This is a guest post from Robert Brokamp of The Motley Fool. Robert is a Certified Financial Planner and the adviser for The Motley Fool’s Rule Your Retirement service. He contributes one new article to Get Rich Slowly every two weeks.
Everyone’s looking for safe investments these days. Unfortunately, there’s a price for security: low returns. A five-year certificate of deposit at a major bank like Ally pays just 2.4% APY today, and a five-year Treasury yields barely 1.5%.
But one investment offers a higher return and has the added bonus of keeping your retirement expenses low: paying down your mortgage.
What’s the “return” on that investment? At the high end, it’s the rate on your mortgage — that’s if you don’t itemize and therefore don’t deduct mortgage interest when you file your tax return. Because the majority of taxpayers don’t itemize, and with the rates on most existing mortgages landing from 4.5% to 7%, the “return” on paying off the mortgage looks pretty good.
What’s the return if you do deduct mortgage interest? Here’s the simple rule of thumb: Turn your tax bracket into a decimal and subtract it from 1, then multiply that number by your mortgage rate. That may sound complicated, but it’s not. For example, someone in the 25% tax bracket with a 6% mortgage rate would earn an after-tax return of 4.5%. Still not bad.
But there’s a bonus benefit of paying off the mortgage before kissing off the boss: You’ll have lower expenses in retirement, so you’ll need less income. The less income you need in retirement, the fewer investments you have to sell and the less money you have to withdraw from tax-deferred accounts. This will keep your tax bill lower. It also could means that less of your Social Security benefit may be subject to taxes. So you’re lowering your retirement expenses in all kinds of ways.
Weighing the Pros and Cons
So, should you send extra payments to your lender in order to pay off your mortgage earlier? First, let’s consider the benefits:
- As always with paying off debt, reducing your mortgage is a guaranteed return. It’s especially worth considering if you have a large amount of cash you’re not comfortable investing in stocks and bonds.
- Paying off your mortgage means you’ll have more equity in your house, which could lead to a bigger reverse mortgage (a way for the 62-and-older crowd to turn their home equity into lump-sum or lifetime income, if needed).
- If you’re paying private mortgage insurance (PMI), the sooner you build up equity in your home, the sooner you can stop paying that approximately 0.5% of your mortgage each year (for many homeowners, that expense is not deductible).
- You’ll have the peace of mind that comes from being mortgage-free. As financial journalist Jean Chatzky wrote, “I … know from research I’ve conducted over the years that having debt makes you unhappy. It makes you unable to sleep at night. It stresses you out. Particularly when your income is going down — i.e., for most people in retirement.”
On the other hand, some conditions do warrant keeping the mortgage for as long as possible:
- You can earn a higher return on your investments than your mortgage rate. Given how low current rates are, this hurdle doesn’t seem that difficult — though you’ll have to take some risk, because cash or a bond fund isn’t going to do it.
- You receive a significant tax advantage. However, keep in mind that the true tax benefit is limited to the extent that your itemized deductions exceed the standard deduction, which in 2010 is $5,700 for single taxpayers and $11,400 for married taxpayers; those age 65 or older get an additional $1,400 (if single) or $1,100 (if married) deduction each. Also, mortgage payments progressively consist of more principal and less interest. Thus, the amount you can deduct declines each year. The bottom line: The mortgage-interest deduction can be valuable, but don’t overestimate it.
- You value keeping your investments liquid (i.e., easily accessible), perhaps because of inconsistent or unreliable income, tenuous job security, or the peace of mind that comes from a fat bank account. Once you send a payment to the mortgage company, it’s not easy to get it back. You’d need to take some form of home equity loan, which would take time and entail up-front and ongoing expenses.
Who Should Prepay?
The first financial priorities for most people should be to pay off credit-card and other consumer debt, build up an emergency fund, and max out tax-advantaged retirement accounts. But once you have those taken care of, paying off the mortgage early is worth considering.
Conservative investors and those close to retirement might even consider paying off the mortgage before contributing to an IRA or 401(k), as long as they’re not passing up an employer match.
