Getting rid of your mortgage isn’t just a sensible goal that you should think about as part of your overall investment plan, though that is definitely true.
There’s an emotional component to getting rid of your mortgage, too. And we shouldn’t ignore our emotions because they hugely influence our ability to stick to our plans.
Being completely debt-free and owning your home outright without a mortgage is a dream for many homeowners But is it always the best financial move? This article takes an in-depth look at the pros and cons of paying off your mortgage early to become mortgage-free versus continuing to carry a mortgage and investing your money elsewhere
The Allure of Being Mortgage-Free
It’s easy to see the appeal of being mortgage-free Here are some of the touted benefits
-
No More Monthly Payments: Not having a monthly mortgage bill frees up cash flow for other goals like saving, investing or spending. This can provide a greater sense of financial freedom.
-
Equity Builds Faster: When you pay off your mortgage, all of your monthly housing payments start going directly towards building your home equity rather than paying interest.
-
A big debt doesn’t make you feel bad about yourself, which is called peace of mind. Many people feel calm and safe when they own their home without any debt.
-
No Interest Fees: The amount of interest you pay on a mortgage over its lifetime can be huge. Eliminating this interest expense saves a substantial amount over time.
-
Predictability: Without a mortgage, housing costs become fixed at things like taxes and maintenance. This helps budgeting and planning for retirement.
Clearly, homeowners who are mortgage-free enjoy a lot of emotional and financial benefits. But are there potential downsides as well?.
The Other Side: Drawbacks of Being Mortgage-Free
While being mortgage-free sounds idyllic, here are a few considerations to keep in mind:
-
Opportunity Cost: Money put towards paying off a low-interest mortgage could potentially get better returns if invested elsewhere, like stocks. This is the biggest drawback for some.
-
Lack of Liquidity: Home equity is not easily accessible cash like investments in a brokerage account. This limits flexibility if funds are needed.
-
Loss of Tax Breaks: Property taxes and mortgage interest are often tax deductible. Eliminating these can increase your taxable income.
-
Prepayment Penalties: Paying off a mortgage early sometimes incurs fees, reducing the savings. This depends on your loan terms.
-
Inflation Protection: Mortgages lock in housing costs. Inflation makes future payments relatively smaller and easier over time.
While being mortgage-free gives peace of mind, it also ties up capital. Each person needs to evaluate the trade-offs based on their financial situation and risk tolerance.
Key Factors to Consider in the Decision
There’s no universally right answer on whether it’s better to pay off your mortgage early or not. Here are some key factors to weigh for your own situation:
-
Interest Rate on Mortgage: The lower the rate, the more sense it may make to invest extra funds instead of prepaying. Current rates below 3-4% are especially favorable.
-
Time to Payoff: The closer you are to paying it off, the more benefit there is in plowing ahead to the finish line.
-
Investment Options: Consider whether you have other investments likely to return more than your mortgage rate. What are the tax implications?
-
Risk Tolerance: Paying off a mortgage guarantees a return equal to the interest rate. Are you comfortable with market risk to seek higher returns?
-
Retirement Plans: Will being mortgage-free better align with your overall retirement goals? Run projections both ways.
-
Job Security: A paid-off house provides protection in case of job loss or reduced income during retirement.
Think through both the mathematical and emotional factors before deciding which path aligns better with your priorities and long-term financial plan. Don’t underestimate the psychological boost of being mortgage-free.
Strategies to Accelerate Payoff
If you’ve weighed the considerations and decide becoming mortgage-free is a major goal, here are some strategies that can get you there faster:
-
Make bi-weekly instead of monthly payments to reduce interest costs through faster amortization.
-
Opt for a 15-year mortgage term rather than 30 years to accelerate the payoff timeline.
-
Pay half the usual payment every two weeks to achieve an extra monthly payment each year.
-
Round up each payment to the nearest $50 or $100 increment.
-
Make one extra principle payment each year equal to one monthly payment.
-
Set up automatic transfers to send any extra funds directly to mortgage principle.
-
Refinance to lower your interest rate and monthly payment if possible.
The more additional principal you can pay above the minimum monthly required, the quicker you’ll reach mortgage payoff. Just beware of prepayment penalties depending on your specific loan.
