Early Mortgage Payoff…a Good Idea?

by Neal Frankle, CFP ®

There are real pros and cons to an early mortgage payoff. Some argue that it is not in your financial interest right now. In fact, some say it’s the last thing you should do. They argue you should keep your mortgage and make investments for your retirement. Better yet, go out and get a humongous mortgage.

This argument is based on two realities:

1. Fixed-rate mortgages are really cheap right now.
2. Inflation and interest rates could rise precipitously in the near future.

Let’s take an example to illustrate this.

Assume you have a $200,000 mortgage. You’ve got a 30-year loan with a fixed rate of 4.5%. Say your monthly payments are fixed at $1,013.

Your payments are never going to go up…and that’s the key. Assume inflation heats up. 15 years from now, your payment of $1,013 doesn’t buy what it could today. In fact, that $1,013 will only buy $627 worth of goods and services if inflation rises to 3.2% – the historic norm. So, this argument stresses that your fixed payments cost you less in terms of buying power.

The assumption is that your income will rise with inflation but your payments won’t. (That’s not the case if you rent, by the way, or have an adjustable loan.)

And with that inflation, the outstanding balance on your loan is worth a lot less. While nominally, it will be$132,500, the real value of that money is much less. In fact, the value of that in current dollars at the time will be $82,041.

So why would anyone pay off their mortgage?

There are other considerations — like your emotional DNA. I personally can’t stand to owe any money to anybody — especially on my house. So I don’t really care about the economics of it. I know this is not the best financial decision, but my wife and I decided to do everything we can to get rid of all our debts ASAP. And if you have a concern that you won’t be able to make your payments because you may lose your job or retire soon, you’d want to pay off your mortgage as soon as possible. A mortgage is one of many retirement problems people like to get rid of.

Don’t underestimate the value of this huge emotional payoff. It’s huge. So the bottom line is, from a financial standpoint, it makes sense to have a large mortgage when rates are very low. But from an emotional standpoint, it’s just really nice to be debt-free.

Where do you stand on the issue? Do you want a huge mortgage? Do you plan on taking advantage of possible future inflation? Are you more like me and just want to be out of debt?



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