Investing Versus Paying Ahead on Your Mortgage: Which Makes More Sense?

Recently, I mentioned a Consumer Reports article that encouraged people to invest instead of paying ahead on their mortgage. It left me thinking quite a bit about debt repayment and how I should handle my mortgage.

Our situation My wife and I are planning on eliminating our student loans in the next year to a year and a half, leaving us with just our home mortgage as a debt. Our plan has been to eliminate that debt as a top priority, probably via double payments on the mortgage – our plan is to be debt free by the time our son has his thirteenth birthday and then build a home in the countryside.

What double payments on a mortgage does On a thirty year mortgage of any size, making double payments each step of the way reduces the payoff date from thirty years down the road to nine years and two months down the road. It truly does make that kind of impact.

The best way to look at it is to look at your advance mortgage payments as an investment with a certain rate of return – a rate equal to the interest level on your mortgage. So, if you have a mortgage at 5.75%, an advance payment on that mortgage is basically an investment of that money at a 5.75% annual return. Most importantly, though, one should look at these returns as being after taxes (because, for most people, there isn’t enough interest there to create a huge benefit for itemizing versus taking the standard deduction).

Obviously, to beat this we would want an investment that could reliably return more than 5.75% after taxes per year over a ten year period. If you look at the returns on various index funds, like the Vanguard 500, you’ll see that since their inception, they’ve seen returns of over 12% on average. If that would persist over the next decade, one would definitely be better off putting their cash in such an investment than in the 5.75% mortgage.

The other factors This argument would seem to lend itself towards investing the money, then withdrawing it to pay off our mortgage in one swoop when the time comes. However, it doesn’t take into account several other factors that are worth looking at.

The variability of the market Past performance is never an indication of future returns. You can never just assume the stock market will do what you want. The next ten years could be utterly painful on Wall Street, or we could see another economic boom. My personal feeling is that 2008 will be rough, but the election of a new president will bring about a mini-boom, but even I take that with a grain of salt. The variability of stocks is a risk – is it a risk worth taking?

Flexibility With the money in a taxable investment account, it is accessible if I ever need it. If I prepay on the mortgage, the only way that money is accessible is if I take out a home equity line of credit. Let’s say I wish to buy a car. By having the money in the account, I have the flexibility to just pay cash for the car or to take out a loan on it, whichever makes more financial sense. It also serves as a giant emergency fund in the event of job loss or something else disastrous.

Willpower This is a lesser concern, but still significant. Having a significant amount of money just sitting there in an investment brings forth a desire to spend it. Do I have the willpower to resist it? I believe I do, but that doesn’t mean that when I have $50K sitting in an investment account I might not feel differently.

My conclusion The higher your mortgage interest rate is, the better it is to pay in advance instead of investing it. Where’s the cutoff line? It depends on a lot of things, but the big one is your risk tolerance – if you’re fine with a chance for a down market in exchange for a very good chance of being able to pay things off earlier, then it’s probably for you. Prepaying on your mortgage is very steady and reliable, but investing gives you the chance to hit a real home run and become debt free earlier than you thought possible.

For us, this possibility plus the liquidity of the money if we needed it has convinced us to put our money into an investment account instead of prepaying our mortgage, something we’ll likely begin to do by the end of the year.

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  1. Michael says:

    I knew we would inspire you.

  2. Arc|Angel says:

    Debt free and then build a country home going right back into debt?

  3. David says:

    One could also consider the “diversification” of doing both. This worked well for me.

  4. fathersez says:

    The killer is the “flexibility”.

    Or easier accessability.

    I’ll just use a little, then a little more and next thing we know we are back at our starting point.

    The seductive temptation is a lot less, when we pay down the debt.

    Great argument and logic.

    Cheers

  5. Becky says:

    Very good points!

  6. JimmyM says:

    Better not to pay off your mortgage early if you have a good fixed rate loan.

    If your mortgage is $2000.00 a month over the span of 30 years, you are in effect paying the same amount to live where you are in 2008 as you would in 2038. As inflation rises, 10 years from now, you’re still paying your $2000.00 mortgage to live in the same place. All the extra you put in could go to an aggresive index fund which could possibly get you 8-10% return as opposed to your 6% mortgage.

  7. JBS says:

    I would argue that the tax benefit of a mortgage is very important and tax deductible for virtually anyone living in a state without state income tax. Our taxes will be about 3% of assessed value. That just throws a bit more complication into the equation. I think DH and I are going to go with a mix of investing, cash savings, and mortgage paydown. Gives us a bit of flexibility, while investing and paying down. Hopefully that will cut 10 or so yrs off our mortgage.

  8. That One Caveman says:

    I do a bit of both. I pay a little extra on our mortgage – enough to round the payment up to the nearest $100. It’s almost a token amount, but it’s nice to know that I’ve already knocked out one whole payment from the life of the mortgage. On top of that, I put at least an equivalent amount into my “collecting savings” account. This is the stop-over account I use to temporarily store money until there’s enough that it makes sense to move it to an investment.

  9. KC says:

    I want to pay my home off early, I really do. But at the same time I want liquidity. And stocks are liquid, at least more liquid than real estate. I’ll begin to make extra payments on my house when I’m at a comfortable level of cash and investments. I really haven’t defined that level, but my instincts tell me I’m not there yet. I am a firm believer in doing both (building investments and paying off the mortgage early) and I plan to do both when I reach my safety point.

  10. Brian says:

    I’m curious to why this seems to be an all-or-nothing proposition in almost every article or post I read about it in. The question is almost always posed as… should I, or shouldn’t I?

    Why not do both? Why not throw an extra, say, $200/mo. at your mortgage and invest the rest? On $150k @ 6%, with a payment of roughly $900, you would still pay off your mortgage 11 years early, paying only 19 years… saving over $70k in interest, and still have $700 a month to go into investing. That still gives you a nice little chunk to “hit a real home run” with.

    Your $200 a month is guaranteed a return of 6% after taxes, which offsets the pain in a down market when your other $700 a month is turning into $600 or $500 in value. In a 12% return period, you still have $700 + compounded earning 12%. That’s stellar.

    It is no different than diversification, that term is not ONLY a market term for what investments you are in, it applies to many things in life, including decisions you make – how do I maximize the chance for a positive outcome, and minimize the chance for a negative outcome?

    In this scenario, if the market really just sucked it the next 10 years and barely held a point or two over inflation, you’d have lent your $700 a month for no return. However, that $200 that had been pre-paying your mortgage, would have earned you $70k in saved interest. If that $200 had been with the $700, how did you minimize negative outcome?

    If the market really DID turn awesome, and averaged 12% over the next 10 years, then wow… 78% of the money you had allocated made 12%, and the other 22% made 6%… that’s seriously maximizing positive outcome.

    The other nice thing about this scenario, is it is a constant win… when the markets are down and your money is not doing so hot, it is a breath of fresh air to look over at your equity value and see that constant increase no matter what else is going on… that can help get you through the downturns.