If you’re younger, the math is more in favor of keeping the mortgage, since you’ll be investing in long-term investments that have more potential to outperform the rate of your home loan. As you approach and enter retirement, your portfolio should become more conservative — which means that consistently earning 4.5% to 7.0% is not a sure thing, at least not at current interest rates.
We all want to be financially independent in retirement. Conceptually, debt is the complete opposite. It’s not impossible to owe someone money and still retire. In fact, that’s the case for most retirees. But if you’re looking for a safe way to improve your retirement prospects, especially after you’ve maxed out retirement accounts, paying off your mortgage is a solid strategy.
This article is about Choices, Debt, House and Home
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I understand that paying off that mortgage early may not be a high-yielding investment (might “earn” as low as 3% or so after figuring in the tax bracket), but I think the early payoff is more for the individual’s comfort in knowing that the bank can’t come in and steal their house.
Also, I think that eliminating that mortgage payment can be huge! Imagine freeing up an extra $800 (could be more or less for you) per month! Put that toward your investments, and you can become wealthy in a hurry.
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We paid off our mortgage 3 years ago at the age of 39. I’ve never had any regrets. This recession has been much easier to take without a mortgage.
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I chose to invest more rather than paying off the mortgage. In hindsight, it’s worked out well since I’ve made a lot more than the 3% I was / am paying on the mortgage. What I don’t like about having money tied up in the house is exactly that – it’s tied up and not easily accessible. There’s something to be said for a feeling of security in having lots of cash in the bank too.
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As I learn more about finance, I believe paying off mortgage early is not exactly the right move for me. As long as I am not paying mortgage insurance, a mortgage can be a good thing. Our first house is now a rental and the rental payment covers the mortgage. This rental income is going to be huge in my retirement, rent will only go up. If I can turn another rental or two, I’ll be most of the way to retiring. Mortgage is a great way to leverage if you can make it work.
You should also consider inflation. If you think inflation rate will be high in the next 10 years, leverage as much as possible. I’m not saying buy a McMansion, but to acquire rental properties.
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I’ll just point out that paying off your mortgage early is a guaranteed nominal return … inflation makes it a worse decision and deflation makes it a better decision
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That peace of mind is my motivation! Plus, I’d love to be free from the monthly payment, because that would free up so much extra money.
We’ve got a couple of other ducks to get in a row before we hit the mortgage hard, though.
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I concur with Kristen (#5) that peace of mind is my motivation. I just hate knowing that I have so much debt and paying all of that interest. That being said, I’ve still got plenty of other debt to pay off first (car and school loans). The mortgage is the last debt on my list to be paid off early.
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I’m a big believer in paying off the mortgage early. I paid off our house last year.
The biggest thing missing from this article is that having lower monthly fixed costs gives you more career flexibility.
If you’re stressed out at work, or hate your job, you can actually downshift be able to take a pay cut while maintaining the same standard of living. There is value in being able to work a flexible job or something that doesn’t require long hours or lots of travel.
I love the idea of taking on a second career mid-life, but paying off the mortgage is one of the ducks I want to put in a row before I even entertain something like that.
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Hey! This is *exactly* what our blog is posting about today.
http://nicoleandmaggie.wordpress.com/2010/12/01/mortgage-update-and-a-worry
Should you make yourself feel artificially poor until the sucker is paid off? Should you keep more cash on hand for expenses?
Folks are focusing on the freedom you have after the mortgage is paid off. But what about the lack of freedom *while* you’re paying it off? Four years (the best we could do if we still want to, say, eat in addition to mortgage payment… but nothing else) is a long time.
Also we’ve got an earlier post that talks about how mortgage prepayment is good, but don’t do it at the expense of not funding your retirement. http://nicoleandmaggie.wordpress.com/2010/07/31/the-pre-paying-the-mortgage-question/
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I am in the homestretch toward retirement, which starts a month from today. And a year ago this week, I made the final payment on my mortgage.
Also being free of credit card debt for about 19 years now and buying my last two cars for cash, the elimination of the mortgage meant the end of all debt for me, a very freeing moment, knowing I would face a low-income retirement.
I have a good friend, already retired, who is still paying on a mortgage. And a car. And several credit cards. She justifies this by noting she gets much more in retirement income than I probably will see for many years.
