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German mortgage fundamentals

How quickly should I pay off my mortgage?

Before closing your mortgage, you must be aware that the typical mortgage is paid back over about 30 years. While it's hard to plan that far into the future, it's important to understand the implications of having a shorter or longer fixed period. You must consider your income growth over this period of time and your job security.

It is also useful to understand that in this area the Germans do it differently. While in most countries around the world the standard pay-back period is fixed at a number of years, notably 30 years, in Germany, they use the so-called "Tilgung" approach. You choose what percentage of the mortgage you want to pay back, starting the first year. If you choose a repayment rate of 3%, you would pay back 3% of the mortgage the first year. In the second year, your payback would be slightly higher than 3% as your interest payments have declined a little (as your mortgage is lower). So with a repayment rate of 3%, you may pay off your loan in about 30 years.

Does it make sense to choose such a high repayment rate? Interestingly, in Germany, interest rates barely increase if you reduce your repayment rate. So if your income is the constraining factor in determining how much house you can afford, but you have good prospects for income growth, then, by all means, choose a lower repayment rate. Then, over time, you pay it off faster as your income allows.

Indeed, you could pay off quicker making use of the so-called "Sondertilgung". Nearly every mortgage in Germany includes that option. You can also select a quicker pay-off when you refinance your mortgage and your income has grown. Count on refinancing your mortgage at least once if you stay in your house for a long time, as a 10 year fixed rate is often the best option.

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