Owning a home outright is a dream that many Americans share, but competing with the desire to own your home is your need to invest for retirement and other goals. Putting extra cash toward one of these goals may mean sacrificing another. So, how do you choose?
Points to consider:
What is your mortgage interest rate? The lower the rate on your mortgage, the greater the potential to receive a better return through investing.
How long do you plan to stay in your home? The main benefit of prepaying your mortgage is the amount of interest you save over the long term; if you plan to move soon, there’s less value in putting more money toward your mortgage.
Will you have the discipline to invest your extra cash rather than spend it? If not, you might be better off making extra mortgage payments.
Do you have an emergency account to cover unexpected expenses? It doesn’t make sense to make extra mortgage payments now if you’ll be forced to borrow money at a higher interest rate later. And keep in mind that if your financial circumstances change – if you lose your job or suffer a disability for example – you may have more trouble borrowing against your home equity.
How comfortable are you with debt? If you worry endlessly about it, give the emotional benefits of paying off your mortgage consideration.
Are you saddled with high balances on credit cards or personal loans? If so, it’s often better to pay off those debts first. The interest rate on consumer debt isn’t tax deductible, and is often far higher than either your mortgage interest rate or the rate of return you’re likely to receive on your investments.
Are you currently paying mortgage insurance? If you are, putting extra toward your mortgage until you’ve gained at least 20% equity in your home may make sense.
How will prepaying your mortgage affect your overall tax situation? For example, prepaying your mortgage (thus reducing your mortgage interest) could affect your ability to itemize deductions (this is especially true in the early years of your mortgage, when you’re likely to be paying more in interest).
Have you saved enough for retirement? If you haven’t, consider contributing the maximum allowable each year to tax-advantaged retirement accounts before prepaying your mortgage. Many employers offer a match to this type of account ranging from 2-6%. Prepaying your mortgage may not be the savviest financial move if it means forgoing that match or short-changing your retirement fund.
How much time do you have before you reach retirement or until your children go off to college? The longer your time frame, the more time you have to potentially grow your money by investing.