  11. AnKa says:

    Contrary to what many say, when we put down a prepayment schedule to cut some years off ours it didn’t seem worth the money/effort it would take.
    We decided on investing our money instead. It is however very nice to know that if need be we could pay off the mortgage just like that.

    We have another reason to do it that way: We know we wouldn’t actively put money into savings if there is already a good amount in the account and it’s growing steadily anyway. We will however pay the mortgage.
    So it’s the will power thing but twisted another way.

  12. Lurker Carl says:

    Hoping for the market scenario in that CR article may leave you with buyer’s remorse. An investment account may not have the liquidity you hope for when you want that money in ten years. Although CR is an excellent publication and has been a personal asset for many decades, I find some of their opinion pieces leave much to be desired. I consider this to be an opinion article because the author avoided discussing market scenarios where this method would not have been optimum. The article emphasizes this practice working within the past 20 years, provided their numbers match your numbers. Please perform your own research before taking such advice.

    On the other hand, you don’t have to put the full prepayment amount against your principle or into an investment account. Put half of your intended prepayment against the mortgage and the balance in the savings vehicle of your choice. Then you’ll have the best of both worlds.

    I’m not too keen on putting short term money in the stock market. I deem having the cash to pay off a house within 10 years of a 30 year loan as a short term goal. You’ll need more than your payoff in that investment account, long term capitol gains taxes will be due on the increased value. Congress can increase those rates before you’ve saved enough.

  13. There is something major you left out here Trent: for many people the interest on their mortgage is also tax deductible. In the long run you are much better off putting the extra money into a retirement account…assuming a reasonable mortgage rate.

  14. AnKa says:

    CapitAl gains tax is less than income tax for most people. By making a mortgage payment, you save on the latter if you have a mortgage deduction (assuming itemized I guess). The tax arguments never make sense, in particular in light of the uncertainties as to how the tax code might change with a new government.

  15. Kacie says:

    I like Brian’s reasoning on doing a little of both.

    I don’t yet have a mortgage (that’s about 2 years down the road) but I think I’d prefer getting rid of that mortgage entirely.

    Right now, I live in an affordable real estate market, so this would be doable in the short-term.

    Plus, I’m risk-averse. I’d rather have a paid-for house than owe on it and have a potentially crappy investment portfolio.

  16. Sandy says:

    Re concerns about liquidity — there are always HELOC’s. My bank, USAA, preapproved one for me for $125,000 shortly after I paid off my house. And this could be set up for emergencies and peace of mind prior to paying off your house too. It’s there if you need it, but not if you don’t, (provided you’re disciplined and wouldn’t be tempted with it).

  17. regina says:

    To me, a bit of both is the only logical thing. That IS diversification. I over pay 250 a month, and put 250 in a roth, and 250 in a 401k. Then, on top of that I save about $200-250 a month in a more “liquid” savings. For me, personally, this is the safest and sanest approach.

  18. George says:

    Trent -

    Mortgage rates are lower now than when you purchased your home. Consider refinancing as a 15-yr mortgage (5-5.125% APR) and then invest the rest. A 15-yr mortgage will nearly meet your 13-yr goal and you’ll still have that wad from the investment.

  19. debtheaven says:

    If you pay an extra monthly payment to principal every year, you can knock about seven years off a 30 year mortgage. How about doing that, and investing the rest? You can always reevaluate things after you finish the SLs. In the meantime you’re doing both, with just one extra mortgage payment a year.

  20. laura k says:

    Wow, I’m impressed that you changed your mind on this one. It makes me think you might that someday you might get over the need to shower every day and join some of us on the grungy side!

  21. Tyler says:

    Regarding your liquidity concern, you should have no problem accessing the equity in your home with a HELOC.
    I agree with your mathematics 100%, but the liquidity concern is a non-issue.

  22. Bill says:

    You can access a good chunk of the equity in your home with a HELOC, but not all.

    Please keep in mind residential real estate has had relatively low real returns (1%-1.5%, depending on the study) over the long term.

    The fact that one gets tens or hundreds of thousands of dollars when the house is sold tends to overwhelm the seller into not realizing the true ROI of their house.

    And houses have large carrying costs (taxes, insurance, maintenance)

    Equities have a higher real return given their risk (especially in the short term)

    But over the long-term real returns to equities greatly exceed those for real estate.

  23. Jim says:

    You seem like you have the discipline to invest the extra money, so assuming you can live with the risk inherent in the market, you should come out fine.

    Many people I know, however, use the apparent advantages of investting as an excuse to not pay extra on their mortgages. Then, instead of investing, the money ends up evaporating into a pile of eat out dinners, fancy clothes, car payments, music, etc.

    Personally, I threw every dime I could find outside of living expenses, an emergency fund and fully funding my retirement accounts into paying of the mortgage. It took me 5 1/2 years, and I was done with owing anybody anything. Granted, it was only a $63,000 house, but this last year since I finished paying it off has been great.

  24. jtimberman says:

    Here’s something that a lot of people forget: Risk.

    If your home was paid for, would you take out a mortgage to go buy stocks/mutual funds?

    Your head does math and logic. So it might think about this and say “well maybe, perhaps…” whereas your heart measures risk, which has an emotional response and is much more immediate than your head.

    Owning a home outright (and thus having 100% equity in it) is a LOT less risky than have that same amount invested in the stock market, whether that be in single stocks (super stupid risky) or growth stock mutual funds (much smarter, riskier than home ownership).

    Personally, I will pay off my home completely before I invest money. Of course I will save money for retirement, but that is higher priority than investing – thats long term savings so I don’t have to learn to love Alpo for dinner ;-)

  25. Lisa Spinelli says:

    Another factor present for those of us with retirement looming: Do you want to be paying a mortgage during your retirement?

  26. Trent says:

    The discussions here are always great. Personal finance is so nuanced that when you start really looking at an issue carefully, you start seeing countless nuances.

  27. Sandy says:

    I like the little bit here, little bit there method myself, as well.
    However, it’s been very satisfying the last 7 months, by tightening our belt a little bit and putting the extra on prepaying our mortgage,(after fully funding our retirement, and keeping a $0 balance on the credit card), we’ve knocked out approxamately 120 months of payments on the mortgage (yeah!). Since we’ve already got a sizable retirement portfolio, an emergency fund, and a decent amount set aside for the girls’ college funds, we figured that it would be really nice to live mortgage free. Then, if my husband wanted to ditch the corporate life and bang on his drums all day, he could without too much worry!
    So, for this period of time, we’ll continue to put money on the house, and in 2 year’s time, we can decide what to do with that chuck of change…should we save it? Invest it? Help the kids thru college some more…hmmmm…oh yeah..that round the world cruise!

  28. DNA says:

    I’m skeptical that once you have money in an online trading account that you will be tempted to raid the account. On the contrary, you’ll get quite a thrill watching it grow, especially if it’s going into something less volatile like a broad-based index fund.