But, when I add those costs of hers and deduct them from her net income, I come out ahead where it counts, with more money in hand.
Overall, I think it was a good move for me to pay off the mortgage and would be good for anyone entering retirement, especially someone with a low anticipated retirement income.
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This is so important! Paying off your mortgage early is a “sure deal.” Your home is yours and it allows you much more flexibility in your lifestyle. I paid off the mortgage this summer, just as my husband was laid off from work. We have had no issues with paying our bills and saving our money. That would have been impossible had we had to pay a mortgage payment as well. I don’t care where you are in your life – still young with small children or close to retirement – you can’t go wrong with paying off your home….of course you have to have the mindset that you will live in and enjoy your home because, afterall, that is what it is – your HOME.
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This weekend I read a story about a young woman who immigrated to the US from Russia, and her reasons for doing so. She wrote at length about the extreme financial instability as the Soviet empire crashed.
It made me wonder what I could do to protect my family and myself in the event the same thing happened here. (Not unlikely in my lifetime, IMO.) I believe that having housing, paid in full, was one step in that direction. As the previous commenter stated, it gives you some career flexibility. Your expenses are lower, worst case you only have to pay for food.
For someone like me, with no non-mortgage debt, an emergency fund and able to contribute the max to tax-sheltered retirement accounts, allocating a portion of my other savings to pre-paying the mortgage is sensible.
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I am no where near retirement, but I too hope to pay of my mortgage early. We are currently in a house we will be in for five years or less, so I do not think it makes sense to pay of this mortgage early. But we are currently saving to be able to put as large of a down payment as possible on our next house, and once there will be paying off the mortgage as soon as possible.
I understand that if you can find attractive investments, that should be your priority. But who would have guess 10 years ago that stock market returns would be as poor as they’ve been. I am not convinced future investment returns will be anything to write home about, if they are it will be happy surprise to me. I am looking forward to the reduced stress, lower fixed costs and career freedom that come from owning a house out-right.
Thanks for the good post. I usually only see articles about how it does not make sense to pay early.
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I bought a 2 bedroom townhouse with little down payment. I do not regret this, since the rent vs own is roughly equivalent.
My family is now growing, and we need to start planning for a larger house. Additionally, we want to have expenses low enough, that if something happens (loss of job, illness, etc), we could make due on income (although it would be tight).
So, we are paying down our current mortgage at a high rate, so that we can use the proceeds of the sale to buy our next house, and have a a similar mortgage payment. So, essentially we are putting our next house down payment into the current mortgage, and getting a guaranteed 4.385% return (before taxes). Try and find that in a bank account these days!
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Maybe I’m getting this wrong – but I just can’t get my mind around the idea of a “guaranteed return” by prepaying the mortgage. I just don’t see it as a return, it’s just money that’s not spent. Yes, I may save myself from paying out thousands of dollars in interest charges, but how exactly is that a return on my money? If I buy my house in cash with no mortgage, does that mean I am making a guaranteed return of 6% for the next 30 years?
Believe me, I’m all for saving money by not paying interest, and I pay some extra on my mortgage (and plan to pay it off early), but I don’t think of it as a return on my investment. I think a true return on investment would be if the value of my house went up or down.
I would also like to thank Robert for his analysis of the tax deduction. Too many people just scoff at it as “Who would pay $1.00 to save $.25?” but honestly, it really works out for us now. Before we bought a house, we had about $9,000 in itemized deductions, so we always took the standard deduction because it was higher (we’re married filing joint). Last year, combined with the mortgage interest (and property taxes) we were able to have just over $23,000 in itemized deductions – so it saved us a LOT more on taxes. I realize that this benefit will become less valuable as the mortgage goes down, but there are situations where the tax benefit is extremely beneficial.
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It’s a tough question, because, as #9 Nicole pointed out, having the cash in the bank gives me an even more secure feeling. We probably do the dumbest thing financially which is to pay the actual monthly payment early. I’m afraid if we just keep it in the emergency fund, we’ll spend the mortgage money on something else.
