Debating whether you should pay off mortgage or invest money? Then keep reading to come to a decision!
Pay Off My Mortgage Or Invest My Money? Here’s How to Decide
If you come into any kind of financial windfall—whether a raise or bonus at work, a settlement or an inheritance—you might wonder what the best strategy is for putting that extra cash to good use.
You have some excellent choices! You could choose to pay down debt—including your mortgage—or you could opt to stash that money away for the future, including retirement savings. It can be tricky to decide.
The truth is there’s no perfect answer that’s right for everyone. Either strategy can make good financial sense. Whether it’s best to pay off your mortgage or invest in retirement first will depend on many factors. Those variables include your age, your existing retirement saving situation, the length and stage of your mortgage, and whether those extra dollars are coming from a lump sum inheritance vs. an income boost.
Let’s look at how these different scenarios might impact your decision to pay off mortgage or invest in retirement.
Pay Off Your Mortgage Early?
It’s understandably tempting to pay off your mortgage if you have the opportunity due to an influx of cash. The prospect of being debt-free (if in fact, your mortgage is your only debt) is very appealing, as is the idea of truly owning our home outright.
There are benefits beyond the feeling of freedom from debt and the autonomy of home ownership… You could also save a lot of money in interest.
Where you are in your mortgage cycle is a major factor in determining the wisdom of paying it off early. That’s because in the earlier years of a mortgage, more of your payments are made up of interest. So if your mortgage is on the newer side, paying it off could be a wise decision.
On the flip side, if you’re not planning to stay in your current home for long, it wouldn’t make sense to pay off a mortgage.
Here’s a rundown of the upsides and downsides of paying off a mortgage early.
ADVANTAGES OF PAYING OFF YOUR MORTGAGE EARLY
- SAVE ON INTEREST. You can save thousands of dollars in interest by paying off a mortgage early, especially if you’re earlier in the mortgage cycle. Over the life of a loan, interest can add up to well over $100,000 for a 30-year mortgage, which represents a significant loss.
- FREE UP CASH. By wiping out your mortgage and eliminating monthly payments, you free up money every single month that can be used for investments and savings, recreation, or home improvements.
- BUILD EQUITY FASTER. When you pay off (or pay down) your mortgage, you build equity in your home more quickly. That equity can be tapped as needed for cash, as well as qualify you for money-saving refinancing. And when you do sell the home, the proceeds will be larger.
- PEACE OF MIND. Having a home that you own outright puts you in a better position if there’s a financial emergency. You’ll never have to worry about missed mortgage payments or foreclosure. For many people, it simply feels better not to be varying that much debt, even if it’s relatively low interest.
DISADVANTAGES TO PAYING OFF A MORTGAGE EARLY
Are there downsides to paying off a mortgage early? Definitely, and it’s important to consider them along with the positives.
The chief concerns with paying off a mortgage early are:
- ALL YOUR EGGS IN ONE BASKET. If you put all of your liquid cash or savings into your home, that leaves you with only one investment, which is inherently risky. It’s better to be at least somewhat diversified.
- NO LIQUIDITY. By pouring all (or most) of your cash into real estate, you’re locking up that money in something that makes it hard to access. It’s important to keep some cash available for financial emergencies.
- YOUR RATE OF RETURN MAY NOT BE AS HIGH. If you place all your extra cash into your home by paying off a mortgage, you’re missing out on investments that could earn you a higher rate of return (e.g., the stock market.)
- NO MORE WRITE-OFFS. The tax deductions available for mortgage interest payments can help lower your tax bill considerably. If you have no mortgage, you lose this benefit.
- PENALTIES. Some lenders impose prepayment penalties for paying off a mortgage too soon. You’ll want to check the fine print of your loan.
The mortgage interest rate is also important to consider. If mortgage rates are low, it’s cheaper to carry debt despite not liking the feeling of being in debt. When mortgage interest rates are low, it makes sense to use your cash to grow your wealth more through higher-yield investments.
Invest Your Money Into Savings?
Considering the pros and cons above, you might find it makes more sense given your personal situation to move your influx of cash into retirement funds or other savings, rather than pay down or pay off your mortgage.
Stashing your cash into a traditional investment vehicle—whether retirement accounts or other savings—may put you in a better position long-term.
Let’s look at the benefits and pitfalls of using your financial gains to invest in the future, rather than pay off your mortgage:
- RATE OF RETURN. While there’s more risk with some financial vehicles, you might earn far more money investing in the stock market than you’d save paying off your mortgage early. (The trick is that while there is that potential, there’s no guarantee either.
- THE EARLIER YOU INVEST, THE LONGER IT GROWS. There’s no time like the present to jump on saving for retirement! The sooner you put money into a retirement account, the more time it has to grow. Time is your friend: most people don’t realize the difference that compounding makes with investment growth. By earning returns on your original investment and on returns you received previously (if you reinvest your returns) you can grow your wealth significantly.
- CASH ON HAND. Investments offer liquidity that real estate does not. If you need that money for any reason, stocks and bonds will be far easier to sell than it would be to sell your home or even get a refinance for cash.
- FREE MONEY. If you’re employed and your employer matches 401k contributions, you’re leaving money on the table if you don’t max out your own contributions. If this is an option for you, there’s a strong case for shuttling that money into a 401k.
On the downside, if you choose to put this increased income or cash toward savings rather than your mortgage, you will still have mortgage payments, with interest accruing, and most investment vehicles carry inherent risk and no guarantees.
Can I Invest My Money AND Pay Off My Mortgage?
While choosing to do both at once limits the amount you can invest in your home or your future wealth, you certainly can make decent progress toward each goal at once as a compromise. This way, you can still put money away for your future while also building equity in your home.
One way to “have it both ways” is to refinance rather than pay down or pay off your mortgage. This is an especially good idea when mortgage rates are low. It’s possible to save considerable money by obtaining a lower interest rate. If you reduce your mortgage term length at the same time, you’ll save even more. This doesn’t preclude also paying down the loan more aggressively later.
Keep in mind that you always have the option of paying off part of your mortgage, which frees equity to be used in the form of a home equity loan or line of credit. Or you could refinance with cash out. This won’t leave you debt-free, but it does let you leverage the money you’ve invested into your home, while reducing that interest load at the same time.
Other Ways to Use Your Cash Influx
If your income increases or you receive a lump sum of any kind, there are other ways you might consider using that money besides paying down mortgage or investing in retirement savings.
For example, if you have high-interest credit card debt, it’s highly advisable to reduce or eliminate that first, since the interest rates on your mortgage are undoubtedly far lower than those on your credit cards. You could also consider putting some of your increased income or capital to paying off student loans.
The Verdict: Should I Pay Off My Mortgage or Invest?
Evidently, aspects of your life and personal financial situation will play into your decision to pay off mortgage vs invest. If it’s still not clear to you, a qualified financial advisor can help you. This would be through assessing your options and choosing the best one for your needs.
Would you like to speak with us? Reach out by scheduling a free consultation (https://www.calamitawealth.com/contact/). This way we can learn more about you, and see if we can help. At Calamita Wealth Management, we are fee-only, fiduciary, and independent financial planners. That means we’re never paid commissions of any kind. We have a legal obligation to provide unbiased and trustworthy financial advice that puts your best interests first. Our mission is to ensure your successful retirement! We do this by providing you with effective financial planning based solely upon what you want your life to be.
Regardless, lowering your debt or increasing your retirement savings are both excellent strategies for nurturing your wealth and peace of mind. If you have the opportunity to do either, it will certainly benefit you.