Determine if paying off your mortgage early is a wise decision for you.
Deciding where to put your hard-earned money is often a complicated decision. That’s especially true if you’re considering paying off your mortgage early. While owning a home outright is a common aspiration, it may be more beneficial to invest extra cash in the markets instead.
There are several factors to consider when deciding whether to pay off your mortgage or invest the difference, including your personal financial values, time horizon, taxes, risk tolerance and the potential impact on savings.
We can help you determine if paying off your mortgage is a smart move considering your overall financial goals.
In this article:
When is it better to pay off your mortgage early?
- If you want to save on interest: By paying off your mortgage in advance, you can save thousands of dollars in interest. This can be especially impactful if you are in the early years of your loan, when most of your monthly payment goes towards interest rather than principal.
- If you don’t mind losing the tax benefit: Paying off your mortgage means you can no longer take a tax deduction on your mortgage interest, which can help reduce your taxable income.
- If you want to free up cash — or reduce essential expenses: For most, a mortgage payment is among their most significant monthly bills. And eliminating this payment makes it possible to live on substantially less income or save more toward other priorities. That can be particularly helpful if you are close to retirement or are exploring ways to reduce living expenses.
- If the interest rate on your mortgage is high: If your mortgage rate is significantly higher than the interest you could receive on a low-risk investment, it may be worth paying off your mortgage, or consider refinancing.
- If you put a premium on peace of mind: Owning your own home outright can be liberating, and it’s hard to put a price on the security you may feel as a result. For some, that sense of freedom is worth far more than any potential returns they could earn if they had invested it instead.
- If you are debt-adverse: Even though debt — when used smartly — can be a wealth-building tool, some individuals just don’t like the risk and liability that comes with it. If being debt-free is among your financial goals, then paying off your mortgage is a logical step to achieve that.
Learn more: Effective debt management: Tips and strategies
When is it better to invest instead?
- If you haven’t saved enough for retirement or put a premium on investing: If you’re not maxing out contributions to your 401(k), IRA or other retirement accounts (or making larger catch-up contributions if you’re eligible), it’s generally advisable to do so before considering paying off your mortgage. After all, while you can take a loan for a mortgage, you cannot take a loan out to fund your retirement.
- If you have a low-cost mortgage: Did you refinance or secure a mortgage when interest rates were historically low? If so, any money you put into investments is likely to outpace whatever you might save in interest by paying off your mortgage.
- If you only plan to own your home for the short term: If you don’t see yourself living in your home for years to come, it may make sense to only make the minimal mortgage payments to insulate yourself from the possibility of a housing market downturn. Home values don’t always go up.
- If you have a higher tolerance for risk: While history is on the side of long-term investors, it’s important to remember that investing returns, of course, are not guaranteed. Markets are cyclical and periods of drawdowns are inevitable, when investing over a long time horizon.
- If you want more liquidity: Assets like stocks and bonds are far more liquid than home equity. If access to cash is a priority for you, then it may be better to invest rather than pay off your mortgage. In general, it’s much more challenging to tap into the equity in your home, compared to investments in a portfolio.
Crunching the numbers: Pay off mortgage or invest?
The return on paying off your mortgage early is the amount of money that would have been paid in interest. What you don’t know is the return you would have gotten on the money if you invested it instead.
Here’s one scenario:
This example is shown for illustrative purposes only and is not guaranteed.
Learn more: Strategies to help pay off debt faster
How you can pay off your mortgage faster while still investing
If you don’t have the funds or the desire to pay off your mortgage entirely but want to pay it down faster, there are several options to consider:
- Pay biweekly instead of monthly: This involves making half your monthly mortgage payment every two weeks instead of paying it in full once a month. By doing so, you’ll reduce the principal on your mortgage by the equivalent of an extra monthly payment every year. Over time, you may save tens of thousands of dollars in interest payments and reduce the time to pay off your mortgage by years. Not all mortgage companies allow biweekly payments, while others sometimes charge fees to do so, so talk to your lender if you’re considering this option.
- Make a regular “overpayment” to your mortgage: Tacking on an additional payment — such as $100 or $200, for example — to your monthly mortgage payment can be a manageable and routine way to pay down your loan faster. This strategy can be advantageous if you can make the additional payments at the very beginning of your loan because your savings on interest will be compounded over time.
- Make occasional lump-sum payments, when you can: Similar to the strategy above, this approach can save a significant amount of interest and shorten the life of the loan — without sacrificing your other savings or investment goals. As you have cash available — whether that be from a bonus or tax refund — you can funnel that money toward the principal balance on your mortgage.
- Refinance your loan: Refinancing a mortgage is a popular option when interest rates are low since it can reduce monthly payments and the interest paid over the life of the loan. But even when interest rates are higher, you can use refinancing to shorten the term of your loan and pay off your home quicker. Doing so, however will increase your monthly payments, and your new loan could also have a higher interest rate than your previous one. Either way, ensure a higher mortgage payment fits your monthly budget before deciding.
Use the Ameriprise mortgage refinance calculator to see how refinancing your mortgage could affect your monthly payments.
We can help you evaluate your options
We can help you weigh the pros and cons of paying off your mortgage early based on your priorities and financial goals.