Repaying Loans Fortnightly or Weekly Won't Always Save You Money

Have you ever heard "Just by changing your home loand repayments from monthly to fortnightly you can save $$$ and pay your loan off much sooner?" Often this is presented with a wonderful little chart showing one path hitting the zero line much quicker than the other.

Well, if your paid monthly, then this is not true. If your paid monthly your always better to repay monthly, prefferably at the same time you get paid.

The golden rule with reducing compound interest is "pay as much as you can as soon as you can".

So if you being paid monthly, repay monthly. If you getting paid fortnightly, repay fortnightly. If you being paid weekly, repay weekly.

I've had bank managers and loans officers who can't get this simple concept. In one case I had a loans officer change my repayments to fortnightly even though I demanded they remain monthly. In another case, when we went shopping for a home loan, only one out the six loans offices we talked to could answer the following question correctly:

"If I'm being paid monthly, am I better to repay monthly or fortnightly?"

How did they get it so wrong?

Well we need to go back to when repayments were almost always monthly, but most people were paid fortnighly. For the banks, handling the loan repayments was a much more manual process, and so was best if only done once a month. With the introduction of computers, handling repayments was less expensive.

Since most people were paid fortnighly, it was actually better for them to repay fortnightly.

But the main factor that makes fortnightly repayments quicker was that it involved extra payments. When repayment was monthly, that meant that most months, a person would be paid twice, but around every 6 months, a person would be paid 3 times in a month. They were like bonus months where a person would either spend the extra money on something or add it to there savings. By changing to fortnighly these previously extra pays were now going back onto repaying the bank loan.

It all depends on whether you fornightly repayments were caclulated as half the monthly repayments or as 6/13 (six thirteenths) of a monthly payment. The later provides a more accurate comparison of repayments, but the first one gets the graph to zero much quicker and that's a selling point.

The trick is that this all assumed that the person making the repayments is paid fortnightly. The problem is that the hype about repaying fortnightly get repeated like parrots, but the assumption of fortnighly payment is never mentioned.

So don't trust a bank to get it right.