    I even have a tough time forcing myself to rebalance because I hate to sell and pay taxes on the gains. That said, you know yourself better, so I think the advice to step up the house payments AND invest might be a good balance for you.

  29. Dave says:

    Trent,
    You left out the fact that mortgage interest is tax deductible.

  30. lorax says:

    For taxes: remember that property tax (and sales or income taxes) are deductible. When you add property + income taxes, you might come close to the personal deduction.

    Or you might not, depending on where you live. But be sure to check and adjust the rate of the mortgage downward if applicable.

  31. debtheaven says:

    I have another question: let’s say you pay off your mortgage within your time frame, and you’re sitting on a house that no longer requires a mortgage payment.

    I can tell you from experience, that sum will feel like less then than it does now.

    Will you really want to build your dream home then? And incur another mortgage? You might also want to keep your current home and rent it out, in the interest of diversification. If so, there’s not much point to paying down the mortgage quickly.

    Yes, mortgages are cheap money. But it really does feel nice not to have to pay one anymore.

    I’m just playing devil’s advocate. More food for thought, lol. Whatever you decide, you will land nicely on your feet.

  32. Lorraine says:

    We are doing half and half. As much as it makes financial and emotional sense to pay off a mortgage first and foremost, for us with a young family but both in our late 30′s/early 40′s, a timeframe of nine years is almost definitely going to cost us a fortune in lost opportunies via investment growth – the safest path for us is to do half and half – take care of the house and flick a sizable amounts to building wealth at the same time. I would hate to think of having to start again from scratch in nine year’s time – yep, sure could borrow a huge whack against my house – but will be buying into a market that will in all great likelihood be well up on today’s prices…as well as losing the compound effect, dividends, options etc along the way.

    Not ideal, not entirely risk-free, but makes sense at our time/stage of life.

    Good article Trent.

    Lorraine

  33. I think part of the decision should be based on how much you owe. If you are upside down and owe $250K on a house worth $200K, you better put everything you have into the mortgage. OTOH, if you owe $25K on the same house, you are not paying very much interest and can take your time.

    Also, it’s not clear to me if “investing” including retirement accounts. I think it is a mistake to fail to max-out retirement account limits in any year.

  34. I would generally advise people to pay off the mortgage. That is a certain return, and quite frankly most people are not very good at investing.

    Best Wishes,
    D4L

  35. Along says:

    We currently have 2 home loans, for houses that we currently rent out. One housing loan is with our company, which gives us a very low rate of 4% yearly interest while another is with a local bank which gives us interest of 7.1%. I pay for the one with the higher interest rate becuase the amount of the loan is much smaller. Eventhough the monthly payments are only RM420 (on average) i usually pay RM1000. I find that I don’t miss the extra payment and it reduces my payment term by almost half. That being said, we have decided to just pay off this loan and free ourselves from one housing loan.

    I believe it all comes down to principal. I’m not that good with investing, other than sticking my money in my savings account. I have a few unit trusts but those were on advice from my hubby. I would rather have a good night’s sleep knowing I’m free from debt than have several investments floating around.

  36. letterman says:

    I am a retired letter carrier. Thanks to no competition we were paid very well for my part of the country. I was able to pay off my mortgage early because you taxpayers are footing the bill for my retirement. Almost at full wage and no health insurance to speak of. Thanks suckers and thanks to all the new hires at the Postal Service, getting Social Security like the rest of the fools,that made it possible to retire like a king.

  37. Shuia says:

    What about if you don’t plan on being in your home for the next 10 years? We have a little apartment and want to move in 2 years or so, would it still make sense to pay more into the mortgage if we’ll be selling the house soon?

  38. chris says:

    I competely believe in paying off the mortgage early. Once your home is paid for, you have a “place.” There is security in that. We pay an additional $500.00 a month toward our principal and have that set up automatically. The mortgage will be paid in full in less than six years. I would rather pay higher more at tax time, than an additional $20,000.00 or more a year toward our mortgage. With that large amount of cash freed up when the mortgage is paid off, we will have a lot to stash away, make improvements as they become necessary and also be able to breathe easier each month, knowing that if shortfalls happen, such as me losing my job as I did this year, we will be MUCH more able to face it with greater ease. Mortgage is just another bill that has to be paid – only thing is, it is the biggest one.

  39. JimmyDaGeek says:

    If you decide to invest the money for the long-term and you qualify for a ROTH IRA, put the money there. You are allowed to withdraw your principal without penalty or taxes so you have access to that money if you feel you need it.

  40. Michael says:

    I’ve been thinking about this issue a lot lately. The way I see it, two options are best. The first choice is to go for total liquidity and invest all of the extra non-retirement savings into a diversified portfolio of low cost index funds. Those investments will provide liquidity in the short term and can be used to pay off the mortgage at a future date in one lump payment.

    The second option is to refinance to a 15 year mortgage and then invest anything that’s left over. You’ll end up paying less interest that way and it also provides for more diversification as other commenters have noted. The only problem is that whatever you prepay to the bank can’t be accessed unless you BORROW it back in the form of a Home Equity loan or line. That’s like paying the bank for the privilage of getting your own money.

    I do agree with Trent that the market is uncertain but I would wager that over a 10-15 year timeframe, investing in a diversified portfolio of low cost index funds will provide solid returns.

  41. KoryO says:

    Don’t knock liquidity, folks, and don’t confuse a house you live in with an investment (yes, I know that sounds vaguely Kiyosaki, but bear with me for a moment….)

    Although Trent & family might feel that they could live in their current town forever, things could change. It did for me and my family. We believed we were going to be in Florida for a long time, and bought a house in 2006. Then….my sweetie got a job offer in Iowa, one too good to pass up, especially considering how horrible his old company suddenly turned when they hired a new CFO.

    We are very fortunate in that we can rent out our house for an amount that will just cover our current mortgage payment in this market, more or less (we may be behind $50-$100 on it, but it won’t break us). We tried to sell it for five months, and even with a reduced price we got ONE showing. That’s pretty typical for this market, unfortunately.

    We were tempted to pay off our mortgage early, but with the low rate we have on the loan (plus a tiny baby in the house), we figured we would do better if we invested the little bit we have left over after making the choice to live on one income and have me become a SAHM.

    The result? We could take advantage of the opportunity for my husband to get a better job (and by happy accident an area with better job prospects for me when I return to work in a few years), because we have a little bit extra that we could tap when needed.

    We didn’t have to resort to a HELOC and treat our home like an ATM quite yet. There are quite a few people who got in over their heads because of HELOC’s in this current mortgage mess and are now facing eviction from their homes. If we would have had to tap into our home’s equity, we could not afford to rent it out. We would be stuck here in a rapidly deteriorating job situation for my sweetie.

    With our brokerage account, we have two options: we can borrow against the investments or we could sell them to get our cash. There is relatively little paperwork with either option. I don’t have to wait for some stockbroker to “appraise” the value of my stock honestly, or for his manager to come back from vacation to approve it all. One call or a couple clicks on the ‘puter, and it is done.

