Lots of finance gurus advocate paying off your mortgage as soon as you possibly can because it saves so much on interest in the long run and frees up your options for future investments. Plus, it’s pretty cool to own your own home 10-15 years earlier than you originally expected.
But here’s a word of caution to anyone who is wondering how to put their extra cash to good use. Repaying your mortgage early is one option, but it’s not always the best one. Here are five reasons why you might want to consider an alternative approach:
1. You have other debt with higher interest rates
Because your mortgage is probably your biggest debt by far, it’s understandable you want to work at reducing it. However, if you also have a personal loan or credit card debt, chances are these are subject to much higher interest rates.
It often makes more sense to work on clearing the highest-rate debt first (usually your credit card) as once this is gone, you’ll have more to put towards the rest. Work through your debts in this way, from highest rate to lowest, and the amount you can afford to repay monthly will increase as each debt is cleared.
2. You’ll face early repayment penalties
Check your loan terms carefully to see what fees you’ll face if you repay your loan early. Sometimes mortgage companies charge hefty prepayment penalty fees to discourage people from paying their loan off early. You can ask your loan provider whether these fees still apply; some have removed them altogether, even for older loans.
3. You want to maximize retirement contributions
If retirement savings plays a big part of your retirement plan, there may be good reason to maximize your retirement contributions before making extra mortgage repayments. This is partly because of the tax benefits, and partly because of annual contribution caps.
Currently, individuals may contribute a maximum of $19,000 to your 401(k) pre-tax. If you put all your money into paying off your mortgage at 3% but your 401(k) is returning 7%, it makes more sense to put as much into your retirement as possible.
4. You’ll get more from other investments in the long run
Much like I just mentioned before, with mortgage interest rates as low as they are at the moment, your money may earn more from other investments versus repaying your mortgage.
For example, if your home loan interest rate is 3.75 percent but investing in a duplex yields 6 percent, it may be better for you to put your money into a duplex versus repaying your mortgage.
This is one of the many benefits of working with a good financial advisor. If you don’t have one, please reach out to me and ask who I recommend.
5. You’ll need the cash for something else soon
If you know you’ll need a lump sum a few years down the line, perhaps to start a business or pay university fees, do you really want the equity tied up in your home? If you can’t access the cash from elsewhere, you’ll end up having to re-mortgage, which defeats the purpose. Consider a savings account, money market account, or other investment where the money isn’t tied up.
Some people end up so obsessed with paying down their mortgage they don’t consider their other investment options, while others just have their hearts set on accumulating more and more investments despite the risk exposure.
In both extremes, the individual is oblivious to the bigger picture and hasn’t stopped to think what would actually work best for them. As you can see, there are actually many factors to consider in this decision, and there is no one right way to go about it; it’s a highly individual process.
Make sure you take the time to find the right balance between debt repayment and new investments so you can ensure a financially secure future for you and your family.
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