ONE of the best ways to create wealth is to buy your own home and pay it off.
However, the way you pay the house off can make a huge difference to your finances when you come to retirement.
When I was young the conventional wisdom was to focus on getting rid of the home loan before starting an investment program, but there is now a growing awareness that paying your house off at a reasonable rate, and simultaneously starting an investment program is a much better way to go.
Because of the way the mathematics work, the interest rate you pay on a loan does not matter much if the term is relatively short. But, if the term is long the interest rate rises exponentially. For example, if you had a loan of $300,000 at 7% and paid it back over 30 years, the payments would be $1996 a month and you would pay back a staggering $418,000 in interest. Increasing the payments by $1487 a month to $3483 a month will slash the term to just 10 years with interest of just $118,000 - that's a saving of $300,000.
So far so good, but now the loan is down to just 10 years it takes a massive increase in payments to pay it back much faster. Increasing the payments by $2457 from $3483 a month to $5940 would simply take five more years off it and save only another $62,000 in interest.
This is why I regard $12 a thousand a month, that's $2,400 a month on a $200,000 loan as the optimum home loan repayment. This will bring the term to between eight and 11 years if interest rates stay between 5% and 11%.
Noel Whittaker is a director of Whittaker Macnaught Pty Ltd. His advice is general in nature and readers should seek their own professional advice before making any financial decisions. His email is firstname.lastname@example.org.
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