Most households have finite income. When you have a limited amount of money coming in each paycheck, it can be very easy to have conflicting financial goals, such as:
- Achieve financial independence.
- Pay off personal home.
Asking yourself, “Should I pay off my mortgage?”—and not sure what the right answer is? You’re not alone. For many, it’s a difficult choice to make because the “right” answer is different for everyone. Decisions are extremely individualized to your specific financial situation. Let’s talk about what might influence this decision for you and your family.
One quick note: There are two common ways of paying off your mortgage early.
- Paying everything in one lump sum—like after receiving a windfall
- Putting extra payments toward your mortgage. (Many homeowners pay half their mortgage payment biweekly, which essentially creates one extra payment per year.)
These considerations apply no matter your strategy.
5 pros to paying your mortgage off early
It could be in your best interest to pay off your mortgage early, especially if you’re longing for stability and peace of mind. Not everyone wants mortgage debt! Here are five pros to paying your mortgage off early.
1. No more monthly payment
When your house is paid off, a monthly payment disappears from your budget, lowering your household expenses dramatically. With lower expenses, your overall passive income needed to cover your monthly expenses would also be lower. This means you could achieve financial independence quicker! The money going toward the mortgage now could go toward investing into something else later.
2. Peace of mind
Everyone has an individual perspective on debt. Some believe in “good debt,” such as student loans or owning real estate. Others might avoid debt altogether.
Your relationship with money is your own. For those that want to own their home outright—instead of owing a bank— paying off a mortgage can lessen anxiety. When you own your home, you and your family’s life will be less affected if circumstances change like losing a job, needing to care for a loved one, etc.
The house is paid off—now what? You can always put a HELOC on the property if you want access to the cash. Sure, you would be charged an interest rate against your line of credit, but you aren’t charged if you aren’t using it. With the HELOC, you could pay and hold a property while it is being renovated and refinanced. There are funds you could tap into if you really needed. But you don’t have any active debt against your property.
This isn’t a recommendation to work hard paying off your house then immediately put a bunch of debt against it. However, you can now use the asset of your house smartly and conservatively for short-term periods to invest in a deal, buy a new rental, or build your investment portfolio another way.
4. Past experience
A person’s relationship with money is greatly influenced by past experiences. Previous bankruptcies, job loss, income opportunities, and sicknesses play a role in what financial decisions a person makes in the present day.
For some, having a mortgage payment is too big a risk. They would rather pay their mortgage off early in case a future job loss decreases their income. For others looking to the future, they might fear leaving behind a mortgage for their family members if they died suddenly.
5. The personal choice of having little to no debt
This connects back to No. 2, but it’s worth repeating: Some people simply don’t want to have a large debt like a mortgage, and that’s okay!
Cons to paying off your mortgage early (and why you might invest instead)
Before asking for a payoff quote, consider the negatives, too. Here are three reasons why someone would invest rather than ridding themselves of debt.
1. Your money could earn a higher return
One main argument that you should pay off your mortgage early is to minimize how much interest you pay. If you take longer to pay your mortgage, you’ll pay more interest to the lender.
But what if your investments earn a higher return than your interest rate? Not only could you cover interest with your investments but you could be turning a profit too.
2. Your money is tied up instead of being readily available
Owning a home outright reduces liquidity. If something goes awry and you need money fast, it isn’t easy to sell a home. Investment accounts or other cash accounts are much easier to access.
3. Time is currency, too
Investments require time to grow. Whether you’re buying properties or investing in the stock market, it takes time to build real wealth.
Here’s a little thought experiment that presents one way of thinking about it:
Adrianna’s goal is to achieve financial independence. She sells her home and moves her family into a rental. Taking the equity from the sale of her home, she invests it in assets for the next 10 years. She implements a plan similar to the BRRRR strategy. After 10 years, she has established an annual passive income from her assets equal to the income from her job. Adrianna is now financially independent.
Financial independence means that Adrianna has options. She can buy a house if she chooses and pay the mortgage using passive income. It doesn’t really matter how long it takes to pay it off since she doesn’t have to worry about losing her job since she doesn’t rely on her job for income. She can also choose to continue working, pursue other interests, such as starting her own business, or just put her feet up and relax. Adrianna gained nothing financially from paying rent for 10 years, but she’s now financially free.
Dolores thinks financial independence would be nice, but can’t imagine where she’d find the money to invest. She takes those same 10 years to pay off her home. After 10 years, she is mortgage-free and decides that it would be good to start investing. She then starts investing in assets. After another 10 years, she has established an annual passive income from her assets equal to the income from her job. Dolores is now financially free.
It took Adrianna 10 years to achieve financial independence, while it took Dolores 20 years to achieve the same goal—everything else being equal. The exercise shows two ends of the spectrum, given the same two goals: home ownership and financial independence. Obviously, there’s a lot of room to flex in between the two extremes. The correct answer for you might be somewhere in between. But at the end of the day, each dollar you earn can only be applied to one or the other. You must decide what you want to achieve.
4. Refinancing might be worth consideration
This won’t matter if you’re truly trying to be debt-free. But if you’re currently putting a high percentage of your monthly income toward mortgage payments and want to free up some cash, a refinance might be a great decision. If you’re dealing with high mortgage rates, today’s lower options can save you a bundle of cash on your monthly mortgage payment.
Mistakes to avoid if you pay off your mortgage early
Paying off your mortgage early has its benefits, but be sure to avoid these common mistakes that can affect your financials. It’s a good idea to familiarize yourself with these missteps before deciding to pay your mortgage early.
Not explicitly putting extra mortgage payments toward loan principal
By putting extra payments toward the loan principal, you reduce the amount of interest accruing. It saves you money and time. But make sure you specify that the payments are going toward your mortgage principal. Reach out to your mortgage lender for instructions on how to do so.
Not asking about prepayment penalties
Believe it or not, some lenders penalize you for paying your loans off early. Review your mortgage agreement or ask your lender about prepayment penalties.
Not recognizing what you have to pay after the mortgage is gone
The mortgage monthly payment goes away, but there’s other fees you’re responsible for when you own a home. Be sure to budget for them ahead of making the decision to pay off your mortgage.
These fees might include:
- HOA fees
- Property taxes
- Homeowners insurance
- Home maintenance costs
3 signs you’re not ready to pay off your mortgage
Deciding to pay off a mortgage early is a huge financial decision. Even if you really, really want to, you might not be ready if you have:
1. No savings
How’s your emergency fund? Your retirement savings?
Most financial advisers recommend having an amount of money set aside equal to three to eight months of expenses. Having such a fund buys you time. In the event that your lose your job, you have several months to pursue any number of solutions. You might sell your home, find a new job, or sell an investment property to pay down your home mortgage.
It’s also important to pay attention to the balance of your retirement accounts. Don’t neglect your IRA because you don’t want a mortgage payment.
2. Uncertain employment
If your unemployment is uncertain, it probably isn’t the best decision to reduce liquidity of your assets. If a job loss occurs, you’ll want investment accounts or bank accounts to fall back on instead of home equity.
3. High-interest debt
Interest rates on mortgages are fairly low compared to other forms of credit. High-interest debt should always be paid off before paying more on your mortgage principal. If you carry credit card debt, use any extra money to deal with that first—not your home loan.
If you have the savings to pay off your mortgage, it can be tempting to wipe it out in one fell swoop. But make sure to weigh your long-term goals—and take a hard look at the potential benefits of investing. By looking at all the angles, you’ll find the best choice for you.