Reflections

Does It Make Sense to Pay Off Your Mortgage Early?

By Sean Condon, CFP®

In its French and Latin origination, the translation of the word mortgage is “death pledge.”  It is not surprising that many individuals dream of the day they can pay off their mortgage, burn the bank note, and live debt free.  This is a goal worth celebrating for sure, but does it apply to your own situation?  Should you throw every extra dollar toward your mortgage or should you invest that money instead?  Like most financial choices, the answer is going to differ depending on your unique situation.  Let’s look at the pros and cons of each strategy.

What Will Give You the Most Growth?

The most important factor when evaluating your options is that of growth.  A dollar spent paying down a mortgage is one that could be invested elsewhere.  You want your money to work for you, so the question to ask is, “What option will give you the biggest payoff?”  In this case, you will find the answer by pitting your mortgage interest rate against your expected investment return.  You can calculate some rough numbers to assess which decision would make more financial sense.

Let’s look at an example to give you some context.  Say your mortgage interest rate is 5%.  If you estimate that, based on your risk tolerance and time horizon, you can pursue an investment return of 4%, it would make more sense to pay down your mortgage.  Otherwise, you are potentially throwing away 1%.  However, if you are not as conservative with your investments and believe you could earn 8% on your investment, it might be more beneficial to invest.

This may sound simple on paper, but there are plenty of factors that could affect the outcome. And as we all know, even the best return estimates are far from guaranteed.  It is important to run a thorough analysis and consider taxes on investments, mortgage interest deductions, risk, and private mortgage insurance, among the other elements of your financial life.

Weighing Your Options

There are some pros and cons to each choice that go beyond the raw math.  Liquidity is a significant pro for investing since you will have greater access to the funds in case of an emergency.  If you put the money toward your mortgage, for all intents and purposes, it is not accessible.  The only way to get the money back is to sell your house or refinance your mortgage.

On the other hand, an advantage to paying down your mortgage is that your house will be paid off sooner.  You will have a greater chance of being able to enter retirement without a mortgage, or at least have your mortgage paid off earlier in retirement.  This lets you free up more cash flow for your retirement.  If you invest, your mortgage will be another bill you have to pay while in retirement.

The Diversification Question

When it comes to minimizing risk, we have all heard of the importance of diversifying our investments.  In this case, if you are heavily invested in real estate, paying off your mortgage will add even more eggs to the same basket.  If the housing market crashes, so will a significant chunk of your portfolio.  From a risk standpoint, you may be better off holding onto the mortgage and keeping your portfolio more diversified.

Is Being Debt-Free Important to You?

Let’s say that you have a relatively low interest rate and are not worried about paying another bill in retirement.  Does that mean you should hold on to your mortgage?  Not necessarily, because there is a factor that cannot be calculated or plugged into a formula: peace of mind.

Some people do not want to have any debt to their name and eliminating it would relieve them of a financial burden.  Others have no problem carrying debt if it makes financial sense and they are being wise with their money.  When deciding whether you should pay off your mortgage, do not forget to factor in your values and how you feel about debt.

It’s Not All or Nothing

For some people, it may make more sense to choose a combination of these two choices.  Maybe that looks like adding more money to each mortgage payment to bring down the principal while still putting the bulk of your extra money in other investments.

As you can see, there are several variables to consider.  Paying off your mortgage is a big financial decision, and before making such important decisions, it is always a good idea to consult with a financial advisor.  At Windgate Wealth Management, our advisors can give you personalized financial planning advice, and we might even be able to show you alternative investment strategies you had not considered.  You can reach us by calling (844) 377-4963 or emailing windgate@windgatewealth.com.  You can also book an appointment online here.

Perritt Capital Management, Inc. is the Registered Investment Advisor for Windgate Wealth Management accounts and does not provide tax advice. Consult your professional tax advisor for questions concerning your personal tax or financial situation and your insurance agent for insurance advice.

Data here is obtained from what are considered reliable sources; however, its accuracy, completeness, or reliability cannot be guaranteed.

First published November 2021.

Past Performance does not guarantee future results.

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