a great forced savings strategy.