It’s common for people to want to pay off their mortgage early, and for financial advisors to recommend this. I think it’s a bad idea. Here’s why:<\/p>\n
You either have the cash to buy a house or you don’t.<\/p>\n
If you do: if you invest your cash, a diversified long-term portfolio will return around 7% CAGR. You can get a 30-year fixed mortgage at less than 4%, and it’s tax deductible so it’s really less than 3%. Every dollar you pay for the house, is not being invested. So you lose 7% in order to save less than 3%. Don’t do that!<\/p>\n
If you don’t: you can’t pay cash for a house, so you either rent or buy with a mortgage. If you buy with a mortgage, get a 30-year fixed and don’t pay it off early. Why? Consider the opportunity cost. That is: suppose you have an extra dollar – what should you do with it? Whatever gives you the highest return. Every financial situation is different, but a typical greatest benefit ranking looks something like this:<\/p>\n
Here’s a specific example: suppose you borrow $500k at 3% for 30 years. You decide to pay an extra $100 per month. You’ll pay off the loan about 2 years early saving about $21,000 in interest. If instead you invested $100 every month earning 7% annually, you’d have $122,000. That’s $36,000 in principal and $86,000 in earnings.<\/p>\n
By paying off your mortgage early, you gave up $86,000 in order to save $21,000.<\/p>\n
The astute reader might say, “When you pay off the mortgage 2 years early, you can invest the entire payment over that 2 year period, which increases the value.” So let’s look at this.<\/p>\n
The standard mortgage payment is $2,387 and you’ve been adding $100 so your payment is $2,487 per month. If you invest that for 2 years at 7% it earns $63,871. Add this to the $21,000 you saved and you’re at $84,871. This is still less than the $122,000 you would have earned if you invested that $100.<\/p>\n","protected":false},"excerpt":{"rendered":"
It’s common for people to want to pay off their mortgage early, and for financial advisors to recommend this. I think it’s a bad idea. Here’s why: You either have the cash to buy a house or you don’t. If you do: if you invest your cash, a diversified long-term portfolio will return around 7% … Continue reading Don’t Pay Your Mortgage Early<\/span>