By the end of December, we’ll be a full year’s payments ahead. But we’re coming into a really expensive few years with our kids so it gives me peace of mind to know that we’re a year ahead on our mortgage.
If we can get another 50k in emergency savings, we’ll begin paying down the principle.
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I read an article a few weeks ago (can’t find it now) that said unless the bank recasts the loan (which hardly ever happens) you still pay interest on the entire loan amount even if you are making extra payments. This makes your effective interest rate go up.
Is this true?
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One trick I have done is to keep making the same payments to my mortgage after I refinanced. I was already used to paying that money, so I don’t miss it, and it makes a significant dent in the mortgage.
The added benefit is that if something unforeseen financial happens, you can always just make the regular payments.
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We’re paying off our mortgage early for the sense of freedom it will bring. (Plus, we don’t itemize anyway.) I don’t like owing money — it makes me feel locked down and stuck. When our mortgage is paid we’ll be able to live well on even poverty-level income if we want to or need to, and that idea is very appealing to me.
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My husband I paid off our mortgage about two years ago and we have never regretted it. We did not have to worry about the house payment when I became joyfully unemployed last year. As a past comment on this site once said, I don’t wake up in the morning and say “Gee, I wish I had a mortgage”.
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We are planning on refinancing from a 30 year (18 years left) to a 15 year loan. While payments will be higher our mortgage will be paid off when our oldest will have just graduated college and our youngest is in college (if they decide to go). I like the idea that at that point the house is paid and we could help them more with college payments. It would be great to have the mortgage done before the kids hit college, but can’t swing that.
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Having a mortgage is also an important consideration if you are planning to move after retirement. You will have to budget for the monthly mortgage amount as well as the significantly increased property taxes associated with a home with a cost basis significantly higher than what you are paying on your home for the past 20+ years. But there sure are some beautiful places to retire to!
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We paid off our mortgage on our first house a year ago; we’re in our mid-30′s. As others mentioned this was a huge benefit when things were looking very rocky at my job a few months later. We knew we would be OK if I lost my job because we had our house and didn’t have a big monthly bill for it.
Things turned up on the job front for me and now look good for the near future. However, living in Phoenix, our home values are down 60% from their highs. Practically everyone in our neighborhood is “stuck” there because they can’t sell for close to what they bought for. We decided to move up last spring to a newer house given the seriously low prices. We could do it because we were paid off (and hadn’t bought at the high).
We rented our older house and could shave off a few dollars on the rent to attract interest because we weren’t worried about covering the mortgage with rent.
I know the big investment folks would argue we could be getting better returns elsewhere, but it’s given us piece of mind and flexibility to have it paid off.
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In my opinion, you need to ask yourself some important questions first: do you have a substantial (at least 3-6 months salary) emergency fund; have you paid off all of your high interest debts (credit cards, student loans, etc.)? are you adequetely protected against short and long-term disability?; do you have sufficient insurance (auto, property, umbrella)?; have you/are you saving for your childrens’ education?
If you cannot answer yes to all of these questions, then prepaying your mortage is probably not a wise decision. It may offer “peace of mind,” but neglecting the aforementioned factors could leave you (or your loved ones) financially exposed at a time when pulling that money back out of a mortagage might be difficult, if not impossible.
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Yes, Yes, YES!
Actually, it is up to the individual.
My wife and I are ADDICTED to being debt free. We paid off a 120K mortgage in 8 years. And we are under 35, and have two kids. We carry no credit card debt, own two cars (A 2003 and 2004) which we own, and no student loans… early in our marriage we just gently attacked one load at a time… eventually it just got addicitve.
Yes, I have mutual funds I invest in in my Roth IRA that earn over 12%, and on PAPER it was stupid to pay off my house when I could have invested more, but the peace of mind is worth more than any money in my pocket.
NO ONE can take my house away. In a worse case scenerio, we can lose our jobs, the power and water can go out, and at the end of the day, we have shelter that is worth $150,000 or more (depending on the market) that we can cash out on anytime we need!
We can move to a new town, get jobs, and not worry about whether our house has sold yet… no stress, no rush! Heck, we cna rent our house out if we move and if we want to pay cvash for another house, we just sell theone we live in now. Can you imagine the leverage you have if you want to pay for a house with cash? You NEVER have to walk into a band to get a loan! I, for one, say pay off the house if you can.
