Do Not Pay Off Your Mortgage Early
You heard right. This money and savings expert is arguing AGAINST paying down what is typically a family’s largest debt.
I know this may not be what you expected to hear from a personal finance veteran. This advice goes against everything we’ve been told our whole lives about debt. Our parents and mentors have told us over and over again that debt is bad and you should avoid it at all cost. While this statement is true it’s kind of a blanket statement.
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As we’ve gotten older and more educated we’ve learned terms like good debt and bad debt and the difference between them. Good debt is anything you need but can’t afford to pay for all at once up front, NEED being the key word. This includes a mortgage or student loans.
Home mortgage loans are considered good debt because they are currently “cheap money.” Over the last decade mortgage rates have been very low, historically speaking. My mother-in-law nearly fell out of her chair when I told her Mr. Patterson and I’s mortgage rate was less than five percent. When she and her husband bought their house in the early 90’s they were paying over nine percent for their mortgage.
If you have a low mortgage rate most likely your money would be better spent investing it rather than using it to pay off your mortgage early. Historically the S&P 500 has returned an annual average of 9.8 percent gain. I’m no math wizard but I know earning 9.8 percent on my money is better than five percent.
You might be saying 9.8 percent is unrealistic in this market. But even if you are earning seven or eight percent on your money that’s likely a higher amount than you are paying in interest on a home loan.
Not paying off your mortgage early also makes sense if property values are declining where you live. Don’t throw extra money at a depreciating asset. In most cases property values drop faster than you can pay down your mortgage so paying more towards it every month will not catch you up. While buying a home is an investment, it might not ultimately be worth what you paid for it. Instead take the extra bit of cash each month and put it into, tax deferred retirement accounts, bonds, dividend paying stocks, or invest it in an appreciating asset.
In addition, do not try to pay off your mortgage early if you are planning moving in the next few years. If your plans are to sell your current home and use the proceeds to make a sizeable down payment on a new, better place then don’t use your extra cash to pay down your current mortgage. While it may have worked for the Jefferson’s, it defeats the whole purpose behind paying off your mortgage early.
Don’t even think about putting extra cash towards your mortgage if you have credit card debt. Typically credit card companies charge 17-30 percent in interest charges on your debt, which is much more than you are paying in interest on your mortgage. Pay down the debt that charges the highest interest rates first and work your way down the list. Your mortgage will be one of the last things on the list.
Also if you do not have an emergency fund or health insurance put your extra cash towards both of those two things before your mortgage. You need enough money to cover six months to a years’ worth of living expenses in the bank. As for health insurance I bring this up because fifty percent of all bankruptcies involve medical bills.
I’ve named a number of scenarios in which I advise against paying off your mortgage early but there are a few times in which I would be in favor of it.
One instance is if your current mortgage involves private mortgage insurance (PMI). Homeowners must pay PMI when they put down less than twenty percent. They continue to pay the PMI until their loan reaches that critical eighty percent balance. Once your mortgage is equal to or less than eighty percent of the home’s value you no longer have to pay private mortgage insurance effectively saving yourself hundreds of dollars a month.
If your desire is to refinance your loan soon then certainly paying down your mortgage as much as you can will benefit you. The more of your home loan that you’ve paid off, the less of a risk you are in the eyes of a bank. If you still owe eighty percent of your home’s value, the bank might see you as a higher risk client than someone who only owes twenty percent, thus reducing the rate you’ll qualify for.
I am also for paying off your mortgage early if you are quickly approaching retirement. Many people choose not to pay off their mortgage early because of the tax advantages they get. By the time you reach the age in which you can retire the tax benefits of a mortgage are typically minimized. Plus, making mortgage payments in retirement often means having to take out more money from your tax-deferred retirement accounts, which can increase your tax rate.
As you can see there is no one size fits all answer to the age old question of whether or not to pay off your mortgage early. For the most part though, there are more instances in which investing and growing your money would be more financially beneficial to your family than paying down a low interest debt. If you have questions like this please send them to me at firstname.lastname@example.org. Who knows I might pick your question one week and answer it in an article!
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