Is Being 100% Mortgage-Free Always Ideal?
While being completely mortgage-free is rewarding, an alternative approach is to pay down a mortgage until you have 20-50% equity, then maintain that loan and invest surplus cash. Here are a few benefits of this balanced strategy:
-
You maintain the benefits of low-interest leverage on a portion of your home value.
-
Funds stay liquid in investments offering higher potential returns.
-
Ongoing mortgage interest remains tax deductible based on your situation.
-
You have a forced savings mechanism with the continued mortgage payment.
-
You retain some inflation protection from a fixed rate mortgage.
This hybrid strategy takes advantage of the best of both worlds – the security of home equity plus the growth potential of investments. The ideal split depends on your risk tolerance and age. A younger investor may opt for an 80/20 split, while an older pre-retiree may prefer 50/50.
Final Thoughts on Being Mortgage-Free
Paying off your home loan is a major milestone on the path to financial independence. But it’s not necessarily the optimal strategy for every person in every situation. Take time to analyze the costs and benefits through the lens of your own circumstances, priorities and risk appetite to make the most financially sound decision for your future. While being mortgage-free brings a sense of accomplishment, you don’t want to sacrifice better opportunities elsewhere. Find the right balance for your needs.
Building a better dream
I hoarded those additional mortgage statements like treasure. I put them in a special ring binder and hid it under the couch. When things were tough, I’d pull it out and read through it.
That was important. Because mortgages are about emotions, not just money.
It was incredibly difficult, some months, to find any spare money. Often I resorted to selling things on eBay and sometimes Gumtree to make some cash. I very rarely bought anything nice for myself – for years. If relatives gave me money for my birthday, it went straight into the ‘mortgage-free fund’.
But because I got such a sense of achievement from my little file of paper statements, I kept going and I didn’t waver.
Even when my socks became more hole than sock.
Even when I messed up cutting my own hair and had to wear a hat for three months.
The funny thing is that in some ways it was a very happy time for me. I was on solid ground. I had a mission and I knew how to go about pursuing it.
Every month, I walked to the mailbox with my check. I don’t think I’ve enjoyed a walk as much since then.
There were ups and downs of course. The course of true mortgage freedom never did run smooth.
Setbacks included a financially feckless ex-husband, a child with lots of unanticipated needs, an unwanted second mortgage foisted upon us by said ex-husband (before he was ex-ed!) and several banking shake-ups.
There was also a delightful episode when the building society refused to put the mortgage in my sole name because they didn’t like my job.
But in the end I became mortgage-free not long before my 40th birthday. I’d shortened my mortgage term by about 12 years and saved myself tens of thousands of pounds in interest.
Mortgages and make believe
It’s always seemed to me that mortgages are deeply sentimental, in a way that other financial products are not. They’re like the Hallmark movies of the financial world.
Firstly, there’s the hackneyed but heart-warming narrative…
A young couple in love are chasing their dream to own their own home. They struggle to pull together a deposit. The bank agrees to help them. There is champagne (or cheap plonk). They sleep on the floor until their furniture arrives.
Soon, they will be ripping roll after roll of wallpaper samples at B The IKEA catalogue is suddenly intensely fascinating.
It’s not all plain sailing, obviously. Our couple have their struggles. Tight budgets and problem neighbours. Arguments about the damp patch on the kitchen ceiling.
A dog joins the cast, and then a couple of children. There are barbecues in the garden.
And all the while they’re paying off that mortgage.
At last – usually when they’re much older and the kids have flown the nest and the dog is buried under the barbecue – their mortgage comes to an end, as all good things must.
The end credits roll, and we see them sailing away into the sunset on a Saga cruise.
Being deeply gullible, I bought into all of that.
I remember going to get my first mortgage, and sitting in a little office in the shopping centre branch of a building society with a woman wearing a name tag and a stern expression.
I was 27 and completely petrified.
Would I make an unfunny joke – likely – and accidentally destroy my chances of getting a mortgage?
Might my asthma – an occasional cough – be categorised as potentially fatal for mortgage-gaining purposes?
Would my employment history – patchy – show that I shouldn’t be trusted with proper money?
When my application was actually approved, it felt like I’d been accepted as a Real Grown-Up.
