What is ‘Paydown’
Paydown occurs when the amount a company or government repays in debt exceeds the amount it currently borrows. A paydown takes place when a company reissues unpaid debt for less than the initial issue. For example, if a company pays $8 million in corporate bond maturities and issues $5 million in new bonds, then the company has $3 million less in debt because it has paid down its debt.
BREAKING DOWN ‘Paydown’
Paydown is also when a mortgage borrower pays the principal and interest of a mortgage. In doing so, the borrower is paying down his debt. In general, paydown also refers to repayment of any outstanding loan. It could mean paying down a car loan, credit card debt, a school loan or any other type of debt.
For a paydown to take place, a reduction in general principal must occur. Interest-only payments do not directly affect the principal of the initial loan. Therefore, the action associated with a paydown, a lowering of the borrower’s debt total, did not occur with an interest-only payment.
In accounting, the paydown factor represents a complex mathematical formula used to determine the amount of principal still owed within a group of mortgages. In times of economic prosperity, this number generally moves down as a reflection of timely mortgage payments by borrowers, though this downward trend may be interrupted when new mortgages are created.
Early Debt Payoff and Total Interest
In circumstances where a borrower is submitting more than the minimum required payment (covering the standard principal and interest payments), the excess is often directed towards paying down the principal. Since this lowers the principal immediately, less interest on the account will be accrued as compared to if just the minimum payment had been sent. Monthly interest owed is determined by a formula that calculates the particular percentage of the principal, directly correlating to the interest rate on the loan. A lower principal results in lower accrued interest. Over the life of a large loan, such as a mortgage, the savings can be significant.
Paydown and the Bond Market
A paydown also occurs when a bond-issuing entity creates fewer bonds than the payout of the last mature set. Since outstanding bonds represent a debt owed by the issuing company, paying off $1 million in bonds and only issuing new bonds in the amount of $500,000 reflect a lower debt load. This is because the $1 million debt is considered paid in full, and the new debt of $500,000 is lower than the previous $1 million amount.