2017-02-15 | Marcus Miller

Should You Pay Off Your Mortgage Early?


Should you pay off your mortgage early?


A question I frequently get from clients – and one that my wife and I have discussed as well – is “should we pay off our mortgage early?”  The answer, I’ve found, is not as straightforward as it might sound.  And what’s best for one person may or may not be the best option for someone else.

As with almost every big decision made in the Miller household, my wife and I approached this one by preparing a list of pros and cons and made a choice based on the reason(s) we found most compelling (by this I mean my wife rolled her eyes and had a glass of wine while her OCD husband captured the brainstorming session in an Excel worksheet).

Here are the primary cases to be made for each side:

Reasons you should not pay it off early

- Invest the difference -If you invest your money, you will likely get a rate of return that generally is higher, in the long run, than the interest rate on a mortgage.  By borrowing at low rates and investing your excess cash, you will end up with more wealth in the end.

- Interest rates remain historically low - Assuming you have taken advantage of this by locking in a low fixed rate for a long term (e.g. 30 years), you will benefit when interest rates and cost of living increase.  It’s safe to assume that the cost of a bag of groceries and a pair of shoes will more than double in the next 30 years.  But your mortgage payment, meanwhile, will remain the same.

- Deductible interest - Our government has long been a proponent of home ownership, and your mortgage interest is tax-deductible as a result (assuming you itemize deductions).  For example, if your mortgage rate is 4% and you are in the 33% tax bracket, the effective rate on your mortgage is only 2.68% (it’s even lower if you take state and local taxes into consideration as well).

Reasons you should pay it off early

- Save on interest expense - It will save you tens or even hundreds of thousands of dollars in interest expense.  For example, let’s suppose you have a $300,000 mortgage at 4% for 30 years.  If you were to adhere to the standard payment schedule, you would end up paying about $216,000 of interest in addition to the principal repayment.  And this number goes up significantly if the interest rate is higher.

- Peace of mind - Some people just don’t like debt.  This is difficult to quantify, but for some people, is the most important factor of all.  The prospects of job loss or the stock market tanking are far less likely to cause panic if your required monthly cash outlay does not include a house payment.

- Less risk Paying off your mortgage effectively gets you a guaranteed rate of return equal to the interest rate on your mortgage.  The same cannot be said of the stock market.  Given the choice between guaranteed savings of 4% interest on their mortgage and a rate of return on investments which may be higher or lower, many conservative folks will take the “safe” bet.

- Forced saving - In reality, some people just are not good savers.  For them, best laid plans to borrow at a low rate and invest the cash freed up by a low monthly payment are derailed by overspending.  If this is you, the best thing you can do is recognize that extra money tends to burn a hole in your pocket, and consider paying off your mortgage as a “forced” savings vehicle.

Bottom line

For some people, it’s as simple as basic math – Why would you pay off a low-interest tax-deductible loan if you think you can earn more by investing your excess money instead?

For others, it’s not about the numbers.  It’s about being debt-free and the peace of mind that comes along with it.

Many people struggle to reach a decision on this topic, and their uncertainty leads to inaction (which of course is by default a decision not to pay off the mortgage early).  Talk with your advisor about your options so that you can craft a roadmap toward the things that are important to you.

If you have not worked with Deerfield Financial Advisors before and you are struggling with this uncertainty or other financial stressful moments, contact us