I know what you are thinking. You’ve lost so much in the stock market. If you’d only taken that money and paid off your mortgage! Is it too late? Should you bite the bullet? Should you sell off what you have left in your mutual funds? Is paying off a mortgage early a good move?
Of course the answer is very simple. It depends.
From an emotional standpoint, it might feel very good to pay off that mortgage. But is it really one of the best investments you can make? While I think that the emotional component is very important, it certainly should not be the only consideration.
Generally speaking, the best way to make this decision is to look at the rate you currently pay on your mortgage (or the rate you could refinance at), how long you’ll keep the home and the OBJECTIVELY DETERMINED expected rate of return of the alternative investment – in this case, the stock market.
For example. Let’s say you have a 6% home loan. You can refinance at 5%, you plan to stay in the home for another 10 years and you expect the stock market to drop faster than a meteor. In this case, the first thing you do is STOP.
Sorry. It doesn’t matter what YOU expect the stock market to do. It matters what the OBJECTIVELY DETERMINED rate is over the next 10 years. (Of course, this supposes that you use investment strategies that work.) I understand that this is impossible to know. But as painful as the market has been lately (and that’s an understatement) it’s still reasonable to expect that the market will return 7% – on average – over the next 10 years. Of course the past is no guarantee of the future. But this is a very reasonable expectation. I know you feel like the market will never make a positive return for the rest of your natural life but this is just the inverse of how many people felt in the late 1990′s. They thought the market could never go down and they were wrong. Anyone who expects the market not to recover has no evidence to support that claim. It’s just a feeling.
Back to our example.
Let’s not consider tax consequences for this illustration as it could get very sticky. (Obviously you should consult your tax adviser before making any decision such as this.) In this case, the smart financial move is to keep your investments intact – keep the mortgage and the mutual funds. By doing this, you have the added benefit of keeping your assets diversified. And by the way, let’s face it: real estate hasn’t been such a great place to have money invested lately either. Paying off the mortgage could be a disaster if real estate continues to wither.
OK. Simple decision….right? Wrong. It doesn’t end there.
Let’s say you can’t sleep at night because you are so petrified about the market. In that case, there is a stronger case for paying off the mortgage. But this situation worries me. If you blindly give in to your fear today, what’s going to happen tomorrow? When the market takes off like a rocket (and it will at some point) are you going to refi, pull equity out of your home and put it back into the market? My experience is that once you open the door to allowing your emotions to take over, it’s hard to put the intellect back in the driver’s seat.
Again, I do not believe that financial decisions can be made without considering the emotions, but I think we have to be careful and tread lightly.
Fear is something many of us are powerless over. The sooner we accept that, the better. It is a driving force in many parts of our lives. Fear can be a very good thing. It can keep us alive. But it can also kill off the most “alive” aspects of who we really are and it can muffle the only thing that sets us apart from the ants – our intellect.
If you’ve made the decision to pay off your loan, do you know how to do it? If not, read my post, “How to pay off your home mortgage early.”
On my next installment, I’ll be suggesting ways to make sure you don’t allow your fears to drive your financial decisions. Until then, let me know what you think about this question. I might not be the genius I think I am. Have you considered paying off your home mortgage early? If you did it, why? If you didn’t, why not?
Want a Free e-Course and Report on how to invest like a genius?
Just subscribe to Wealth Pilgrim and they are yours for free. Don't waste another day being confused about how investments work or how investment advisors work or how investment advisors work. Take back control of your financial life once and for all - for free!
Click Here to Sign Up For Our Free Newsletter!
Neal Frankle is a Certified Financial Planner™ with over 25 years experience. Subscribe today and tap into this wonderful, free resource!
{ 3 comments… read them below or add one }
How about refinancing to shorten the time to payoff? I have 24.5 years left on a 30-year fixed, 5.75% mortgage. Suppose rates have lowered enough that I could have the same payment, but knock off 5-10 years? Would that be a wise move?
Absolutely. I would look at the costs of the loan to determine how long it would take to pay for itself. In other words, say you owe $300k and you can shave 1% off the rate. That saves you $3000 annually in interest costs. So if the cost of making the loan is $3000, it pays for itself in 12 months. I’d want to know what the costs are but assuming they are in line, I’d go for it.
Good question. Thanks
I recently refied – i had a 6.25% loan and dropped to 4.75…My main concern was my monthly payment. I am paying $500 a month less. That monthly payment was and is a concern. I believe my house will appreciate and I hope to stay at least 5 years if not much more. Now I have a tenable payment that will not put me in the poor house…I hope! My “payback” on the loan is about a year but am not so much concerned with that as reducing monthly payments.