Interest Rate VS Interest Cost

A Better Way to Eliminate Debt!

Even if you have a credit score in the 800’s and you have what is considered a great interest rate on your loans; You may be among the many who are realizing that you are paying more cumulative interest than you want to.

If I have just described how you are feeling, then keep reading! You are among a growing number of people who are realizing the difference between Interest Rate and Interest Cost. Interest Cost is the actual amount of interest you pay to service your loans. More importantly because of the amortized loan, even with perfect credit, banks are experts at getting you to pay 75% more interest than you need to!

For instance, if you acquire a $750,000 mortgage at 4% for 30 years, the total interest cost will be $539,019.60, that is 71.869% of the principal borrowed. The total amount of principal plus interest repaid is $1,289,019.60. Our artificially intelligent computer program reverse engineers the banks amortization schedule so that a PILL Method client will only pay about $175,000 in interest. Thereby eliminating all of their debt including this mortgage and their student loans in an average of 7 to 9 years, using the same budget and without sacrificing lifestyle!

The banking system has us so focused on Interest Rate that we totally miss the fact, that the unnecessary interest paid, in the aforementioned loan, has a hidden opportunity cost. In just this one instance, $2,505,700 of potential wealth accumulation will never be realized, because monies that could have been invested were siphoned off to pay the Cost of servicing debt!

There is a relatively new science that has emerged in the last few years known as Behavioral Economics. Nobel Prize Laureates Daniel Kahneman and Richard Thaler along with such notables as Amos Tversky and Dan Ariely have popularized the subject through their books . . . Nudge, Thinking Fast and Slow, and Predictably Irrational. The information in these books show that humans are not very good intuitive economists and would rather rely on heuristics (rules of thumb) and the advice of “experts” when it comes to most financial decisions instead of actually doing the math to assess a financial decision’s true cost.

Those who are involved in marketing products for the banks are very aware of how we make decisions about finances and we can be easily persuaded to spend a lot more interest than we need to pay, while at the same time believing we are saving money.

I wish I could elaborate on several Opportunity Cost mistakes we make…but here is a classic. The home refinance: This family has a credit score 795 and they have a $400,000, 30-year mortgage at 4.5% that they have had for the last five years. With all of their on-time payments they have managed to pay down the principal on this loan by $35,368.27, but the nearly invisible cumulative interest cost is a whopping $86,236.13! For a five-year grand total of $121,604.40, while ironically focusing on maintaining a perfect record of not paying a single cent towards credit card interest, paying them off every month. The mortgage interest cost went virtually unnoticed! In my book I call this invisible interest consumption.

The unpaid mortgage balance is now $364,631.73, to close this loan the fees amount to $7,000. The new loan amount is $371,631.73. It was also decided to take the remainder of the loans, for a boat, a car and new central air system and roll them into this new 3% mortgage for an additional 20K, because the interest on these loans is now potentially tax deductible.

Now the new loan amount is 391,631.73. The new monthly mortgage payment is now less by $375.44 and we must also mention that by rolling in the boat, auto, and central air loans, we have just eliminated $971.21 in those loan payments as well. For a total monthly savings of $1,346.66! Since the mortgage costs $7,000 and the savings amount to $1,346.65 it will take just over five months to recoup the expense of refinancing. This is how a refinance is sold to people with perfect credit.

Here is the rest of the story. It will take 39 months of on-time payments to pay off the 27k rolled into this new “low interest” mortgage to get back the original principle balance of 364,600 before the refinance. Here is how the bank takes advantage of Behavioral Economics and our intuitive accounting.

The Interest Cost to pay off the first 27k in 39 months is an unbelievable $36,800! In other words, a family with perfect credit who believed they made a good deal for themselves just signed a loan contract to borrow 27k for 39 months and pay 36.8k in interest. Only in refinancing would this family sign up for such a loan. Just in case you are interested, just to pay off the $7,000 closing fee, it takes 11 months and a cumulative interest cost of $13,000, for a total cost of 20k to refinance this loan!

To avoid this and other costly financial mistakes contact P.I.L.L Method International at 256.886.1867 or at PILLMethod.com. My new book, The PILL Method: A Better Way To Eliminate Debt, is available on Amazon.

By Don Daniel, CEO and Founder The PILL Method International

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