Should You Pay Off Your Mortgage Early or Invest The Extra Cash?

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Many of us dream about how it would feel to not have a monthly mortgage payment. Owning your home free and clear is the aspiration of numerous homeowners. But even without – in most cases – that hefty payment leaving your checkbook every 30 days, there are actually some reasons not to pay off your mortgage.

Pros

On the positive side, paying off your mortgage leaves your lender with no claim to your property. This means that your home truly is yours. And, especially in today’s economy, alleviating the fear of foreclosure can be reason enough to pay off your home.

In addition, the sooner you get rid of your mortgage, the less in total interest you will have to pay. In fact, even making extra principal payments each and every month will save you thousands of dollars in interest over the life of your loan.

Of course, one of the biggest reasons people want to rid themselves of their mortgage is the freedom that it gives you. For example, owning your home outright could allow you to sell your property and purchase another one with cash. You could also use the funds that would have gone towards future mortgage payments and put them into savings or your 401K instead. And of course, along with fewer bills and more money in savings, you could even take early retirement now that your biggest monthly payment is gone.

Cons

Even with all of the benefits of paying off your mortgage, you should keep a few other factors in mind, such as the fact that when you no longer have a mortgage payment, you can no longer take the tax deductions that are allowed on the interest paid each year. And, for those taxpayers who itemize their deductions, this could essentially make a very big different in your tax situation.

Paying off your mortgage early could also represent lost opportunity cost. This means that, depending upon the interest rate on your loan, using the money you would have used to pay off the loan and placing it in other investments instead could provide you with a much better return on those dollars. In fact, in some cases, paying off your mortgage and giving up other investment opportunities could actually put you behind financially.

In addition, when you look at your overall spectrum of investments, you will want to make sure that you are properly diversified. Therefore, if you were to pay off your home early, you could be left with a large amount of your assets in real estate with very little elsewhere. This is particularly risky in a market where real estate prices are falling.

Final Considerations

In considering whether or not to pay off your mortgage, there are a few factors to think about that could help you in making your final decision. First, read over your mortgage statement and find out if there is a prepayment clause. If so, you could actually be penalized for paying off the loan early.

Also, the interest rate on your mortgage will have a lot to do with your decision. For example, it is much better to prepay a mortgage that has a higher interest rate. And, since the long term return on investment in the stock market has been in the neighborhood of 7 to 9 percent, it may be better to pay off or refinance your mortgage if your rate is above 6 percent. However, if your interest rate is below that, it could make more sense not to prepay.

Certainly your financial stability should also be a key factor in your mortgage prepayment decision. If, for instance, your current income or liquidity is unstable, then you may want to invest your funds rather than tying them all up in your home. This liquidity could offer you a financial cushion in case of an emergency.

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{ 1 comment… read it below or add one }

Ravi Gupta April 17, 2011 at 4:48 am

As you said there are a lot of factors. Personally even at 0% rate for a mortgage I would still pay it off ASAP. In the end I would rather make less money than owe anything to anyone.

-Ravi Gupta

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