Amortizing your mortgage – directly or indirectly?

You must pay off part of your mortgage in the form of amortization. This can be done either directly or indirectly. Comparis explains which option makes sense and what obligations apply.

Lara Surber Foto
Lara Surber

05.04.2022

A model of a house next to a large quantity of coins. You can repay a mortgage in instalments.

iStock / Zephyr18

1.What does it mean to amortize a mortgage?
2.When do I have to amortize?
3.Is it worth paying off more?
4.What is direct amortization?
5.What is indirect amortization?

1. What does it mean to amortize a mortgage?

In mortgage terms, "amortization" means repayment in instalments or in a single payment. The conditions for this are laid down in the contract when the mortgage is taken out.

2. When do I have to amortize?

In general, the following applies to amortizing a mortgage in Switzerland: you do not have to amortize your first mortgage, but your second mortgage must be paid off within 15 years or at the latest by the time you reach retirement age.

What is a first mortgage?

When financing your property, you can borrow up to 80 percent of the purchase price in the form of a mortgage. You finance most of it with the first mortgage. It amounts to a maximum of two thirds of the market value of a property. You are not required to amortize your first mortgage.

What is a second mortgage?

A second mortgage covers the 65 to 80 percent of the property price not financed by the first mortgage. You must repay the loan within the amortization period of 15 years, but by retirement age at the latest.

Because of the increased credit risk, the lender generally charges a higher interest rate on the second mortgage (0.5-1.0% more than the first mortgage). The exact conditions may vary slightly depending on the company.

First and second mortgages: an illustration

Property purchase price CHF 1,000,000 100%
Deposit CHF 250,000 25%
Loan amount CHF 750,000 75%
First mortgage CHF 650,000 65%
Second mortgage CHF 100,000 10%

3. Is it worth paying off more?

It is up to you whether or not you pay down the first mortgage. It may be worth amortizing the remaining mortgage debt in addition to paying the contractually required instalments on your second mortgage.

This might make it easier to finance the property in old age. This is because the higher the mortgage, the more likely a lender is to demand repayments at short notice if your income situation worsens. This could happen if, for example, you no longer meet the affordability requirements after you retire.

Charges for amortizing the first mortgage

In the case of a fixed-rate mortgage, you can only amortize free of charge at the end of the term. You will be charged a penalty for repaying it early, unless your contract makes provision for amortization on an annual basis.

4. What is direct amortization?

Direct amortization means you repay the mortgage loan directly to the lender. With each payment the mortgage debt and interest owed decrease.

Why pay off your mortgage directly?

Direct amortization is suitable for borrowers who feel more comfortable with a lower mortgage debt. It also increases their disposable income.

Anyone who has made an early withdrawal from their pension to finance a property should first pay back the missing amount in order to benefit from the full pension cover once again. Only then should you begin voluntarily amortizing your mortgage.

Doing so increases your tax burden, however, because the possible tax deductions on debt from assets and interest are reduced.

Pros and cons of direct amortization

Pros

  • Mortgage debt falls steadily

  • Interest owed declines continuously while the interest rate remains the same

  • Psychological benefit of ever-lower debt

Cons

  • Tax burden rises steadily

  • Tax-deductible loan interest declines continuously while the interest rate remains the same

  • Amortization and pillar 3a contributions can be a financial challenge

5. What is indirect amortization?

With indirect amortization, your mortgage payments remain the same for the entire term. No payments are made to the mortgage provider. Instead, they are saved to a pension account, a pension portfolio or in the borrower's pillar 3a insurance policy. The mortgage is only paid off when the 3a plan is closed.

You can claim contributions to the tied 3a pension plan against income tax. A reduced tax rate applies when you draw a pension – at the latest when you reach retirement age.

Why pay off your mortgage indirectly?

Indirect amortization via pillar 3a is suitable for people who would otherwise be unable to afford the tax privileged 3rd pillar. Attractive in tax terms and particularly interesting for families is indirect amortization through life insurance as part of tied pillar 3a pension provision.

Indirect amortization through life insurance makes sense if the family wants financial protection. If the policyholder dies, the mortgage is covered by the sum insured.

Pros and cons of indirect amortization

Pros

  • The money to repay the mortgage is saved via a tax-privileged pillar 3a plan

  • More mortgage interest can be deducted from your taxable income for longer

  • Capital on the pillar 3a account accrues interest at a preferential rate

  • With indirect amortization via life insurance the mortgage is covered by the sum insured in the event of the policyholder's death

Cons

  • Mortgage debt remains the same while savings are accruing

  • Price fluctuations in pillar 3a securities plans may result in losses

  • Interest payments remain high

Are you still not sure which type of amortization is right for you?

Request mortgage advice

This article was first published on 07.10.2010

Welcome! You are now logged in.
Go to user account