IS IT A GOOD IDEA TO PAY YOUR MORTGAGE OFF EARLY?

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If you have purchased a home, congratulations! I am confident you did your research and made a GREAT investment.

Let’s discuss pros and cons of paying off that worrisome 30 YEAR mortgage early. My opinion, if you can afford to pay your mortgage off early, do it. I have paid one off early and in the process of paying two more mortgages off early. For me at least, I sleep better!

Let’s break this into below sections:
Pros of Paying off Early
Cons of Paying off Early
Methods to Pay off Early

PROS – PAYING OFF EARLY

ELIMINATION OF YOUR LARGEST DEBT: Writing that check EVERY MONTH (and you best not be later than the 15th) for big dollars SUCKS. What if you are your spouse lose your job? Can you pay your mortgage each month and avoid foreclosure? Paying your mortgage off early lets you sleep at night and gives you the flexibility to utilize the money you were paying on your mortgage for other purposes. No, not a boat, or a Mercedes S Class! Hopefully investments that earn attractive and better returns than your home mortgage interest rate. Perhaps you want to invest in rental properties; increase your ROTH 401-K contribution or ROTH IRA contributions; increase or start contributions to your children’s college education 529 Plans. Paying that mortgage holder off, also places a large asset (your home) 100% in your net worth, assets column.

MAKES YOU SPEND EXTRA MONEY MORE CAREFULLY: Some of us, tend to spend every dime we make and more. But if you have extra money after your needs are taken care of, strategically paying off your mortgage will help you STOP spending money on STUFF that eventually ends up rapidly deprecating or in a landfill.

HUGE $$$$$ SAVINGS ON INTEREST: You save money by paying your mortgage off early. If you have a $300,000, 30-year mortgage with an interest rate of 4.5%, you pay ~$1,520 monthly. If you increased your monthly payment by $300 to $1,820, you save ~$80,000 in interest and pay off your loan eight years and six months early. {Did you take note of that $80,000 SAVINGS?} Another option is to select a 20 or 15 year loan, versus the 30 year. Heck, you can even do 10 years or less loans if you can afford it. Shorter year mortgages usually come with a slightly lower interest rate, but higher monthly payments. Today, a 20 year loan averages ~4.0% interest and on a $300,000 loan you pay ~$1,818 monthly, paying ~$136,306 in total interest. A 15 year loan averages 3.75%, and you pay~$2,182 monthly with ~$92,700 in total interest paid. Below chart summaries your options in above example and interest savings.

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GUARANTEED RETURN ON INVESTMENT (ROI): When you prepay your mortgage, you always save on interest paid (see above chart) and have a GUARANTEED return on your investment. Face it, we pour money into ETF’s or stocks and HOPE whoever has the biggest nuclear button does not accidentally hit it. We hope for good returns and HOPE IS NOT A STRATEGY!

FASTER BUILDING OF EQUITY IN YOUR HOME: When you pay down your mortgage, you build equity. If/when you move, you have a better probability of walking away with some dollars in your bank account or the next down payment. In 2008, many homeowners were underwater (owed more than the home was worth) and could not sell without actually writing a check to the bank. Been there and that really (trying to think of a better word than SUCKS) creates havoc (better?). Nah-I like SUCKS better.

REDUCES YOUR COST OF LVING: For majority of us working stiffs, our monthly mortgage payment is our biggest bill. If you eliminate it, this may give you the flexibility to retire early, find a job that brings you joy, but maybe pays less, leave the workforce to raise your kids, etc.

ELIMINATE PRIVATE MORTGAGE INSURANCE (PMI): If you had a down payment of less than 20%, you are most likely paying PMI. PMI pays the bank if your home is foreclosed on and sells for less than you owe. PMI typically costs around .5% to 1% of the original mortgage loan. On a $300,000 loan, that could total ~$250 per month or $3,000 per year. When you pay down your mortgage and your loan balance is less than 80% of the value of your home, notify your mortgage holder and request they eliminate the PMI. You have to notify the bank as majority will not eliminate this cost without a request. Just another reason few bankers think about heaven!

PROTECTION OF HOME EQUITY:  Majority of states, protect some of your home equity if you declare bankruptcy, have creditor claims against you, or if your parents need to qualify for Medicaid to pay for a nursing home. While 401(k)s, IRAs, and other specialized retirement accounts also generally receive some special protections, cash investment accounts DO NOT.  Your creditors can take every dime and they will!

