Why Paying Off Your Mortgage Early Can Be a Mistake
A home may be the biggest purchase you’ll ever make, so it’s understandable if you’re excited to pay off the mortgage and make that home your own. But rushing to get out of mortgage debt early isn’t the right move for everyone.
Peace of mind – and the interest you’ll save on – paying off your loan should be a consideration. But consider the downside of making early mortgage payments, too.
4 reasons paying off your mortgage early may be costing you
Whether you should pay off your mortgage early will depend on your financial situation, so consider discussing your options with a financial advisor. But here are four situations where it might make more sense to stick with your current payment plan.
- Potential investment returns not captured: Sometimes, your money can go ahead in the stock market. The average annual return of the stock market for the S&P 500 index is about 10% over time. Consider your mortgage interest rate, and that making extra mortgage payments means missing out on potentially bigger returns.
- Maximum taxable income: You can deduct mortgage interest payments from your taxes, as long as you itemize the deductions. That means paying off your home can increase your taxable income, depending on your situation.
- Reduced emergency liquidity: Making multiple or higher mortgage payments each month reduces available cash. If there’s an emergency and you’ve spent a lot of money to pay off your home, you’re more likely to sell stocks or take out a loan to cover the cost.
- Prepayment penalties: Some lenders charge a fee for paying off some or all of your mortgage early.
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When paying off your mortgage early it makes sense
As with most financial decisions, you must weigh the pros and cons. For some people, peace of mind is worth paying off their loan early. In addition, everyone has a high enough risk tolerance to leave money in the stock market and let it continue during a market correction. It’s probably better to pay off the loan early than to keep the money in a low-interest bank account.
You’ll also save on interest if you pay off your loan early, and you can build equity in your home faster. That will help you if you want to refinance your home later in life.
People who are about to retire may want to take out a loan, especially if it is their biggest expense.
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A balanced strategy
Some people take a mixed approach instead of putting all their extra money in stocks or bonds. Homeowners can split the extra money between paying down their mortgage and investing in stocks to grow their money for the future while paying down their debt.
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Zero debt is a great goal, but you probably shouldn’t pursue it at the expense of financial flexibility. Financial advisors recommend having some money set aside for emergencies, while investing in assets that can generate long-term wealth. As always, diversification is key: You don’t want all of your money tied up in real estate, the stock market or another asset.
