Mortgage Payment Holidays – Is It Wise To Take Them?
If I was to offer you the chance to take a holiday from paying your mortgage for a few months would that sound attractive to you?
Many mortgage and loan agreements actually have this option built in. If this is the case you are often after a specified period of time, entiltiled to take a “holiday” of a month or more from paying your mortgage or loan. As attractive as this sounds is it really wise to take these payment holidays? What are the potential downsides to taking them?
Is it really a mortgage FREE month?
The first thing to realise is that a mortgage payment holiday isn’t exactly what it’s made out to be! The term ‘payment holiday’ makes it sound like you are getting something for nothing. It sounds like the mortgage lender has decided to let you off completely from paying your mortgage for a month or two. This is not the case at all!
When you borrow money by taking out a mortgage, you agree to make a monthly repayment on that mortgage every month. A good chunk of this payment is the interest you pay on the loan. No lender in their right mind is going to let you off paying the interest for a month as this is how they make their money! So if you’re not making the monthly interest repayment, how does it get paid?
Increasing your mortgage!
Usually the interest from the monthly payment you’ve decided to take as a payment holiday gets added to your mortgage. If you’ve ever taken one of these holidays or inquired about it, you’ll have noticed that it adds a few pounds a month to your future mortgage payments. This is because the interest you don’t pay when you take a payment holiday get’s added to your outstanding mortgage. As a result your monthly payment now increases due to the fact that:
a) You still need to repay the bigger mortgage loan over the same length of time – 25 years for example
b) You’re now paying interest on a bigger mortgage!
But it’s just a couple of pounds extra a month! What’s the big deal?
Taking one mortgage payment holiday over the entire term of a 25 year mortgage loan is unlikely to cause a big issue. If you get into the habit of regularly taking them however, it could cause you big problems in the future!
As you can see from the graph above, during the early years of a mortgage most of the money you pay to your lender in your mortgage payment is used to pay the interest on the loan. Very little of the money goes towards reducing what you owe! If you get into the habit of taking payment holidays, any inroads you’ve made into paying off the amount you owe on your mortgage can be quickly undone.
But If I’m Still Repaying My Mortgage Over The Same Term, Why does it matter?
If you never move home or remortgage and are happy to pay the extra money on the mortgage payment each month, then you’re right it won’t matter. You’ll still repay your mortgage on time.
The fact is most people move home or re-mortgage a few times within their lifetime! To get the best mortgage deals or even to make a potential move possible, it is very important that you’ve paid off as much of the capital on your outstanding mortgage as possible! If you keep taking payment holidays, especially in these early years when you don’t reduce what’s owed on your mortgage by very much, it could make things very difficult if you decide to move or remortgage your home.
You could even find yourself in negative equity if you keep adding the interest from these payment holidays to your outstanding mortgage balance and house prices take a nose dive!