    It even works out well for emergencies. Real life example…..I was out of work for a while a couple of years ago and had a health issue that kept me out of the job market for a couple months. Was able to borrow against my stocks to get some cash, even though I had the option of borrowing against my paid-for house. I could concentrate on getting well instead of “oh hell, how am I gonna make this month’s payment?”, and paid it off when I was stronger and working since there was no set payment schedule like there would be for a HELOC. Worst came to worst, the brokerage would have sold some of my account to cover the margin call. It would not have destroyed my credit, and I didn’t have to risk my house.

    It IS nice to have a paid-off mortgage. It is even BETTER to have a cash reserve or liquid investments when life goes down a path you didn’t expect. Save the extra and invest, Trent!

  42. Roxy says:

    My husband and I are in our 50s and aggressively pre-paid our mortgage over the years. Our intention was to be debt free by the time our sons went to college. We accomplished that two years ago, in time for both of us to lose our jobs to off-shoring! I must say that it was a relief not to have a mortgage payment, but now the money is spent on COBRA health insurance! (My husband now has a job with a startup company that does not provide medical benefits yet)

    For us, we included pre-paying our mortgage in our savings strategy together with investing for college, retirement and what we call our slush fund. It also helped that our sons worked hard and earned scholarships.

    My biggest mistake ever with regards to our mortgage, was refinancing it in the .com boom and cashing out some equity to invest in .com stocks! I will never refinance to pull cash out ever again.

    I think pre-paying a mortgage is a good idea. You know the return on your investment.

  43. I commend you for understanding that investing is the better choice as most people feel the “sure thing” of paying off the mortgage is best, just like their grandparents have been telling them. What I don’t see is the explanation of how the time value of money fits into the equation and how focusing on paying off your mortgage now, even in mortgage acceleration strategies can ultimately cost you dearly over time.

    Many of you may have read some of my posts already, placed on various comments at this site by others, but I would like those of you interested to read this article I wrote back in 2006 and reposted on my blog:

    Don’t Pay Off That Mortgage, It Could Be the Biggest Mistake!

    Of course, feel free to look around the site for more information. Also, this is the new location of the Florida Mortgage Report and the other site (where the other links went to) will be removed later and replaced with a mortgage market blog I do as well.

    I hope you all find the article interesting enough.

  44. Kathy says:

    When I bought my house back in 1977, it was 9.5%.
    So yes, I did try to make paying it off a priority, but I still saved some for retirement.
    I think it is easier to focus on one “project” at a time. When you have huge debt hanging over your head daily, it dampens your enthusiasm for other money drains.

  45. Brenda says:

    What about the feel good factor or not owing any money to anyone. We are 4 months from having our house paid for. I can’t wait.

  46. Brian says:

    Mr. Ashby’s article is ad-copy of him interviewing himself. Here’s an excerpt:

    “The majority of Americans carry huge credit card balances with high interest rates and most do not have enough money in savings to tide them over in a financial emergency. For this reason, refinancing or taking out a new loan may be even more beneficial for them by increasing their cash flow, which can then be invested to create a college savings plan, vacation plan, or even increase their retirement plan.”

    So, let me get this straight… these majority of Americans with huge credit card debt and no cash savings, are best served by tapping the equity in their home through a refi or new loan… and your proposal for that freed up money, does not even MENTION paying off their debt that is the problem to begin with.

    This is what creates a mortgage crisis Mr. Ashby – the scenario family you gave just got access to lots of cash, with no disciplined advice on why they are in the mess they are in. What then, when the next financial crisis hits?

    I still disagree that HEL’s and HELOC’s are good vehicles for paying off debt – mainly because they are “quick wins” and take away the intrinsic value of pulling yourself out of the hole you dug through hard work – it’s a quick fix to a bigger problem. Some people can turn the corner and it works out, for others… it is disaster that then puts your home at risk. Either way, the bigger problem is personal money management.

    For Mr. Ashby to address “the majority of Americans” that are carrying huge credit card debt, and start talking about college savings, vacationing, and investing, is grossly irresponsible.

  47. partgypsy says:

    I don’t think there is an exact mathematical formula to decide what is best for one person or couple. For me, my mortgage is small and doesn’t bother me. If I had the extra money I would more likely use it for maxing out retirement, increasing emergency savings accounts, etc. My mortgage payments don’t bother me because to tell you the truth most likely I would be paying more simply renting somewhere (and many people I know do).
    On the other hand, friends of ours got a windfall and along with being extremely frugal paid off their house early. For them it was the perfect choice as their objective is not necessarily to have the biggest amount of money in retirement but to live life to have the lowest monthly expenses possible so less money is needed to live and they can have the most flexibility how they live their life: change jobs to ones they like better, work less, move to a different part of the country, etc. Two different solutions for 2 different people.

  48. Al says:

    Back when I bought my first home (in the early 80s, with a fantastically cheap FHA mortgage of “only” 11.5 percent) buying a home to live in was a “purchase,” not an “investment.” A home as an investment was called rental property. Sure, you hoped it would appreciate but historically, homes usually appreciate as fast as inflation. At that time, and today, my home was like any purchase, and that was to own it free and clear, which I do today. The extra cash flow now funds investments, pays for my daughter’s college tuition (so she can graduate debt-free) and there’s enough left over to take my annual trip to Europe. Like the other posters, there is no “all or nothing” in life. Yes, have a liquid emergency fund. Yes, fund your 401(k) (at least as much as the company match…it is free money ya know!) But then, there’s worse things than having a paid off home. Not having to pay $1,000 a month in a mortgage is the same as having to earn $1,333 (in the 25 percent tax bracket) and that “imputed income” is very valuable indeed! And really, how many of you would rather have your mortgage payment going into your pocket rather than the bank’s pocket? ‘Nuff said!

  49. MD says:

    I come at the home vs investing issue from a different perspective – 3 years ago I became permanently disabled and our income fell by half. Paying off our home sooner rather than later has become a priority to help with the cash flow – my disability payments are capped to a certain number of years and after they end we simply won’t have enough money to handle the mortgage. and not enough time to build up $ via the market.

    Likewise, with job insecurity looming, paying off the home may have additional cash flow benefits.

    In other words – rather than taking an all or nothing approach I would split any extra cash between early payment and investment. As you so often point out – diversify!

  50. Michael says:

    http://www.duke.edu/~charvey/Classes/ba350_1997/history/history.htm

    This page explains risk vs. reward and the Efficient Frontier very well. See how Treasuries are almost riskless for what they pay. Those who prepay normal mortgages are getting an even higher riskless return, closer to corporate bonds.

    John Bogle would tell you investors need to be “paid” in higher returns for the risk they assume. Taking on extra risk without enough extra reward is a bad deal. Using the numbers in the link above, a guy earning 3% in an ING account could earn 9% more by moving into the S&P 500, but it would cost 35 units of risk. A guy prepaying his 6% mortgage could earn 6% more by putting the extra cash into the S&P 500, but it would cost the same 35 units of risk. It’s not as good a deal.

