Why You Shouldn’t Pay Off Your Mortgage Early

Photo Credit: Peggy Nelson, www.pegnelson.com

Photo Credit: Peggy Nelson, www.pegnelson.com

Recently I made the case for paying off your mortgage early. In a previous post, I argued that if you are nearing retirement or have accumulated significant assets, paying off your mortgage can be an effective way to diversify your asset base and increase your level of financial security.

However, everyone’s situation is different. There are many situations in which you may not want to be in a huge rush to pay off your mortgage.

Below are five reasons why you shouldn’t pay off your mortgage early.

Historically low rates. Today’s mortgage rates are about as low as they have ever been. Sure, they could go even lower, but odds are they won’t. Eventually interest rates will rise and the chance to borrow money at interest rates below 4% or less will be gone for a very long time, maybe forever. If you would like to see what mortgage rates have been every year since 1971, check out this table from Freddie Mac. When I bought my first home in 1999, mortgage rates were a modest 7.6%. When I graduated from high school they were 16.4%! What was the mortgage rate on your first home?

Nearly free money. With mortgage rates now ticking below 3.7%, the money you borrow to finance your home is almost like “free money” when you factor in inflation. If not truly free, money today is certainly very cheap. Inflation rates have varied widely by decade over the past century, but most of the time it’s been somewhere in the 2% – 3% range. When you factor in things like inflation and taxes, the long-term net cost of borrowing money at today’s rates might be nearly free depending on your tax and inflation assumptions.

You aren’t leveraging other opportunities. Sometimes people get so focused on paying down mortgage debt that they fail to take advantage of other, perhaps bigger, opportunities to grow their net worth over time. If you are not maxing out your 401k, IRA and other long-term, tax-deferred savings you may be missing out, especially if there is a company match or other incentive.

Other debt. Sure, mortgage interest adds up over time. But making extra payments on your mortgage when you have credit cards or other debt at higher interest rates doesn’t make sense. According to Bankrate.com, the average interest rate on credit cards these days is about 13%. Why pay off a tax-deductible mortgage at 4%, when you have credit card debt with high, non-deductible interest rates? Wipe out the credit card and other high interest debt before you pay down your low interest mortgage.

Time is on your side. The longer your time horizon, the better off you may be by having a mortgage and investing more into long-term financial assets like stocks. If you start a monthly investment plan when you are young, the time value of money and compounding returns may make your investment worth much more in the future than what you would have saved in mortgage and interest payments buy paying your mortgage off early. Yes, you will pay a lot in mortgage interest over the next 30 years, but the net value of your investments may be much higher.

Of course, there’s no guarantee of that, and that’s what makes this debate about paying off the mortgage so interesting. To read my six reasons why you should pay of your mortgage read this earlier blog post.

Whether you should or shouldn’t pay off your mortgage is a decision that will vary from person to person. The right choice for you may not be the right choice for your neighbor.

The safe bet is to pay off your mortgage as soon as possible, especially if you have other assets or are not a fan of the stock market. But for those willing to take a chance and invest over the long term, carrying a low interest mortgage may be an effective way to accumulate assets and grow your net worth over time.

If you want to know if it’s smart to pay off your mortgage or if you have other retirement planning questions you’d like to discuss, just Ask Mike.