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There is no imaginative financial strategy, creative monetary plan, or clever tax advantage that can compete with the simple peace of mind and joy that comes from owning yourself.
The debtor is slave to the lender. If given the choice … I choose my freedom!
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@Contrarian
Bing-freaking-o.
In this economy, who wants to be slave to anyone? Go to bed every night knowing YOU OWN YOUR HOUSE! THE BANK DOESN’T!
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@MB – No that isn’t true, unless your bank is evil. Hopefully, somebody didn’t write that.
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But JB #25, don’t you have to pay taxes and insurance? Our escrow is now at $500 a month and I do see our taxes going up in the future. We live in the Philly area and our taxes are actually quite low, considering we live in a 4 BR/3 BA house in a nice safe neighborhood. If we really had to, we could rent out a part of our house to a couple of college students who could cover the actual mortgage part ($1100) of our monthly payment, but we’d still have the $500 or more in additional pay up or potentially lose our house expenses.
I’m sure you’d say it would be better to get rid of the $1100 and then those college kids could cover our housing expenses and then some, and that’s certainly true, but my point is I just don’t ever see us feeling this huge relief when our mortgage is paid once and for all.
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Paying off our mortgage may have been the best investment we ever made. After we paid off the mortgage (and I felt great about all the interest we didn’t have to pay by paying early — we made sure when we took out the mortgage that there was no pre-payment penalty and that all we needed to do was pay off the principle), we continued to put the allocated funds away in retirement accounts. It really wasn’t painful, since we’d already been living within that budget. But I’m not sure we would have had the discipline to put that much money into retirement if we hadn’t done it for the mortgage… At the time, I also thought, if we really needed money, we could get a line of credit from the bank on our equity in the house, so it wasn’t totally unliquid.
One thing that happened to us was that paying off the mortgage on what some people would call a “starter home” kept us from buying a bigger, more expensive house that we don’t really need. We did keep going to open houses, as a kind of hobby, but once our house was paid off, no house we saw ever looked so perfect and wonderful that it was worth taking on a mortgage again.
And, I don’t worry as much now about the “loss” of value in our house, since the amount we actually spent on it was much less than it would have been if we’d paid off a 30 year mortgage.
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So, this is more of a question or comment, but I have about $17,500 in student loans at an average of 2%. My husband and I also have a 4.75% mortgage with an large amount of principal left (we just bought). In this situation, wouldn’t it be better to pay off the mortgage more quickly than the student loan? Or, should I max out my Roth IRA?
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Caroline – is your SL tax deductible? We couldn’t deduct our SL so it was better for us to attack that debt first.
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The SL is tax deductible and my employer pays a yearly lump sum towards payment that is partially determined by my loan to salary ratio. So, I’m thinking that at this rate, I will have that paid off in around 5-6 years.
I should add that I’m 31, so am thinking that I should put extra money towards a Roth IRA, since it has a lot of time to compound (I’m currently putting in about $200/month, in addition to 5% in a 401k with a full employer match).
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After much debate, my husband and I decided to move our liquid assets (cash) into paying off the mortgage. We knew that we were giving up the ability to invest that money, but with the volubility of the market, we weren’t getting anywhere with our investments. We are self-employed, our income is never guaranteed. When we looked at the $100,000 in future interest that we wouldn’t be paying, the deal was sealed. I never felt better! I am totally secure knowing that this is my home forever.
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@Mom of five #28…
Plus, i was paying those anyway, lumped into my loan… I think in a worse case scenerio, I can come up with 1600 bucks in one year…
Sure I will still have to pay insurance and taxes… that comes to about $1,600 A YEAR for me in Alabama… a little bit better than the $3,000 a MONTH we were paying to kill our loan, dontcha think?
It is up to you… When we paid off the mortgage, we had a milkshake. And were very VERY happy… I made a video of it (I won one of the video contests for this site) and humbly brag about it to my friends and family.
Bottom line; the bank owns your house, I own mine. You can toss all the math at me you like, but at the end of the day, I am still happy I own my own home.
