What is amortization?
According to wikipedia, the definition of mortgage amortization as a "financial process through which a debt is gradually extinguished through periodic payments, which may be the same or different." For ordinary mortals, "amortizing a mortgage" is the act of paying, month by month, the debt contracted with the bank for the purchase of a property. There are several types of amortizations.
What are the types of amortizations that exist?
Although the vast majority of citizens will only know how to repay a real estate mortgage in their lives, there are different types of amortization, financial and economic.
Financial amortization, the most popular, consists of gradually repaying a debt incurred. Interest is added to this amortization, so that the installments we pay to amortize a home mortgage include two concepts: principal and interest.
When we talk about paying off a mortgage we refer to the principal. To determine how much of the principal and interest is settled each month, different amortization systems are used. The one that will be used in each case must be reflected in the signature of the mortgage.
Amortization rate, French system
Set a one-time fee. It is one of the most common types of amortization of the systems in our country and establishes that the principal is increasing and the interests decreasing. This is why in the first years more interest is paid than principal and with the passage of time the opposite occurs. It has its advantages and disadvantages, undoubtedly.
As the main advantage, that throughout the duration of the loan you pay the same amount. That is, if you pay 100 now, and in 30 years you continue to pay the same, we tend to think that the installments will be more affordable in the future. As an inconvenience, that at first you only pay interest and you may have been paying the mortgage on time for 15 years , but that you have not amortized more than 25% of the principal.
Amortization rate, German system
The principal payment is constant, so that what varies are the interest generated. In this way, the first installments will be more demanding, but over time they become lighter, because the amount of principal that remains to be settled is less.
Although the French system is the favorite of the Spanish, and many financial institutions do not give you a choice, we are left with the German amortization system. It involves a greater commitment at the beginning, but in the long run it is one of the types of amortization that is cheaper for the consumer.
Amortization rate, American system
In Spain it is practically unknown and it is the simplest of the three types of amortization. During the entire life of the loan, the corresponding interest is paid, except in the last installment, in which the total principal is paid. It is customary in the United States to open an account in which amounts are paid monthly to pay this last installment. In a way, with the American system of paying off a mortgage, he would have a double obligation, to pay the interest to the financial institution and make regular deposits for the payment of the principal.
The only a priori advantage of this system is that the account created for the entry of these advances of the final payment generates interest that can help alleviate the economic burden and that at the same time, serve as an incentive for individual savings, since banks ensure regular income over a very long period of time.
Mortgage repayment insurance
But the tricks of the financial institutions do not end there. As a consequence of the rising cost of housing, in many cases mortgages are signed for more than 50 years.
It is relatively common to see retirees who no longer work, but continue to pay mortgages, which in the event of death, their children or relatives inherit.
It is true that no one forces us to inherit, but to avoid that the bank has to assume the part of the debt that remains to be covered in case the heir does not want the house (with its charges and capital gains in case of sale), many banks offer life insurance.
It is nothing more than a way to guarantee that in the event of death, both the interest and the principal of the debt are paid, and everyone is happy. Or almost, because let's not forget that depending on which autonomous community you reside in, the inheritance tax will be more or less burdensome.
It is very common to find cases of heirs who after paying the rest of the pending amortization of a mortgage and inheritance tax, barely get a few thousand euros for a home that was mortgaged for years. And in the worst case, they have been forced to sell the property badly due to the low profitability of the operation.
To avoid the problems that accompany the inheritance of a property with a mortgage, it is convenient to take out amortization insurance, which guarantees that in the event of the owner's death, the mortgage will be extinguished and the heirs free of charges to be able to take ownership of the property. property or sell the property.
Types of mortgage amortization insurance
There are two types:
The insurance company will pay the same amount owed to the bank. In this case, the term of coverage is the same as in the mortgage, although the insurance installments decrease as the debt with the bank decreases.
The amount to be paid by the insurer is the same throughout the term of the contract. In this case, if the mortgage is € 100,000 and its owner dies after 35 years, the bank would receive the amount that it should pay and the family members the rest of the money.
In the second case, the insurance premiums are higher, because it is more or less life insurance, but in this way the mortgaged person knows that he will leave a part of the money to his beneficiaries.
