Are you ready for the greatest wealth transfer in history? Ready or not, it’s already happening!
Amounts worth $70 trillion will likely be passed down from older to younger generations in the next twenty years. 1 That is a lot of money—and some of it might be heading your way.
But if you’re not careful, it’s easy to let an inheritance go to waste. Not only that, but more than one-third of people who inherit money see their wealth stay the same or even go down. 2.
Did you catch that? Some folks are worse off after they inherit a financial windfall. But that doesn’t have to be your story. Your inheritance has the potential to change your family tree forever—so make it count!.
Inheriting money can be a blessing, but it can also create some tough decisions. One of the most common questions inheritance recipients wrestle with is whether or not to pay off their mortgage.
Paying off your home loan may seem like a no-brainer. Of course, everyone would want to be debt-free and own their own home outright. But the choice isn’t always that simple. There are good arguments on both sides.
The Case for Paying Off Your Mortgage
Here are some of the key benefits of using your inheritance to pay off your mortgage
1. You’ll be debt-free and own your home.
Being debt-free is a very freeing feeling for many people. Being able to legally own your home can make you feel very safe and comfortable. You will no longer have to worry about making your monthly mortgage payment.
2. You’ll save a lot on interest.
You might save tens of thousands of dollars in interest over the life of the loan if you pay off your mortgage. It depends on how much is still owed. There are more savings for you if you owe more money and pay more interest.
3. Your monthly cash flow will improve.
When you stop making your mortgage payment, the money you were putting toward your loan every month will be freed up. In most homes, the mortgage is one of the biggest monthly costs. Removing it can really improve cash flow.
4. It serves as a forced savings plan.s aren’t always great at saving and investing lump sums responsibly. Paying off your mortgage guarantees that the inheritance money will provide value by eliminating debt.
5. It allows you to sleep better at night.
Research shows that being debt-free is linked to better mental health and sleep quality. If paying off your mortgage will give you peace of mind, that’s a significant intangible benefit
6. It simplifies early retirement.
If you’re close to retirement age, being mortgage-free can make leaving the workforce much more feasible. It’s one major recurring expense you won’t have to worry about.
The Case Against Paying Off Your Mortgage
However, paying off your mortgage also has some potential drawbacks:
1. You may get a better return by investing.
Historical stock market returns are around 7% per year. That’s much higher than current mortgage rates which are usually between 3-6%. If invested wisely, your inheritance could grow significantly.
2. Mortgage interest is tax deductible.
You can deduct mortgage interest on your taxes, which reduces the true cost of your interest payments. This savings would go away if the loan was paid off.
3. Mortgages provide leverage.
Using “good” debt like a mortgage to invest while keeping your own cash free provides leverage. This can maximize returns. Paying it off removes this leverage benefit.
4. Low rates equal low cost.
Today’s mortgage rates are near historic lows. The true cost of mortgage debt is lower than ever. Paying it off may not make sense if it means losing better investment returns.
5. Peace of mind is still possible.
You can still achieve security by paying down your mortgage partially without fully paying it off. This balance lessens risk while maintaining the benefits of keeping a low-rate mortgage.
6. Retirement accounts should come first.
Most experts recommend prioritizing tax-advantaged retirement accounts over extra mortgage payments. Don’t sacrifice more important savings goals.
Key Factors to Consider
As you can see, reasonable minds can disagree on the right move. There’s no one-size-fits-all answer. However, there are some key factors that can help you determine if paying off your mortgage makes sense:
-
How much inheritance money did you receive? A large sum may be better utilized elsewhere, while a small windfall can be a mortgage payoff.
-
How close are you to retirement age? Payoff benefits increase for those nearing retirement. Young investors often see better returns investing.
-
What is your mortgage interest rate? Under 4% favors investing, while over 6% favors payoff. Refinancing could make payoff less advantageous.
-
How much mortgage debt do you still have? The more debt outstanding, the greater the payoff benefits.
-
Are you already on track retirement-wise? Payoff is more prudent if you’ve already maxed out tax-advantaged retirement savings accounts.
-
How sophisticated of an investor are you? Strong investors lean toward investing, while passive investors may prefer guaranteed payoff “returns.”
-
How risk-averse are you? Payoff provides a low-risk way to put inheritance money to work.
Your individual financial situation will determine whether it makes sense to pay off your mortgage or not when you receive an inheritance. The inheritor’s age, risk tolerance, existing assets, mortgage details, and the inherited amount itself all play a role.
While being completely debt-free is an admirable goal, it shouldn’t come at the cost of more optimal investment returns, especially for younger investors. An experienced financial advisor can provide guidance based on your specific situation. Don’t let the emotionally appealing idea of a mortgage payoff cause you to rush into a suboptimal decision.
Save for your kids’ college fund.
There are plenty of ways to cash flow college without using your inheritance. But if you’ve fallen behind on saving for your kids’ college fund, you could put some of your inheritance into an Education Savings Account (ESA) or 529 plan to catch up on Junior’s college fund.
What if I Inherit a House?
Okay folks, you’ve got three options if you inherit a house: sell it, rent it out, or live in it.
Should I pay off my mortgage with inheritance money?
FAQ
Should I pay off my mortgage if I have an inheritance?
The inheritance you’ve received is a significant windfall, and it’s understandable why you feel conflicted about how to allocate it. Given your situation, there are a few key factors to consider when deciding what to do with the money. First, paying off your mortgage would be a solid financial move.
What happens if you inherit a house with a mortgage?
Most of the time, if you inherit a house that has a mortgage, you have to pay it off or let the bank sell the house. Here is how your options work.
Should you pay off an inherited mortgage early?
You’re mostly paying for the house itself, not the loan, in the last few years of an inherited mortgage. Paying off the mortgage early in this case saves very little. It’s recommended that anyone who inherits a house consults a financial advisor before making big decisions. The general advice is that prudent, well-managed investments will serve you better.
What happens if a heir inherited a house?
If you are an heir, you can move into the house and take on the mortgage, buy out other heirs if they also inherited a piece of the property, or sell the house and use the money to pay off the mortgage.
What happens if a deceased person inherits a house?
Thanks to the Garn-St. Germain Act, if the inheritor is a relative of the deceased person, the lender can’t force the inheritor to pay off the entire mortgage right away. If you can’t afford the mortgage payments, consider refinancing or selling the property, but be aware of capital gains tax.
What happens when you pay off your mortgage?
When you pay off your mortgage, you are essentially earning a 4.5 percent return on your investment. This rate of return is not exceptional, but it is better than the returns on CDs, money market accounts, and U.S. treasuries.
Is it smart to pay off a mortgage with inheritance?
5. Pay down your mortgage. Can you imagine having no more house payments? Using part of your inheritance to pay down your mortgage can move you closer to that finish line and save you thousands of dollars in interest!
Does Suze Orman think you should pay off your mortgage?
For those nearing retirement age, though, Orman offers different advice: If you’re in your forever home, pay off your mortgage by the time you retire. Considering that baby boomers own 38% of America’s housing stock—and more than half plan to never sell—is an important caveat.
What is the 2% rule for mortgage payoff?
What should you not do with inheritance money?