But, again, it is up to the individual. Some may enjoy not having a house payment, some I guess, do
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JB – I can’t imagine having a 3k a month mortgage even though nearly everyone we know does. I see what you’re saying and I guess if my post mortgage house expenses were around a hundred a month, I might feel more joy at the prospect of getting rid of our mortgage. It’s not that we don’t mind paying the mortgage, it’s that we really feel better with the liquid savings. We could sell our home tomorrow for well more than double what we currently owe on our mortgage and buy a much smaller place with cash. And even though I HATED the credit card and student loan debt, the mortgage debt just doesn’t bother me the same way. I don’t know why.
p.s. I don’t blame you for bragging to your friends and family – you’ve earned it!
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@Caroline, there are two considerations in deciding to pay off a SL vs. a mortgage. First, how long will it take to pay each off? If you can pay the SL in a couple/few years, then go ahead and get it out of the way. The interest rates are both low anyway.
The second is that you can always sell your house if you get into financial distress (maybe not for what you want), but you can NEVER discharge student loans. IE if you lose your job, declare bankruptcy, sell your house, or whatever, those student loans will still be there, accruing interest and penalties.
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PS – I just stayed with my 71-year old aunt for the holiday, and found out she still has 10 years left on her mortgage. It sounded like hell to me; she had to go back to work last year because her money got too tight. At 71.
I will be paying off my mortgage long before retirement.
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Money (loans) are as cheap as they can get at the moment. If you can find a better investment opportunity that gives better return then paying down the mortgage, I would do it.
That being said, I am paying down my mortgage.
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I look at this question differently. Would you rather have a house that is paid off, or the cash needed to pay off the loan in investments, gaining (on average) more than the mortgage payment every month in interest? It’s definitely riskier to invest the money, but there is still piece of mind knowing you can pay it off, and choose not to. There are tax intricacies with both options, because if you have the bag of money, gaining in value, then uncle sam wants some of that income, but your mortgage interest is tax deductible.
If the sacrifice is set, and the money you are putting towards the house to pay it off early or not is set, then the question is pretty simple. A lot of commenters are bringing in arguments that would change the amount of contributions
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I am surprise amortization schedules were not considered when this article was written. Before putting money into paying off a mortage it is wise to plug that money in some online mortage calculators to see if it is even worth it. That $100 extra a month takes off 8 years, but the more you contribute after that the less amt of time comes off.
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We’ve looked deeply at this issue in the last year. My husband maxes out the TSP and we were contributing 10k to Roth’s and monthly to both girl’s 529 plans. In the future we will be using the 10k we were putting in Roth’s to prepay the mortgage. Sometimes it’s not exactly about the numbers. Our house could be paid off in 3 years from today and either we’ll live rent free or (since we’re military) it would provide us with an additional $1350 to $1500 a month which would supplement our retirement nicely. Now those are numbers I like.
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@mom of five #36
our monthly payment was $3000 only because we made it that way. Minimum was $900 but over time, even years, we steadily increased it with each time we got a raise.
We are an exception I think. We had jobs that allowed us to work form home some days allowing our kids to stay home with us and us work… a rare thing.
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I wouldn’t consider paying off the mortgage early unless we had a HUGE emergency fund and were well set on retirement contributions.
If I plow my extra cash into the house and then lose my job, the bank won’t care that I’ve paid an extra $20k on the house over the last few years. They want to know where this month’s mortgage payment is. We keep six months of expenses fluid & six months of expenses in hard to reach places.
Plus, depending on where you live, you can still easily lose your home over property taxes. My tax bill each year is relatively small at $4k, but we only have .07 acres. We know plenty of people who have tax bills in the six figures. Owning your home won’t stop you from becoming homeless if you can’t afford your tax payment.