    Here’s an example. If spending time near sharks is highly rewarding to you, you might enjoy watching sharks through an aquarium wall. If you want an even better shark experience for slightly more risk, you could get into a shark cage. But unless you really, really know what you are doing, it’s probably not worth it to swim with sharks outside of the cage. You don’t get that much closer, but now you are in great danger.

  51. laura says:

    I am so glad you have written about this, I have been wondering how you feel about it for a while. Glad others brought up the tax deductibility issue of the mortgage interest. But shouldn’t one also consider the value of compound interest in determining which is the “best” way to go, just by the numbers alone. I realize that the emotional factor is very important. But if one were doing a side by side comparison just of the numbers, I think w/ the tax deduction PLUS earning compound interest on investments would put investing ahead?

  52. Rick says:

    I just refinanced from a 30 yr 6.5% to a 15 year 5% mortgage. If you plan to be in your house even a few years you should calculate if a refinance makes sense NOW as the rates are quite low. The interest savings will pay for the ~$3000 closing costs in 25 months. If I keep the house for another 15 years then I will save ~$35,000 in interest.
    I had been paying an extra $100/month on the 30 yr loan and the progress was glacial even with the extra payments! After 5.5 years I still had ~22 years left. All my extra payments had only taken off a few years. Going to a 15 year loan caused the payments to up a bit- but still less than my extra $100/month. The refinance cut ~7 years off the remaining mortgage which would have required a huge lump sum payment- I believe it was $22,000!
    After the refinance I am not going to be doing any further prepaying. First there is a reasonable end in sight, second 5% isn’t that great of a long term return there are a lot of other options that would give 5% (or more) and be much more liquid. For example my wife just opened a 6 month CD that has almost 5% APR. I have a few stocks that pay a greater percentage in dividends, even after the recent market drop! Finally, with a 15yr 5% mortgage a small extra payment just doesn’t make that much of a dent…it would take a $5000 payment to take the repayment down one year.
    -Rick

  53. riley says:

    Since my mortgage has 0% interest I don’t really see any need to repay, as every year I am in effect paying with a dollar that has an ever diminishing value due to inflation, while the home continues to appreciate.

  54. Brian – I said it was an article I wrote (an advertorial) and I wasn’t hiding that fact. I could have easily rewritten it as a blog post as well, but why waste the time?

    Now, I provide education to those who want it, education on how to manage debt and equity strategically to meet financial goals and dreams. The article is designed to arouse thought, break you free from eaxactly the type of thinking you are trapped in. Those who break free of the “old rules” of money (that fankly allowed most Americans to get into their debt traps) can create a lot of wealth when they use their mortgage as a tool.

    I will not go into any specifics as everyone is different, thus the solutions to their problems, or even if they can use their mortgage as a tool, is dependent upon them. If you don’t agree, fine, that is your prerogative, but I have helped many families throughout Florida and beyond get on the right track financially by utlizing their mortgage as a financial tool and I have yet to have a complaint, nor anyone go to foreclosure.

  55. Laura, your thinking is dead on and I supply some examples of that at my website. The time value of money dictates that you should focus on investing, especially if you reinvest the tax savings (like reinvesting dividends). With the tax advantages of mortgages, you can actually make money earning less interest on your investments than what you pay on your mortgage. Also, I forgot to mention before that investments do not always have to be taxable as there are quite a few tax-free options and there are ways to even defer taxes beyond what you may be thinking.

  56. Brian Duffy says:

    I never understood people who advise against paying down a mortgage – provided that you are saving adequately for retirement.

    You should be spending 28-38% of your money on housing related expenses. So retiring your mortgage asap basically cuts your basic cost of living down significantly — you just have to pay property tax.

    If you invest wisely, you might net 9-12% over the long haul. So is a 3-6% margin worth it? I don’t think so. Consider the opportunity cost… if you need to pay the bills, you’re going to have to stay in that job you don’t like, and may be unable to take risks that would make you wealthier or happier.

    I pay $1500/mo for my mortgage. If I could live at a higher standard of living or have the option of taking a $18,000 pay cut, I would rather do that than take advantage of a tax writeoff. Nobody ever got rich by writing off interest.

  57. Michael says:

    @Laura — Mortgage prepayments compound just like investments do. Suppose you owe me $1,000 at 10% interest and don’t pay it. You’ll owe me $1,100 after one year, $1,210 after two years, $1,331 after three years, etc. My 10% is compounding and the amount you owe me increases faster and faster each year.

    Now, if you pay at the end of Year 3, you’ll pay $1,331 total.
    If you pay me at the end of Year 2, you’ll pay $1,210 total.
    If you pay me at the end of Year 1, you’ll pay $1,100 total.
    And if you pay me before any interest accrues, you’ll pay $1,000.

    See? Every year you delay paying is one more year your lender accrues compound interest. Your 6% mortgage is like a 6% savings account for your lender, and a -6% savings account for you. You know you earn more from your savings account the faster and larger you make your deposits. Your bank earns more from your mortgage the slower and smaller you make your deposits.

  58. George says:

    @Al – If I had to borrow at 11.5%, I’d be trying to pay early, too.

    @MD – Yes, your situation warrants paying early!

    @Rick – We’re two of a kind and the more, the merrier.

    @Micheal – Thanks for the link. Will have to study it.

    @riley – Would your “bank” give me a loan, too? :-)

  59. George says:

    @Brian Duffy -

    “You should be spending 28-38% of your money on housing related expenses.”

    Uhm, nobody SHOULD spend that much, unless they want to. For instance, I could be spending 0% of income on housing if I were willing to live in a trailer on my own land, but I CHOOSE to spend 30% of gross annual income on a nicer home.

  60. Bill says:

    Paying off a mortgage is a forced savings plan, but I’m not sure I’d call it investing.

    Think of a $100,000 mortgaged house as an equity portfolio, $20,000 in equity/$80,000 on margin.

    Prepaying the mortgage retires the margin loan faster than normal, and will certainly increase cash flow when the loan is fully paid.

    But, viewed strictly as an investment, the underlying asset still appreciates at a fairly low real rate of return compared to other investments such as equities.

  61. Brian – It is clear you do not undertsnad the time value of money. It is not about “never” paying off your mortgage, but rather bringing your mortgage into your overall financial and investment plans. The rules of money show that focusing on paying off your mortgage will prove more costly than keeping the mortgage and focusing on your other financial goals first, simply put. Even the Federal Reserve attested to that.

  62. Michael – Your statement “Mortgage prepayments compound just like investments do.” is FALSE. While the savings may compound, it limits you to the rate of the mortgage and has a defined limit in the future (your mortgage paid off yields no more compounding).

