Should I pay off my mortgage early?

Household 4 min read

If you’re like most Americans, your mortgage is one of your biggest monthly expenses. Can you imagine what it would be like to not have to pay your mortgage every month?

If you were to eliminate your mortgage payment, you would be able to do more with your monthly income. Perhaps, you would have a surplus of cash you could invest or use to check items off your bucket list. However, while for some, paying off their mortgage might seem like a dream, it’s not always the best solution for homeowners. To identify if paying off your mortgage is the right financial move for you, here are a few things to consider.

Advantages of paying off your mortgage early

If you’ve considered paying off your mortgage early, then you’ve probably thought about all the benefits it would bring. The benefits are different for everyone, but here are a few of the most common advantages of paying off your mortgage early.

Interest savings

Home loan interest can cost thousands or even tens of thousands of dollars over your loan term. Paying off your mortgage early frees this money up to use toward investments instead of interest payments.

Although paying off your home early would mean that you lose the opportunity to take a mortgage interest tax deduction, you’ll save significant amounts on interest. Additionally, as you inch closer to paying off your home loan, more of your payment goes toward your principal amount, which decreases the amount of interest you can deduct.

Peace of mind

While most Americans want to retire by age 67, they may not have the funds, according to a 2020 TD Ameritrade report. The report surveyed 2,000 U.S. adults age 40 to 79 with $25,000 of investable assets and found that almost two-thirds of people in their 40s had less than $100,000 saved for retirement. Additionally, 28% of those in their 60s had less than $50,000. With some experts recommending a savings of 12 times your pre-retirement salary, this creates a large savings gap.

Regardless of how far you are from retirement age, you may want to pay close attention to this information. By paying off your mortgage early, you’re able to eliminate the monthly expense of a mortgage in retirement. If you’re one of the many that don’t have large retirement savings, eliminating this expense can help you stretch your retirement income further. This may give you and your family peace of mind, as well as protect your lifestyle in retirement.

Disadvantages of paying off your mortgage early

As with any major financial decision, there are potential drawbacks. While you may think that paying off your mortgage early is the right move for you, be sure to consider the side effects of tying up all your funds in your mortgage.

Deficient retirement savings

If you do not have large retirement savings and are considering paying off your mortgage early, you may want to reconsider. The reason you should stop and think about this decision is compound interest.

In investing, compound interest is earned on the principal and the interest in your account. For example, if you were to contribute $6,000 per year ($500 per month) into your retirement account and it was earning 5% interest, at the end of the first year, you’d have $6,300. The next year, that account would earn 5% interest on the $6,300, and continue for the life of the account. After 30 years, you’d have contributed $180,000, and the account would be worth $398,634.

If you used that $500 a month to pay down your mortgage faster, you might be able to shave 15 years off your 30-year mortgage. However, the value of your home is not likely to increase at the same rate as the compounding interest in your retirement fund. Therefore, you may want to use the money you’d use to pay off your mortgage early to invest instead.

Lack of an emergency fund

It’s important to have an emergency fund in case something happens to your home. For example, if your HVAC goes out and needs to be replaced, do you have the funds to pay for it? If you’re faced with financial hardship, you want to make sure you have plenty of money set aside to afford the unexpected expense. If you’re using all of your excess funds to pay down your mortgage, you may not have any money left over in the case of an emergency.

So, if you decide to make some early payments on your mortgage, make sure to have an emergency fund or rainy day fund set aside. This will help you be more financially secure before you start accelerating your mortgage payments.

High-interest debt

If you have high-interest revolving debt, such as a credit card balance, it’s best to focus on paying this obligation before you start paying off your mortgage. Credit card issuers use compound interest formulas. Therefore, if you have high-interest debt, it’s better to pay it off before making early mortgage interest payments.

Absence of diversification

Having and maintaining a mortgage allows you to hold other assets. For example, as you pay off your debt and gain equity in your home, you can also build up your retirement fund or other investments. Although a home’s value may be relatively stable, it’s a good idea to build other assets in case you need them.

The bottom line

There are pros and cons to almost every financial decision you’ll make. It’s important to evaluate your unique financial situation to determine what’s best for you. Keep in mind, even if you don’t pour every extra dollar into your mortgage, making additional payments can help you chip away at the principal amount.

If you decide to start overpaying on your mortgage, many lenders will allow you to make extra principal payments each month without penalty. By doing so, you can significantly lower your interest and even reduce the term of your loan. Be sure to ask your lender if there are any penalties or fees involved with making extra mortgage payments.

Finally, you may decide to put some extra money into your mortgage and continue to build other assets simultaneously. This strategy is less aggressive and allows you to invest in other assets to diversify your investment endeavors.

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