A borrower has a $400,000 mortgage at 5% annual interest, amortized over 25 years. If they make an additional principal payment of $10,000, what is the primary benefit?
Correct Answer
D) They will pay less total interest and shorten the amortization period
Additional principal payments reduce the outstanding balance, which decreases the total interest paid over the life of the mortgage and shortens the amortization period. The monthly payment typically remains the same unless the borrower specifically requests re-amortization.
Why This Is the Correct Answer
Option D correctly identifies the dual primary benefit of additional principal payments. When $10,000 is applied directly to principal, it reduces the outstanding balance from $400,000 to $390,000. Since mortgage interest is calculated on the remaining principal, this reduction means less interest will accrue over the remaining amortization period. Additionally, with the same monthly payment continuing, more of each payment goes toward principal rather than interest, effectively shortening the time needed to pay off the mortgage completely.
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A borrower has a $400,000 fixed-rate mortgage at 4% per year, compounded semi-annually, amortized over 25 years with monthly payments of about $2,104. About how much of the first monthly payment goes to principal?
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