    Couple that with the fact that you now start your investments at $0 in the future and you will need a lot more money to achieve the same financial results. (Time value of money). Now, add to that that every dollar that you send to the bank robs you of added liquidity, and receives a 0% rate of return. (Home equity itself has no rate of return).

    So, to say that the mortgage compounds the same is FALSE and an invalid comparison.

  63. steve says:

    Michael – As Robert pointed out, mortgages, HELs and HELOCs do not compound in interest the same as a credit card. Principle owed will never increase, even if you are late on a payment. What happens is the amount of back interest owed will increase, and less, if any, will go towards principle on your next payment. If you borrow 10000 on a HEL and you are late on a payement, the interest is simply left as back interest that needs to be paid, but interest is not added to the back interest owed; the 10000 principle remains the same, which is different from a credit card that can add interest to interest, which will increase the principle amount.

    What many people don’t realize is that paying off a mortgage has its own risks. Houses are a tangible asset, unlike the stock market or a savings account. Fires, flood, earthquakes, tornadoes, etc. can destroy a house and leave the worth of the house at zero. When was the last time the S&P500 was at zero? And if that happens, having a paid mortgage is the least of your concerns. Even with insurance, there is still the cash needed to live while a dwelling is rebuilt, or the waiting period to even receive the check (ask Katrina victims.) You still need to get your life back in order, and having more, not less, cash on hand will help in those situations.

    And you will never own your house free and clear. Ask the people in Central and South Florida about insurance rates and taxes, and then look at all the houses for sale because they are no longer affordable. If I was in Florida and had a 30 year mortgage and invested the difference, at least I would have the flexibility to sell at a lower price for a quicker sale and move somewhere else because I have the cash on hand to make the move, rather than relying solely on the sale of the home for the money needed for the next place.

    There is risk on both sides, and simply saying that the mortgage is paid and therefore “safer” is not always true. Personally, I would feel better emotionally having more options for a financial exit strategy rather than having all my money tied up into one, tangible and highly illiquid asset.

  64. Lurker Carl says:

    Few financial gurus mention how much more a house costs when the mortgage isn’t prepaid, the focus remains on return of investment. A mortgage can be paid off early while investing money at the same time. A sufficiently frugal lifestyle allows you to do both.

  65. lou says:

    I’ve been following your blog for quite some time now and this is one of my first comments. My situation is slightly different and I would like some comments on what I can do differently.

    I’ve got a home loan that has about $50000 outstanding. I’ve got a home loan offset account that is got as much money in it. Hence, I am not paying any interest on the home loan. I’ve not paid up the homeloan yet as there is a 2% penalty on the original loan amount if I pay up early. Also, I like having the money around in case I need it for medical emergencies (health care cover is not very good). It is effectively giving about 12% in returns after taxes. I now let the monthly payment reduce from the offset account. I currently have no need for the money in the offset account, but the security of having this money around allows me to invest in risky assets like stocks and managed funds.

    I now invest about $1000 a month in long term savings through equity managed funds and about $400 for medium term goals like a new car, painting the house etc by investing in balanced funds. These are still actively managed funds, as India, where I am, the market is not yet that efficient. I also have about $80,000 in stocks and invest in IPO’s when the company makes sense. Managed funds return bout 20% a year on average, but is much more volatile than the US stock market.

    My only debt is the house loan and my net worth not including the value of the house but including the liability of the home loan is about $140,000.

    I reckon I need about $500,000 in 20 years to retire comfortably.

    My question is, is there something I should be doing differently? Any feedback is welcome. The actual amounts are in Rupees, but have been converted into US Dollars

  66. Michael says:

    @Robert D. Ashby — Mortgage payments pay a compounding return as good as the mortgage’s interest rate. The bigger one’s mortgage, the more interest it charges, and the more interest it charges, the bigger it gets. It’s like investing in a savings account that takes money instead of paying it. The faster one pays, the less this compounding happens, because the longer the mortgage is around the more it takes. It does not matter what home equity is worth. A homeowner owes the same on his mortgage no matter what his home value does. Prepayment means he “bought” his home equity for less.

    It is also not true that mortgage prepayments stop compounding when the mortgage is paid off. Consider these examples:

    1. I have a $100,000, 30 year loan at 6%. Each month I send one payment, $600, to the mortgage and invest $600 in a 3% ING account. At the end of 30 years my mortgage is paid and I have $350,516 in the bank.

    2. If I double my payments I finish in 9 years. After that I put all $1,200 in the 3% ING account. At the end of the 30 years I have $421,596 in the bank. That is $70,000 more because I prepaid! It’s true that in year 9, when the mortgage was paid, I had $0 in the bank, but since I didn’t have to waste half of my $1,200 on that 6% loan for the next 21 years, I made much more money.

    Simple Dollar readers, please do not listen to Robert Ashby. When you prepay your mortgages, you use the full time value of money, just as if you invested. And since mortgage rates are much higher than savings account rates at the same risk (zero), mortgage prepayment is an excellent investment.

  67. Michael says:

    @Steve — You are right that most HELs and HELOCs use simple interest, but it makes little difference. If a borrower makes regular payments he will pay just as much as if the loan was compounded (since he covers interest with every payment.) Here is an article which talks about how simple interest mortgages take just as long or longer to pay off than compound interest mortgages:

    http://loan.yahoo.com/m/q_sim.html

    Mortgage prepayments have a compounding effect because each payment not only pays interest and principal, but lets future payments pay more principal and less interest. Because of this, prepaying a 6% mortgage is just as good as putting the prepayments in a 6% savings account. Consider this example:

    I have a $100,000 mortgage, 6%, 30 years.

    1. I pay double payments on the mortgage. I finish in Month 108 with $774 extra.

    2. I pay regular payments on the mortgage and put the extra payment in a 6% savings account compounded monthly. In Month 108 the mortgage principal stands at $85,298 and the savings account has $86,072. That’s enough to pay off, so I do, and I have $774 extra. It’s just as good. This would be the better way to go if 6% savings accounts existed.

    The exact numbers would vary slightly, but you see how prepaying a mortgage, even if it is simple interest, is like earning its interest rate compounded.

  68. Bill says:

    Risk is _not_ the same.

    Prepaying a mortgage increases equity, but in a very illiquid asset (compared to a savings account)

    A HELOC can access part of that equity, but is a debt that must be repaid.

    And unlike a mortgage, which can’t be called, your lender can cancel your HELOC at any time – such as the morning after the night your local news showed your house burning to the ground.

  69. I am wondering what the interest rate is on your student loans? In any event, now is the time to be thinking about leveraging MORE not LESS …

    NOW (at least, SOON) MAY just be a great time to invest in MORE “never sell” real-estate (income producing).

  70. @Michael – Yeah, there’s a solution. Tell people not to listen to views opposing yours especially when you don’t even understand what I am talking about. I will respectfully suggest you quit talking about that which you do not fully understand.

