Buying your home--that was a big decision that kept a lump in your throat for weeks. You looked at the interest you pay over the life of a mortgage loan, and you swore then and there you'd pay off the mortgage as fast as you could.
Not a flawed idea.
But whether this works out to your advantage isn't as simple as measuring interest savings. Before you take that irreversible leap to pay off your mortgage, take a few minutes to consider how these factors impact your unique financial situation.
1. You May Have a Prepayment Penalty
It's unlikely. But please be sure before taking the plunge into the paid-off mortgage club. You could be looking at 1000's or more here.
2. Your Investments May Cancel the Interest
This largely depends on your investment strategy. If you're a very conservative investor, it's unlikely your investments will get the returns to cancel out interest. But most people who invest aren't totally averse to risk and expect their money to at least double every seven years or so. You can do the math using a Washington DC mortgage calculator.
Compare what you'd save on interest in seven years to putting that same money in a growth stock mutual with a good track record. See which one has you coming out on top. Or if we're talking a large sum here, what if you put that money toward a single-family home from which you manage a short-term rental?
3. Limited Cashflow Can Cost You
One of the pros of taking out a loan is that you can make easy monthly payments instead of locking your funds away while saving a large sum in cash. It allows you to get your house now rather than waiting until you've saved up.
If you choose to put a large sum towards the mortgage now, you could be reversing the benefit you obtained when you got the mortgage in the first place. But even worse, you're tying up your cash. This can cost you more in the long run.
If you experience an event where you need money, you can't get those extra mortgage payments back. You are now in a position where you either have to take out another loan or put it on high-interest credit cards.
Either way, you'll pay a lot more in interest. Or you could sell the property to access that cash, but that defeats the purpose of paying off the mortgage early in most cases.
4. You Could Keep an Emergency Fund
One way to head off number three is by keeping an emergency fund. This maintains some of your cash flow and gets the benefits of paying off your mortgage.
5. Paying the Mortgage Off Vs. Paying It Down
Let's say you just inherited $20,000. It's not enough to pay your mortgage off. But it would make a dent. So you're considering it.
There's a difference between paying your mortgage off and paying it down with lump sums. You only eliminate your mortgage payment if you pay it off completely. As nice as it is to have no mortgage payment, the benefit is delayed may impact the pay-down decision.
6. You Have High-Interest Loans
You're unlikely to overlook this one. But if you're deciding whether to pay off high-interest loans or a mortgage with a rate of between two and four percent, paying off high interest will always save you money.
7. You May Not Be Disciplined with Money
Let's say you just won $100,000 after taxes in the lottery. If you're the kind of person who would go, "Yeah, free money" as it slips through your fingers over the next several months, then yes, you'd probably be better off paying off your mortgage so you can stay in good financial standing. Then enjoy the luxury of no longer having a mortgage payment and have fun with your money.
8. You're Paying Back in Cheaper Money
This one is often forgotten. You see $50,000 in interest payments over the life of your loan and may think that's actually $50,000. But it's not by a long shot. It's all thanks to a little thing called inflation. On a long-term loan like a 30-year mortgage, the money you're paying in 10, 15, 20 years has much less value than that same money today.
If the average annual inflation rate is around two percent and your fixed interest rate is three percent, then that huge interest amount is suddenly a much smaller animal to tackle.
9. Sometimes Peace of Mind Is Worth It
It may be hard to put a monetary value on peace of mind, but if paying off the mortgage helps you or your significant other "feel" more in control of your financial future and happiness, that's certainly not something to ignore.