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I am with the group who paid off the house.BEST decision for my family.We had already paid for college/wedding/cars and are contributing to retirement 401K/403b, we have covered term life ins,long term care ins,long term disability,health ins dental vision car and house ins all covered.Now my husband and I feel safe even if we got laid off we have a budget that covers all the basics and we have figured out what it would take to cover just the basics then we planned where that money would come from if jobs were lost.I have considered rental property for income in retirement.We also are really lucky to both have pension plans that will come to us.We have been in our house almost 30 yrs and intend to stay forever.Lots of variables to figure out.For us no mortgage meant $1500 each month not going out.We would be paying taxes regardless so I plan for an increase of 4% on all expenses however we all know things can rise much more.I can tell you there is a great feeling paying off a house and it is difficult to consider taking on a mortgage again.
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The whole “tax deduction” of the interest is bit of misnomer.
If you have a home with a payment of $900, and the interest portion is $830 per month, you have paid around $10,000 in interest that year. Say, you’re in a 30% tax bracket, you will have to pay $3,000 in taxes on that $10,000. According to the math, we should send $10,000 in interest to the bank so we don’t have to send $3,000 in taxes to the IRS.
Now, in order for it to make sense to this, you would have to invest the extra money you would have paid to the mortgage company in something that has higher returns. The problem most people are disciplined enough.
If you want the same deduction, and have paid off your mortgage, just donate the same $10,000 you were paying in mortgage interest to a non-profit charitable organization.
43% of Americans have less than $10,000 in retirement savings. Most of those believe that Social Security or other government programs will take care of them. Convincing them to pay a little more towards the mortgage each month is easier than convincing them to go get an Roth IRA.
My personal take is, do both. Save 10-15% of income for retirement in tax sheltered investment programs (Roth IRA and 401(k)). If you have a 30 year mortgage consider refinancing to a 15 (without taking out any equity), if you can afford the payments, if you can’t trade houses down. Talk to the bank and switch to a bi-weekly mortgage payments.
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We were wisely, I believe, advised to pay off our mortgage and then use what we would have paid to beef up our retirement savings, which have taken a huge beating in recent years. The amount saved for retirement, whether in a 401(k), 403(b), IRA or other deferred compensation structure is fully deductible, so it more than offsets the partial deductibility of the mortgage loan payments ( a portion was principal, and thus not deductible), plus we get the money back later, unlike interest payments. Furthermore, by making ourselves “artificially poor”–actually right-sizing our spending to sustainable levels, we will indeed need less income to replace our current salary-funded lifestyle.
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When we refinanced from a 30 year to a 15 year mortgage when rates blipped downward in 2003, it only increased our monthly mortgage payments by $150/month.
Given the volatility of the markets since that time, we’ve come out far ahead financially compared to where we’d be if we’d invested that $150/month in a DJIA index fund.
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Nicole and JeffeB questioned “why not have the security of cash in the bank” and you could pay off the loan if you needed to plus you don’t need to have a spartan lifestyle now while paying off a loan early? That’s the key. The majority of Americans that do not have the goal of paying off their mortgage early, don’t put their excess cash into investments outside of a 401K and many people took equity out of their homes to spend on cars, vacations, etc…They spend their excess cash.Heck, there are a lot of people who choose not to put money into their company’s 401K. That’s why many companies have a default proviso to force people. The people who put money into Roth IRA’s after investing in a 401K are a minority, never mind putting money into a non retirement investment. Poll how many people you know who actually have 6 months of living expenses set aside for emergencies. That number is low. My aunt is 82 yrs old living with a pacemaker and still works in a school cafeteria (that is heavy lifting of food trays)4hrs per day so she can pay her $600 month rent. Her social security check goes to food, utilities, and medical bills. Doctors have turned her away because she didn’t have the cash to pay for a doctor visit. I paid off my house in the 90′s, my husband took a 50% cut in pay to change jobs b/c he hated his job, we put our kids through college debt free, we bought a house in Florida that is rental until we retire, another house in Florida paid off for my brother to live in, and are buying a house two houses away to live in while we live off the rent from the original house that we paid off in the 90′s.
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I don’t think of the home I live in as an “investment.” I think of it as a place to live. Here in NJ where most people have mortgages of $200,000 or more (mine is $250,000), I wouldn’t even think of retiring with my $1,700 a month payment (including taxes). The peace of mind that comes from knowing your savings only have to cover your basic expenses is priceless. Plus it gives us the freedom to rent out our place (we’re near the beach), and travel if we like.
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