    Why? As I have said before mortgages do provide a compounding effect, however not the same as an investment. And I am not talking about a savings account that pays 3%. There are plenty of ways to earn over 6% tax-free and many can break 12% or more. The possibilities are endless, that is unless you stuff your money into home equity (pay off your mortgage).

    Home equity does not have a rate of return and while paying off your mortgage is noble, the time value of money proves that investing first instead of later is the better route. Take the rule of 72 to heart and let’s look at a $200,000 at 6% and investments at 6%. If you could send $1,000 extra to the bank or investments, which would be better (I am leaving out tax benefits)?

    Well, if you sent it to your mortgage, your mortgage would be paid off in 10.17 years. If you sent it to your investments, you would have enough money in your investment account to pay off the mortgage in 10.17 years. Hence, the same effect, except for the investment account provides liquidity and more flexibility.

    Now, if you decided not to liquidate your investment account to pay off your mortgage, guess what, you have around $200,000 compounding as opposed to $0!!! So, where would you rather be? Also, think about what would be the effectou could invest elsewhere and get even greater rates of return? What about real estate investing options to grow your portfolio tax deferred as well?

    The bottom line is trapping your money in your home is not a wise investment, even if it costs a little by maintaing your mortgage. So, you can listen to Michael and just ignore me, or you can visit my blog at Florida Mortgage Report and learn more.

  71. steve says:

    @Michael – Please reread the article that you linked. This article shows the difference between a simple interest mortgage and a fully amortized mortgage. In neither case does the interest compound. Compounding interest happens when interest is charged against interest owed. As I said earlier, unless it is a negatively amortized mortgage (such as an option ARM), the principle will never rise, even with late payments.

    Let’s say for example I have both a 10000 dollar HEL from Crudtastic National Bank and a credit card from them as well. Both offer an incredible yearly rate of 365%, or a daily rate of 1%. My payment is 3200 per month.

    In January, I pay both the credit card and the HEL 4 days late. Here is what happens for the HEL:

    Day 1 – Principle 10,000 – Interest 100
    Day 2 – Principle 10,000 – Interest 200
    Day 3 – Principle 10,000 – Interest 300

    Day 34 – Principle 10,000 – Interest 3400
    Payment – 3200
    Day 35 – Principle 10,000 – Interest 300

    For the Credit Card:
    Day 1 – Principle 10,000 – Interest 0
    Day 2 – Principle 10,000 – Interest 0
    Day 3 – Principle 10,000 – Interest 0

    Day 30 – Principle 10,000 – Interest 3000
    Day 31 – Principle 13,000 – Interest 0

    With the HEL, the interest is left as money still owed, but the principle does not increase. Because I was late with the credit card, they added the interest to the principle. This means that on Day 60, I am going to owe interest on 13000, not 10000 plus the interest that I still owe. This is how interest compounds on a credit card and not on a HEL or mortgage.

    Finally, remember that when you make more payments on simple interest loans, the interest resets to 0 owed and starts recalculating the new balance, which means that if you can pay the loan weekly, you are lowering the daily interest accrued with each payment; something that does not happen with either a mortgage or a credit card.

    Finally, extra principle payments paid against a mortgage go against the last payments of the loan; you still pay the full interest payments up front when they are higher, and you are paying the last payments with todays dollars rather than future dollars, which means you are losing 3% compunded by paying off the principle. Savings, investments, and inflation, unlike mortgages and HELs, do compound.

    My whole point of the original post was that there seems to be this idea that paying off the mortgage is the safer investment, but that isn’t always the case, and there are risks on both sides of the coin. I would rather have the risk be in liquid cash than an illiquid asset like a house. Tangible assets can go to zero, and that is a big risk in itself. Paying off a mortgage has its own risks, and if you feel better with that risk than with investing, then go for it, but understand all risks before labeling one as being safer than another.

  72. Michael says:

    @Robert Ashby — Your example is like my examples. We agree that paying off a 6% mortgage or HEL is like earning 6% on an investment. I also do not think there is a 6% investment as risk-free as debt repayment. Liquidity is nice, but the trade-off is either investment risk or lower returns. Risk means some people will lose money. Also, if you are concerned about liquidity you should not recommend real estate as a way to outperform mortgage repayment. Real estate is illiquid. Finally, when you say it’s better to have $200,000 than $0, you’re not giving the whole picture because if you have $200,000 you also have a large mortgage and are still making payments.

    @Steve — Thank you for your example. I did read my link. Like its author, I assume the borrower makes his payment on time, giving the mortgage no chance to compound. Mortgage or HEL repayments have a compounding effect because they lower principal, not because the mortgage or HEL interest compounds. You can see this yourself by roughly recreating the example in my previous reply to you in Excel.

    If you apply inflation you must apply it consistently. 3% inflation means money is lost by putting it everywhere. If the real return of paying off a 6% mortgage is 3%, the real return of investing in a 6% savings account is also 3%. Inflation makes money worth less whether you paid it to the bank or the bank paid it to you. It does not affect prepayment vs. investment scenarios.

    You are right that houses are illiquid and cash is liquid, but you are confusing two things. If I take out a loan, it does not matter what I bought. It doesn’t matter if I took out a loan to buy stock or a house, because I will owe the money no matter what. Whether my house doubles in value or burns to the ground, I owe the money. The return on mortgage prepayment has nothing to do with the value of the house. It has to do with saving interest by making principle payments.

    The liquidity of investment accounts is something different. It’s true there is an advantage to liquidity and that it can save money to have money around. But because there is no investment that guarantees a return the way loan prepayment does, liquidity has a cost. For a $100,000, 6% loan, putting $1,000/month in a risk-free, 3% ING account instead of making extra payments costs about $10,000 in extra payments. That is the cost of liquidity.

  73. @ Michael – I have not agreed with you about the compounding effect being the same!!! DO NOT CONFUSE WHAT I AM SAYING. While there is a compouding effect with a mortgage payoff, they are not the same, period.

    Investments are liquid, provide more flexibility, more opportunities, better rates of return, and even increased safety. Home equity provides 0% rate of return, is not as safe as people think, is not liquid, and can prove much more costly than investing over time.

    There are plenty of low-risk investments out there that return over 6% (my tax-free bond fund yielded greater than 6% last year even with the financial meltdown, other funds I own were even greater returns). All it takes is a little education and research to find one you like.

    As for real estate, investing in real estate is a great way to invest and you can do so with little money invested, yield great tax benefits (ie 1031 Exchanges, depreciation, etc.) and even extract cash out of properties to improve liquidity. Again, some research can show you how this can prove real estate investing to be a great way to diversify your investment portfolio.

    As for my earlier comparison, the $200,000 investment versus mortgage payoff, why would you pay off the mortgage when you have all of that money working for you? Sure, the mortgage carries a cost, but it is far less than what your return is through investments, so you make money through arbitrage the way banks do.

    Again, strategies I write about and suggest are not for everyone, but they do need to be looked at. Even the Federal Reserve did a study showing nearly 70% of all Americans would be better off employing other strategies instead of paying off their mortgage. Food for thought.

