If a borrower switches from monthly to bi-weekly payments (26 payments per year) on their fixed-rate mortgage without changing the payment amount, what happens to the total interest paid?
Correct Answer
B) Interest decreases significantly due to more frequent principal reduction
Bi-weekly payments result in 26 payments per year (equivalent to 13 monthly payments instead of 12), and more frequent payments mean principal is reduced more often. This reduces the average daily balance on which interest accrues, resulting in significant interest savings and a shorter loan term. The effect is substantial because principal reductions occur every two weeks instead of monthly.
Why This Is the Correct Answer
Bi-weekly payments result in 26 payments per year (equivalent to 13 monthly payments instead of 12), and more frequent payments mean principal is reduced more often. This reduces the average daily balance on which interest accrues, resulting in significant interest savings and a shorter loan term. The effect is substantial because principal reductions occur every two weeks instead of monthly.
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