Small Change Making a Big Difference

Does your money dribble out of your pocket? I know mine does. A few dollars here, a couple of dollars there doesn’t seem like much, right? Enter the ubiquitous “latte factor”. $3 on  a cuppa, how could that possibly effect my long term financial plan?

So I thought I would do a little maths. $3 a day on coffee (or other little indulgence), 5 days a week equals $780 a year.

This may or may not seem like that much but when the power of compounding is applied, that’s when things start getting interesting.

Just say you apply these little extra amounts to your mortgage over the course of the loan. What effect does the “latte factor” have on your mortgage? A few more calculations:

(Assumptions: that the interest and repayments are constant over the period of the loan. Changes in interest rates and payment amounts over the course of the loan will give different results, these are not considered in the following example. Calculations do not include fees or taxes.)

Standard loan calculation based on a monthly repayment.

Mortgage:	$320,000
Term:	30 years
Current Interest Rate:	5.9%
Monthly Repayments:	$1,898
Approx. Interest over period of the loan:	$363,293
Total Amount Paid:	$683,293

 

Now lets add the “latte factor” to the equation, an extra $60 per month to our repayments or $3 per day, 5 days a week.

 

Monthly Repayments:	$1,958
Term:	27.7 years
Approx. Interest over period of loan:	$329,381
Total Amount Paid	$649,381
Approx. Savings in Interest:	$33,912

 

Paying more than the minimum  amount on any loan is a great way to reduce the term of the loan and save you a packet in interest.

Now another small change.

One of the most powerful and easy ways reduce your loan term is to pay your loan fortnightly rather than monthly. Why? Because 26 fortnightly repayments equals 13 monthly repayments a year – an extra monthly repayment every year. Assuming that the fortnightly payments are half of the monthly repayments:

 

Fortnightly Repayments:	$950
Term:	24.5 years
Approx Interest over period of loan:	$286,617
Total Amount Paid:	$606,617
Approx. Interest Saved:	$76, 676

 

Now if we combine these two small changes to our mortgage repayments, pay fortnightly and add the latte factor, the savings are further compounded.

 

Fortnightly Repayments:	$980
Term:	23 years
Approx Interest over period of loan:	$265,947
Total Amount Paid:	$587,947
Approx. Interest Saved:	$95,346

 

How do you feel about having an extra $95,000 in your pocket and an extra 7 years of freedom from debt? Imagine investing the remaining mortgage payment amounts for the following 7 years of what would have been the loan term and seeing the interest compound.

Of course, this is not to say that you have to go without your daily cuppa. It’s not about the coffee, but about how we often spend small amounts on meaningless things that we could have quite happily gone without, thus sacrificing the more important stuff (like freedom from debt).

And small change makes a big difference once you factor in compounding interest.

If you want to check my sums or have a look at how small changes affect your loans check out this free online loan calculator.

Have you read these posts?

1. taking your small savings and making them bigger
2. Choosing a Mortgage that’s Right for You
3. Pay Your Mortgage Off Sooner With A Mortgage Offset Account
4. Can You Afford to Buy a House?
5. Compounding Interest And Debt Reduction