The pressure from financial institutions to get the mortgaged to sign this type of amortization insurance (even if they sell it to us as life insurance) can be very strong. In most cases, they offer better conditions on the mortgage, such as a reduction in the variable of interest, which is normally associated with the Euribor.
It is important that those of your clients who are thinking of acquiring a home are clear about the limits and obligations of the different types of amortization insurance and that they read the fine print well. Although banks advertise them as life insurance, the reality is that in the event of death a significant part of the compensation would go to pay the rest of the mortgage, and most people do not know it.
Calculators for the amortization of a mortgage
Putting things like this, it is convenient to know from minute 1 what amortization system we are going to follow and how much the installments that will accompany us for a lifetime will have.
For these calculations there are numerous mortgage amortization calculators that as a real estate professional, you can recommend to your clients, as well as amortization tables. A few months ago we compiled the best mortgage amortization calculators on the market, although this time we are going to recommend those that allow you to see month by month how much of the interest and principal you are paying. In other words, they work as a mortgage repayment simulator.
Keep in mind that a mortgage is a contract with very harsh consequences in case of default, and it is convenient to know in advance until the last cent that we are going to pay for it.
These are the two calculators that we recommend:
Mortgage Reference Indices
This mortgage amortization calculator allows you up to 6 queries to know the complete amortization table (printable). In addition, it also allows two other interesting queries: the cancellation by early mortgage amortization and the change of mortgage.
With the return of mortgage credit on the horizon, it is possible that some of your clients are considering the change of financial entity or conditions. So that they can know how a change in mortgage can affect them, this tool allows to simulate the new conditions.
It will allow you to access the complete amortization table, in addition to consulting the total calculation of interest and principal paid off.
It is undoubtedly an attractive service that you can offer your clients if you have a real estate business. They will surely appreciate that as an agent, you offer them a relationship of trust beyond the mere business aspect of the profession.
Early repayment of a mortgage
There are also many cases of mortgages who want to give a boost to amortization, thus reducing the principal and therefore the associated interest.
If any of your clients plan to invest these savings, they have two options:
- Reduce the term of the mortgage and thus pay less time
- Reduce the amount of the principal, reducing the amount of the fees.
Which of the two options is more suitable?
To make a conscious decision, you have to take several premises into account:
In the first one, it is necessary to calculate the Euribor. As the main mortgage indicator, it is convenient to know the future prospects, since if a strong rise is expected, it will be advisable to reduce the principal to ease the interest burden.
We remind you that although the negative Euribor has encouraged the market, analysts do not consider that this situation will continue for much longer. At its worst (September 2008) it reached 5.4%, which moves this value away from time deposits.
In addition, it is necessary to take into account the profitability of the money destined for amortization. Regardless of whether your clients prefer to have money in hand or less debt, if the savings deposit is obtaining a good return, it will not be a good idea to use them to pay off a mortgage in question.
To know exactly the difference between the amortization of the mortgage or the profitability of the money saved, take out the calculator and analyze the two scenarios.
We must not forget either inflation, which has two possible effects. On the one hand, it can make our salary increase, but also higher interest rates. Remember that lowering interest rates is a measure of economic stimulus that is not eternal, and that usually accompanies the times of greatest prosperity.
Deflation (or falling prices) is the other possible effect that has a clear danger: the mortgage debt is gradually distancing itself from the real value of our apartment, which is reducing. Following the housing crisis, many homes have fallen below half their value. This has caused the real value of millions of properties to move away from the amount of the mortgage.
Finally, there are the tax aspects of amortization. Savings and amortizations, like many capital movements, are subject to fees.
Beware of the difference between cancellation fees and withdrawal fees. By law, the maximum withdrawal commission is 0.5% of the amortized amount during the first five years and 0.25% if the cancellation occurs after the sixth year. Cancellation fees are illegal today, although financial institutions usually set 0% by virtue of a Royal Decree that could be modified in the future. Although now they cannot charge cancellation fees, who does not guarantee that in the future they can?
If you want a good recommendation for your clients, remind them of this point. At present, there is no difference between the two commissions but we must not forget that a mortgage is a contract with a term that can easily exceed 30 years and that the vagaries of the legislation can favor it becoming a heavy burden.
Can you tell us about your experience with the types of repayments? Have you had to advise your clients in this regard? You can tell us about your experience in the comments of this post. Do not stop following our blog for real estate !