6 Times When You Are Smart Not to Pay Off Your Mortgage Early
Plenty of homeowners would like to pay off their mortgage early as it is a hassle and a headache. Itis their largest monthly payment and takes out a good chunk out of their budget.
It is understandable as there are many reasons to pay off your mortgage early. It will not only help yousavehundreds (even thousands) in interestbut will also helpyoufeel secure at the thought of owning your own home.
At the same time, there are benefits of not paying your home loan ahead of schedule.
The approach which is better for you will depend on your financial situation and goals. If the following situations apply to you, sticking to your mortgage payment schedule and using the extra cash for other purposes will be the best option.
1. You Do Not Have a Hefty Source of Emergency Cash.
Financial ups and downs are inescapable. Though the house you own free and clear is a significant piece of wealth, it is not something that you can quickly convert into cash in a crisis. It takes months even in a strong market to sell a house. You could secure a home equity loan more quickly but this also will take a few weeks and will put you back into debt with possibly a higher interest rate than you had on your original mortgage. So, the best way to ensure that you can cover any unexpected expenses like a job loss or medical bills without having to take on new debt is to make sure that you have set aside a healthy “rainy day” fund to cover at least six months’ worth of household expenses.
2. You Want to Lower Your Tax
Before you decide to reduce your mortgage debt, make sure you have fully funded any tax-advantaged account such as 401(k) or individual retirement accounts(IRAs). According to Patrick Whalen, a certified financial planner at Whalen Financial Planning in Los Angeles “Paying off a mortgage early competes with the priorities that can help lower your taxes, like funding a 401(k) plan up to the maximum amount.”
The tax advantages of these contributions coupled with the potential for long-time growth in your retirement investments makes them the first place you should be stowing any extra cash you have.
3. Is There A Prepayment Penalty On Your Mortgage?
Prepayment penalties are rare in new mortgage contracts but some older mortgages containrequirements that you must pay several thousand dollars if your mortgage loan is paid off ahead of schedule.
Prepayment penaltiescould be the equivalent of a certain number of monthly interest payments or equal to a percentage of the mortgage loan amount. So, if your mortgage loan contains such a prepay penalty clause you should compare the penalty amount with what you will save in interest by paying off the loan early. You should make sure that you do not lose money by triggering a penalty.
4. You Can Earn a Better Rate By Investing
The smartest choice to make when you have extra cash to pay off a mortgage loan with a low-interest rate is putting it into the stock market or mutual funds and building up a diversified portfolio. It is reasonable to expect a long-term return of 6 to 8 percent when you invest in a broader market.Meanwhile, your mortgage rate may be around 4.5%, so over time you are likely to earn better returns on your money and can benefit from years of tax breaks and be much better off in the long haul.
5. You Have Other Debt
The mortgage loan should be the last debt you pay off. If you are payingother debt that has higher interest rate such as car loans, school loans, credit card debt or home equity lines of credit, it is technically better to put any extra funds towards these debts than your mortgage.
Many of these debts can carry 0%interest at least for a time. However, in most cases, these 0% deals apply to either temporary or relatively short term loans. So, paying off these loans should always be a higher priority than your mortgage loan.
6. You Are Still Savings For Big Purchases
It is not enough to only pay off debt and save before tackling the mortgage, you should make sure all your future cash needs are addressed. Generally, you should plan to cover all significant expenditure for at least the next five years or preferably for ten years that include:
- Child’s education
- Home remodeling,
- Car purchase
There is no point of paying off a mortgage early if you are getting into more debt for a large purchase.
HOW WOULD PAYING OFF YOUR MORTGAGE LOAN AFFECT YOUR CREDIT SCORES?
They will not be a dramatic change in your credit scoreas a consequence of closing your mortgage loan. But closing credit cards can hurt your credit score as it reduces the total amount available to you to borrow. Mortgage loans like paid off student loans and auto loans will remain on your credit reports for 10 years as a “closed account in good standing.”
Whether you should pay off your mortgage early or not depends on how much money you have to spare, what other alternatives you have and other factors that are unique to you. If paying off your mortgage loan early is on your radar you should seriously consider all your options so that you are sure it is the best path forward for you.