According to credit reporting bureau Experian, roughly 56 million mortgage holders owe $10.3 trillion in mortgage debt. The average borrower owes $208,185, about three times the median household income of $68,703 per year.
Like those 56 million other Americans, I have a six-figure mortgage that would take years of earnings to pay off completely. While I dream of a day in the future where I don’t have to make the monthly payments, I’m in no rush to pay off my loan early. Here’s an inside look at my mortgage loan and why I have other priorities for my money than an early payoff.
I live in high-priced Southern California. My wife and I put down a huge down payment to afford our home and still ended up with a sizeable mortgage loan. When interest rates plummeted to record lows at the start of the pandemic, I jumped to refinance and lock in a lower rate.
My current loan has a 3.25% fixed interest rate. While I would love to pay off that loan early, the math says there are better uses for the funds I budget for long-term financial goals. I always try to follow the numbers, not my gut, when making financial decisions. The results here couldn’t be more clear.
To better understand if you should invest or pay off your mortgage early, here’s an example. Let’s say you expect a 7% annual return from your stock market investments, have a 4% rate on your mortgage, and can afford to pay an extra $100 on top of your minimum payment this month.
If you use that $100 for your loan, you would save four cents for every dollar over the next year, or a total of four dollars. But if you were to invest that $100 at 7% per year, every one of those dollars would get you seven cents. At the end of the year, you would make seven dollars.
According to these numbers, you would be seven dollars better off from investing compared to just four dollars better off from an early mortgage payment. I know I would much rather make seven dollars than save four dollars. In this example, you would be three dollars better off per year from investing.
Whether you have a $100 loan or a $1 million loan, the interest rate determines the cost per dollar you borrow. At my 3.25% cost, it doesn’t matter what my balance is. The cost for every dollar I borrow will be 3.25%, or 0.0325 cents. If I can earn a higher interest rate with an investment than I pay for my loan, I am better off investing than paying off my loan early.
Past performance is never a guarantee of future performance, but over the last few decades, the S&P 500 offered an average return of 10% per year. That’s well above what I have to pay for my mortgage.
Assuming I invest in a low-cost S&P 500 index fund that has a similar performance to the past, I would be better off by a margin of 6.75% investing compared to paying off my mortgage early. This is why I have not made any extra mortgage payments since refinancing. I would rather put my cash to better use.
While I’m personally prioritizing investing over an early mortgage payoff, I don’t want to knock paying off your mortgage early. Particularly for those later in their career or in retirement, there can be huge benefits of going mortgage-free.
The benefits here come from relief on your monthly cash flow. If you have a $1,000 monthly payment and pay off your mortgage, it will feel like getting a $1,000 monthly raise. That gives you a lot more wiggle room for investing and other financial priorities.
For some people, living without a mortgage payment could be worth more than the potential investment gains they give up with early payments. That’s perfectly fine. There are many great reasons to pay off your mortgage early.
But for me, I’m following the numbers. They tell me to invest instead of prioritizing an early payoff, so that’s exactly what I’m doing.
Eric Rosenberg is a former bank manager and corporate finance and accounting professional-turned-finance, travel, and technology writer in Ventura, California.
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