I was thrilled. So I agreed to everything: payment protection, life insurance, you name it. Because that was what Grown-Ups did.
Shortly afterwards of course I went through the enormous reams of paperwork and realised what I’d done – and promptly cancelled most of what I’d been talked into.
But nevertheless, for a while having a mortgage was a great thing. Because having a mortgage allowed me to buy a house, and that was very exciting indeed.
True, it was a run-down terraced house opposite a patch of waste ground. Not exactly white-picket-fence material
But as far as I was concerned I was Living The Dream.
It only dawned on me later that a mortgage was still a debt.
I’d never thought of it like that before.
A mortgage was a necessary bill, surely? You paid a mortgage or you paid rent. That was how things worked. And at least with a mortgage, you got to have a house that was yours.
Unless the bank took it back.
The more I thought of about it, the more it bothered me.
The reality was that I was in debt – to the tune of many thousands of pounds.
I would never even consider that in any other situation. But I’d just blithely skipped into my mortgage.
I’d even thanked the bank for saddling me with a giant stonking debt!
What was wrong with me?
I read up. I learned that there was Good Debt and there was Bad Debt, and that mortgages fell into the category of Good Debt.
But knowing that didn’t help much.
I ran the numbers – easier to do nowadays with online calculators – to see how much I was going to pay over a 25-year term on the money that I’d borrowed.
The answer was a mind-boggling amount.
Within a year of moving in and mortgaging up, I was furious about the whole situation.
I didn’t know anything back then about FIRE or investing. I hadn’t found Monevator and I didn’t realise that financial independence was an achievable thing.
But I still felt cheated because the world hadn’t properly explained to me that I was digging a hole that would take me most of my working life to climb out of.
It didn’t help that my parents had recently had a brush with the endowment mortgage drama, either. As a consequence I’d begun to see mortgages not as a necessary part of life, but rather a trap for the unwary.
So I decided to haul myself out of the hole.
Fortunately, when my mortgage was set up I had opted for a one that allowed me to make limited monthly overpayments.
I remember that it was presented to me in terms of a saving scheme – that if I built up a surplus through overpayments, I could tap that for a payment holiday at some point in the future.
Going back through the paperwork though, I found that overpayments could be used to reduce the term of the mortgage. Over time, this could slash the total interest that I’d be charged.
Just like that, I was off.
Let’s say you have a £200,000 repayment mortgage charging 5% with 25 years left to run on the clock.
According to Monevator’s mortgage repayment calculator:
- Your monthly payments will be £1,169
- You will pay £150,754 in interest over the life of the mortgage.
- The total paid will be £350,754
But wait – you’ll see in the calculator there’s a box for ‘overpayments made per month’.
Don’t leave it hanging! Instead let’s round up the mortgage to £1,400 a month, by entering a £231 overpayment every month into that slot.
Here’s a pretty graph showing what will happen when you do so:
By finding £241 down the back of a sofa / side-hustlin’ / skipping lattes each month, you:
- Pay the bank £1,400 a month
- Save £46,248 in interest over the mortgage’s life
- Pay a far lower total cost of £304,506
Oh, and you get to pay off your mortgage seven years early!
Why You Should Focus On Paying Down The Mortgage Over Investing
FAQ
Does 1% make a difference on mortgage?
A 1% difference in your mortgage rate can save you hundreds of dollars every month and tens of thousands of dollars over the life of your loan. Remember that the mortgage rates you see advertised are the average interest rates that people can get on home loans at any given time.
Is it better to be mortgage free or have savings?
A VERY IMPORTANT RULE: It’s smart to pay more on your mortgage if the rate is between your savings rate and your mortgage rate. That’s because when it comes to savings, the reverse isn’t automatically true. A higher savings rate could beat overpaying your mortgage, but it won’t always.
Why is it not smart to pay off your mortgage?
- 1) You lose your mortgage interest deduction.
- 2) You lose a low borrowing cost.
- 3) You tie up capital in an illiquid asset.
- 4) You decrease your financial returns.
- 5) You might start being less efficient with your time.
- 6) A chance your credit score might take a hit.
Is it better to pay off a mortgage or leave a small balance?
Paying off any debt that accumulates interest is always a sensible option as, more often than not, the interest cost of a debt will be higher than the interest earned on savings.