Wednesday, 24 February 2016

If you've come into a windfall, or otherwise find extra money on hand, you may be tempted to pay off your mortgage before it's due.

This can be a great financial move for many people—but there can be significant downsides, too. Like most money decisions, whether or not to close out your home loan early is an individual choice, with many pros and cons.

Pros:

  • Big savings on interest. Check out the graphs and tables on the  BBVA Compass mortgage calculator to understand how much interest your loan costs you as time goes on. For example, if you financed a home at $300,000 at 5 percent over 30 years, then paid off the remaining $244,000 principal after 10 years, you would save $142,486 in interest payments.
  • Frees funds to invest in a diversified portfolio. If you reallocate money budgeted for your mortgage payment into other assets: mutual funds, a small business, or other real estate.
  • Increase the home equity sum you could borrow. The more equity you have in the home, the more flexibility you have to borrow against it.
  • Emotional and mental freedom. There is something wonderful and secure about knowing you own your home outright. No small thing.

Cons:

  • Tax benefits. Mortgage interest is deductible for most families. If you have few deductions and are in a high tax bracket, your mortgage interest may afford you very real federal tax savings. Especially for retired homeowners, the interest tax deduction can lower income to below tax-friendly Roth IRA conversions.
  • Forfeiting low interest rates. Mortgage rates have been at historic lows for more than a decade, and are only poised to rise. If you're enjoying this low-interest loan, it may make more sense to invest that lump sum in an investment that will yield more returns than you're paying to borrow for your home (especially when factoring in tax benefits). For example, if you are behind in retirement savings, or do not have a cash emergency reserve, it may make more sense to put your newfound funds towards those financial goals while you continue to pay off a mortgage with attractive terms.
  • If you're not disciplined to invest what you save on interest, you can miss out on wealth-building opportunities.

If you find yourself weighing the pluses and minuses of early, lump-sum mortgage retirement, you may consider a happy medium: Gradual early payoff while investing your newfound funds in other assets. You can pay off your mortgage gradually by either refinancing for a shorter term (like shaving off years by refinancing a 30-year mortgage to a 10- or 15-year loan) or paying extra principal each month in your monthly payments to shorten the life of the loan.

The content provided is for informational purposes only. Neither BBVA Compass, nor any of its affiliates, is providing legal, tax, or investment advice. You should consult your legal, tax, or financial advisor about your personal situation. Opinions expressed are those of the author(s) and do not necessarily represent the opinions of BBVA Compass or any of its affiliates.

Links to third party sites are provided for your convenience and do not constitute an endorsement. BBVA Compass does not provide, is not responsible for, and does not guarantee the products, services or overall content available at third party sites. These sites may not have the same privacy, security or accessibility standards.