In my opinion, the best way to make prepayments of principal is to use an amortization schedule and follow the method described below.

Each month, your payment of principal and interest is the same. The only thing that changes is how much of each payment goes to principal, and how much goes to interest.

Suppose when you make your first mortgage payment, you decide to pay some additional principal. Instead of sending in an arbitrary amount, use the amortization schedule to see what the principal portion of payment number two is. Pay that exact amount. By doing this, you’ll take one month off your mortgage because in one month, you’ll be making two payments of principal. If you do this every month, your 30 year mortgage will be paid in full in 15 years! Sending the principal portion of the next monthly payment also gives you the ability compare the balance on the amortization schedule with the balance your lender has, and to catch any mistakes your lender makes in applying the prepayment to your account. If you send in an arbitrary amount, you lose the ability to keep track of your balance, and you take the chance that the lender will apply the payment incorrectly.

When you get to month number two, you’ll be at payment number 3. If you want to prepay again, add to your regular payment the principal portion of payment number four.

On a 30 year, $250,000 mortgage at 6%, if you make no prepayments of principal, after the first 5 years you will be at payment number 60, and your principal balance will be $232,635.66. By making a prepayment using the method I’ve described, after 5 years you will be at payment number 120, and your principal balance will be $209,213.76. In just 5 years, you will have $23,421.90 more equity, and you will have saved $69,488.83 in interest. In 15 years, your entire mortgage will be paid off, and you will save $144,484.94 in interest.

Before you make any prepayments of principal, you need to check the promissory note you signed when you obtained your mortgage to verify that prepayments are allowed without penalty.

When you send in your mortgage payment, include a note indicating that your payment includes an additional payment of $ (insert dollar amount), and that the additional amount should be applied to principal. Keep a copy of the note with your amortization schedule. On the other hand, if you have a mortgage coupon and it has a line where you can insert the extra principal payment, you can use that instead of a note.

Make sure your mortgage company is applying your prepayments correctly. Sometimes, mortgage companies apply the prepayment to something other than principal, and that won’t do you any good. On a regular basis, you should check to see that your mortgage company has applied your prepayments correctly. This is easy to do. Compare the balance that your mortgage company says you owe with the balance that your amortization schedule shows you owe. You can check the mortgage company’s records by phone, on the web, or by looking at their monthly statements. With your amortization schedule in front of you, and your notes that you sent in with your checks, proving to the mortgage company what your correct balance is will be pretty easy.

Although I’ve given you a link for an amortization schedule to explain the concept of making prepayments, you should use an your amortization schedule supplied by your mortgage company so that you’re both using the same figures. Otherwise, the numbers will not match and you won’t be able to verify your exact balance. If you don’t receive an amortization schedule at your settlement, contact your mortgage company and they will send you one.