  74. Michael says:

    @Robert Ashby — You are confusing two issues. We agree prepaying a 6% mortgage earns 6%, although you say the benefit stops when the mortgage pays (I disagree; see the example in the “Michael @ 3:15 pm February 7th, 2008″ post.) You also say home equity returns 0% which is misleading since the returns come from prepaying the loan, not from the behavior of the collateral. But while we agree on the rate earned, I think mortgage prepayment is the best investment for the risk and you think other investments are superior. I don’t think I confused what you are saying.

    Now, since nobody else is reading this let’s all table the discussion until Trent’s next post about mortgages.

  75. Wendell says:

    I recently finished a book titled “Not Your Parent’s Retirement”. In this book, the author recommends putting the extra money you would pay down on your mortgage into a fixed annuity. This assumes that you are debt free (except mortgage), have a life insurance plan, and invest into a 401(K) or IRA. Once you have met those small steps put all available cash into the annuity and build it up. If you have a 30 year mortgage somewhere around year 15 you should have enough in the annuity that its monthly payments will pay your mortgage payment. The last 15 years of your mortgage will be paid by the annuity. You get the tax benefit the mortgage, the annuity, and it will be as if you paid off your mortgage 15 early. The best of all worlds.

  76. troy says:

    one thing

    you do not get a mortgage, and you do not have a mortgage.

    You GIVE a mortgage in exchange for money. You get a loan. The lender has a mortgage, not the borrower.

    As far as the discussion. Pay off the loan. Why, 2 foolproof and irrefutable reasons.

    It is almost always the highest risk free rate of return that exists for most people.

    If most billion dollar banks think that loaning out much of their money with some risk is the best investment they can make (which it is…that is why you have a loan with them), then paying off that loan equals that same desired rate while eliminating all of the risk because the “investor” is the payee.

    Forget the tax issues. They offset (interestdeductibility vs taxable income from the investment account)

    Pay off the loan. Don’t try to beat the system. Use it to your benefit.

  77. Cowboy is a compliment says:

    Now, since nobody else is reading this let’s all table the discussion until Trent’s next post about mortgages.

    Michael @ 8:55 am February 12th, 2008 (comment #74)

    That quote would be the first time I thought you were wrong.

    I’ll take the two pronged approach, pay down some in a reasonably safe investment (for those who say it will burn down, ever heard of insurance?) and pay some into more risky investments, with a better opportunity for return, but also the opportunity to go to nothing.

  78. I agree with Cowboy’s last comment… pay some and invest some.

    I hear so many arguments against paying your mortgage early if you have a good interest rate, but I come from a school of thought where you’ll be able to build more wealth once all of your current debt is paid off.

  79. Stan says:

    Proverbs 22:7
    “The rich ruleth over the poor, and the borrower is servant to the lender.”

    William Shakespeare:
    “Neither a lender nor a borrower be.”

    IMHO pay it off as quick as you comfortably can.

    My formula is this:

    1. Eliminate all other debts first. After that never carry a balance on a credit card or take any kind of consumer loan ever again in your life. Visa and Mastercard are not your friends.

    2. Max out your 401-K, IRA’s or whatever pre-tax retirement plan you have at work.

    3. Have 6 momth emergency fund in the bank.

    4. Take whatever is left and apply it to paying
    off the mortgage as quickly as possible.

    You shouldn’t sacrifice your retirement investing to pay the mortgage off early. But to me you shouldn’t use any of your net pay after 401-k deductions and taxes to invest in the market unless you are debt free.

    You are already maxing out with pre-tax dollars to invest for the future. If you combine that with having no debt you will have more than enough money to retire on.

    You don’t need as much money to live on at retirement if you don’t have any debt.

    With this formula I am currently on schedule to pay a 30 year mortgage off in less than 9 years.

    It can be done and you do not have to live like a pauper to do it.

  80. Jimmy says:

    I am in agreement with Stan and Troy – pay it off. Many of the advisors above are reaching way into the future (long term). Like Stan, two years ago I started putting my extra income into prepaying my mortgage and will have it paid off in the next year or two (a total of 8 years instead of 30). If I had put that into the market, my total would be worth less than my principle. I have gone through the lose of significant investments before and will not take the advise of brokers or mortgage lenders to make commissions for them at the expense of carrying debt. Head or heart?

  81. Rob says:

    Interesting debate.

    I wonder how this conversation would change if the year on the posts was 2009 (now) versus 2008 (pre-recession topics).

    I also see both sides, and the issue I have with pre-paying the loan is that it locks it up where you need to re-borrow it to access the money, and who knows if that will be possible.

    And, investing instead assumes an average return that may not be realistic. Look at the last 10 years. We’re basically flat on all stock markets, so pre-paying would have given you at least your 5 or 6% return based on the rate of your mortgage. Who knows what the next 10 years brings.

    For the record though, because of these points, I am doing a mix of both. Since the recent 40% losses, I’m considering putting more into the investment side, with a focus on where that money will be 5 or 10 years from now, not the 5.5% return I’d instantly get by pre-paying an extra amount.

    If anyone from 2008 is monitoring this board, let me know what you think of my views today – 2009.

    Thanks and once again, a great lively discussion!

  82. PSUfan says:

    Yes it’s very interesting to read peoples opinions on this topic back in 2008 before the big stock market crash. No doubt many who favored stock market investing over prepaying a mortgage are singing a different tune today.

    Suddenly earning a guaranteed 5 or 6% on your money looks pretty good.

  83. WCW says:

    All the articles I read speak about paying off your mortgage early using a lump sum or extra payments over the life of the mortgage. How about making extra payments only early in the loan note (say for the first 10 years of a 30 year note) then paying the note as schedule as opposed to paying off the mortgage “Early”? My math points out that this would give the best of both worlds: Saving a ton in interest, shortening the mortgage note, and leveraging a long mortgage note as an inflation hedge.

    Assume a 30 year 200,000 mortgage at 6%. The payment on this mortgage is $1,199.11 (First payment = $1,000 in interest and $199.11 in principal).

    If you put an extra $250 towards principal for the first 10 years (120 months) you will have saved $77,754.17 in interest (loan shortened by 89 months). So for a $30K investment ($250×120) you earned $77,754.17. That’s a return of 259% or about 25.9% a year.

    Now assume you paid an extra $250/month over the entire loan. In this case you would have spent/invested an extra $58,750 ($250×235 since loan got shortened to 235 months) and returned a total of $91,314.16 in interest savings. That’s a total return over 235 months of 155% or about 8% year.

    So you can see the benefit of early payments is early in the note. So my plan is to pay extra for the first 10 years and then let the loan ride out as scheduled so that I get the benefit inflation. At year 11 a mortgage payment of 1199.11 will be $825 in today’s dollars assuming a 3% inflation rate.

    Am I thinking about this right? Any flaws in my thinking or math?

    Thanks!!!

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