CONS – PAYING OFF EARLY

APPLY THOSE SAME $$$ TO INVESTMENTS: Every $1 utilized to paying extra on your mortgage is $1 you can not use for investment purposes. You could instead apply those extra dollars to your 401-K plan , IRA plan, stock investments, rental property, etc. If you are paying a low interest rate, say 4%, you have to decide if you can get a better return with those extra dollars.

HOME EQUITY IS NOT LIQUID:  If you need to quickly raise cash, selling your home is time-consuming, difficult, and costly. You may have to lower your home price significantly to get a quick sell. There are several more-liquid investments available that can be sold quickly if necessary.

LOSE FUTURE TAX BREAKS FOR MORTGAGE INTEREST Many taxpayers claim a tax deduction for mortgage interest. However, the new tax law, effective 2018, places further limitations on deducting interest for some borrowers while significantly increasing the standard deduction. The increase in your standard deduction may mean you do not need to claim your interest paid and complete the tax LONG pages.

LACK OF DIVERSIFICATION:  Sinking more of your money into your home means your assets are will heavily tied to real estate. If your home declines in value (and this sometimes happens when the market is over valued) this may significantly impact your net worth.

HOW TO PAY OFF EARLY – PAIN FREE!

USE EXTRA CASH: Use any extra cash you have (bonus, tax refund, gifts, etc) to make extra payments towards principal. This reduces the time frame of the loan and interest owed.
ELIMINATE MORTGAGE INSURANCE/PMI: When you pay down your mortgage and your loan balance is less than 80% of the value of your home, have the mortgage holder cancel the PMI AND divert those dollars toward extra principal payments.
MAKE BIWEEKLY PAYMENTS: Mortgage holders default to one mortgage payment per month. But some banks let you pay half of your mortgage every two weeks, effectively making one extra month’s payment per year or 26 payments per year.

MAKE ONE EXTRA PAYMENT PER YEAR: If your lender charges a fee for making biweekly payments, or does not offer a biweekly payment plan, simply make an extra month’s payment each year.

ROUND YOUR PAYMENT UP: Example: If you pay $1,476.82 each month, round up to $1,480 or all the way to $1,500 or more. You shave years off your balance due. {Word of caution: Check with your lender to make sure that extra contributions applies to your principal, not to interest or to next month’s payment.}

REFINANCE TO A SHORTER MORTGAGE: While majority of people select a 30 year mortgage you can select 20, 15, 10 years or less mortgage plans. Your monthly payments will be higher, but your interest rate will be a bit lower.

CONCLUSION

Personally, a few years ago, I refinanced my home loan to a 20 year loan. In retrospect, I made an error. I have been in this house for 18 years and assumed we would only be here for about six years. Well I was REALLY wrong. If I had converted to a 20 or 15 year loan earlier, I would have much more equity in this property or maybe have paid it off.

On one NC rental property, I added an extra $80/month to the payment and paid the loan off six years early. Saving tens of thousands in interest payments. On another NC rental property, I took my bonus and paid that on my loan reducing my time to pay off the loan and my total interest cost.

The major factor in paying your mortgage off early is prioritization of limited resources- your income. You already have a mortgage payment and hopefully you are contributing to a 401-K plan and if you can afford it a IRA plan. If you have children you may be contributing to a 529-Plan. With above expenditures and more, only a few can afford to pay a mortgage off early. But maybe, you can start paying your mortgage down early in the near future, as your income continues to grow. The decision to pay your mortgage off early has pros and cons and is a personal decision. Prioritizing where you spend your money is your choice. Use your knowledge to consider all options along with pros and cons.

“You cannot do a kindness too soon because you never know how soon it will be too late.” –Ralph Waldo Emerson

Powers Investments Management, LLC

This blog will provide, information and simple strategies, that will assist you to achieve YOUR financial objectives and long term targets. For over 30 years, I solved multi-million dollar problems, for Fortune 10-250, companies. My formal education includes: Business, Finance and Chemical Engineering {Problem Solving} at: Harvard, Rutgers and North Carolina State. And an additional 30+ years, managing my family’s investment decisions. I currently manage/advise people with net-worths ranging from the tens of thousands to several million dollars.

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