4 Paths to Early Mortgage Payoff (And Pitfalls to Avoid)

Four Paths to Early Mortgage Payoff (And Pitfalls to Avoid)

Prepayment strategies don’t all look alike. Find out how lump-sump payments, micro payments or a HELOC could be used to speed up your mortgage payoff date.

If you’re a homeowner, you’ve probably dreamed of paying off your mortgage early. You’re not alone. In fact, more than half of all mortgage holders have made prepayments at some point, according to a Mortgage Professionals Canada report from 2024.

Turning that dream into an achievable goal requires money. But it also requires a plan.

There are multiple routes to becoming mortgage-free ahead of schedule, and they don’t all depend on an unexpected windfall.

1. Lump sum payment: Time it right

Lump-sum prepayments made early in the mortgage term have a bigger impact than those made later.

Why does the timing make a difference? The mortgage principal you repay over the life of the loan is a fixed amount (the amount you borrowed) while the interest is variable. The amount, which is calculated for each payment, is based on the outstanding principal at that time.

You can see this concept at work every time you pay your mortgage; each payment has a smaller portion earmarked for interest than the last.

The sooner you lower the outstanding principal, the longer you “avoid” paying interest on that amount.

Here’s what that might look like in practice. Say you have a 25-year mortgage with a starting balance of $350,000. A lump sum $35,000 prepayment would speed your mortgage payoff date — by a little or a lot — depending on when you make it:

When payment is made	Number of years shaved off mortgage
First year of mortgage	3.2 years
Fifth year of mortgage	2.5 years
Tenth year of mortgage	2 years
Fifteenth year of mortgage	1.6 years

2. Consider making micropayments

Even if you never make a huge lump-sum prepayment, you can still pay your mortgage off early.

Clinton Wilkins, team leader at Clinton Wilkins Mortgage Team in Halifax, says some homeowners add small amounts to their standard payment.

This could mean rounding up to the nearest $100. “Every little bit does help,” he says.

This method is unlikely to run into prepayment limits, making it a simple prepayment strategy.

Here’s how different micropayments could affect a loan of $350,000 with a 5% interest rate over 25 years.

Amount added to monthly payment	Number of years shaved off mortgage
$50	1
$100	2
$150	3

3. Prepayment at renewal

When one mortgage ends, there’s a brief window where you can make prepayments without penalty before the next one starts. If you want to make a prepayment that’s greater than what’s allowed under your mortgage’s terms, waiting until it’s time to renew may be your best option.

But what if you don’t have the full prepayment amount ready exactly on renewal day? Wilkins said some clients choose an open mortgage at renewal and, after making a large prepayment, convert to a closed mortgage soon after. This approach lets you reap the benefit of an open mortgage’s generous prepayment terms without paying the open mortgage’s higher interest rate for the entire term.

4. Put a HELOC to work

Using a mortgage combined with a home equity line of credit, also called a re-advanceable mortgage, can also help you achieve the dream of early-payoff. This strategy is more complex and riskier than those listed above.

Here’s what this approach could look like in practice. Say you get a new job. You want to make monthly prepayments of $1,000 for one year. With a HELOC, you could immediately borrow that full amount — $12,000 — make a lump-sum prepayment on your mortgage, and then aggressively pay that amount back to your HELOC over the coming year.

This strategy makes the most sense if the HELOC’s interest rate is lower than your mortgage rate. It also provides a level of flexibility: if a need arises, HELOC repayment terms are more flexible than mortgage terms.

However, there’s added risk in taking out one loan to pay another. If your expected extra cash flow dries up or if interest rates go up unexpectedly, you could end up even deeper in debt.

What about the Smith Manoeuvre?

The Smith Manoeuvre combines the prepayment possibilities of a HELOC with a tax strategy:

Each time you make a mortgage payment on a re-advanceable mortgage, the amount you can borrow from the HELOC increases.
Borrow the maximum amount after each mortgage payment.
Invest the borrowed money. Hope to earn a higher return than the interest rate you’re paying.
Claim interest paid on the line of credit as a tax deduction.

This strategy can pay off, but it adds additional risk and complexity. Lackluster investment performance could quickly send your finances in the wrong direction.

Plus, strategies like this depend on an accurate interpretation of tax rules. Don’t confuse a basic understanding of the general strategy with an assurance that it will work as intended — this is one where you’ll definitely want a tax pro to evaluate your personal financial situation.

Align your plans with prepayment privileges

If you’re shopping for a mortgage and hope to make prepayments, be mindful of prepayment limits. One loan may allow prepayments up to 10% of the original mortgage amount while another allows 20%. These terms vary by lender as well as by product: a single lender may offer different prepayment terms for different loans.

A higher prepayment limit isn’t automatically better. You may find that a lower limit, like 10%, adequately covers what you’re likely to prepay during the mortgage term. That’s fine — prepaying 10% of your mortgage in one year is still a big deal!

Matching prepayment privileges with your plans is important. If you exceed the limits outlined in your mortgage contract, you’ll pay prepayment penalties.

Generally, penalties on closed mortgages work like this:

Variable-rate mortgages have lower penalties — typically three months’ interest on the amount.
Fixed-rate mortgages have higher penalties — the penalty is either three months’ interest or an interest rate differential. The IRD calculation varies by lender and is based on the difference between your current rate and the lender’s posted rate.

If you have an open mortgage, you can make prepayments without penalty. That ability comes at the cost of a higher interest rate. An open mortgage may make sense if you anticipate paying down principal fast enough to outweigh the extra interest cost.

Before you start

Using extra cash to pay off your mortgage may sound like a responsible, prudent decision — the antithesis of going on a shopping spree. But, in some cases, it may not be the optimal choice. If any of the following describe you, think twice before rushing to prepay your mortgage.

You have consumer debt. Your mortgage might be your biggest debt, but consumer debt — like credit cards — typically has much higher interest rates. You’re better off paying down high-interest debt first.
You just came into money. Unexpected windfall? Wait a while before making any big decision about what to do with it. While you wait, keep it in a high-interest savings account, and you’ll have even more when you’re ready to take action.
You may have big upcoming expenses. Get past any cash-hungry items on your to-buy list — a new roof, a wedding, a new vehicle — before assigning extra money to your mortgage.

Paying off a mortgage early is a common goal for Canadian homeowners. The route that’s best for you has many variables: how much you can prepay, when you’ll have the money, what your current mortgage contract looks like, among others. If you’re near renewal, talk to lenders or mortgage brokers about your prepayment goals.