Paying off a home mortgage is a wonderful milestone of adulthood. It allows homeowners to rid themselves of one of life’s biggest debts. It’s natural to think about doing this ahead of schedule to save on interest payments and reduce debt. Why wait 10, 20 or 30 years for the financial and emotional freedom that mortgage-free living could bring?
Paying off mortgages early is absolutely the right decision for some homeowners, but not for everyone. Before taking the plunge, examine existing debt, savings and future life expenses. Living debt-free is not the most important factor in a well-lived life. Step back to look at the big picture before deciding to prepay a mortgage.
No matter a person’s age or station in life, a nest egg is a valuable asset. It can cushion a job layoff or pay for a wedding, health care costs or a long-awaited trip. It’s there for emergencies or luxuries. Savings provides both financial and emotional security.
Anyone considering paying off a mortgage should look at his or her savings first. Is there enough in the bank to get through a lean time or a family crisis? That nest egg is a necessity, while living mortgage-free is a luxury. If paying off the mortgage eliminates savings, don’t bother.
Rather than putting money toward a house, think about increasing retirement savings. Many employers match a percentage of 401K contributions which can yield high returns. Conversely, pulling money out of a 401K to pay off a mortgage can bring stiff penalties that probably aren’t worth it.
In addition to financial factors, homeowners should examine their own emotions and priorities. Living without a mortgage can be liberating. Eliminating debt reduces concerns about money or might motivate a career change.
By evaluating emotions, homeowners may realize they’re using the mortgage to put off pleasures they could enjoy today. They might be able to take that desired trip or buy new furniture without being completely debt free. Homeowners should picture themselves in 10 years. Maybe their current homes aren’t even the best houses for long-term living, and therefore not worth prepaying.
Sometimes homeowners need to spend money to improve quality of life. Before scrounging up funds and committing them to paying off a mortgage early, consider alternative expenses. Professional training could boost a person’s career and earning power. Money spent on yoga classes, fitness memberships or gardening tools may provide life-enhancing pleasure, more valuable than a prepaid mortgage.
While the cost of everything from food and cable service to travel and entertainment seems to rise, a fixed mortgage payment is fortunately stable. So, it might make sense to spend money enjoying other things today and paying only the required amount on the predictable mortgage.
Look at Debt
Homeowners thinking about paying off their mortgages should consider their other debts. Paying off credit card debt is much more urgent than clearing a mortgage because of interest rates. While a mortgage rate today might hover around 5 percent, credit cards often carry interest rates of 18 percent, which adds up fast. Likewise, homeowners should pay off car and college loans before looking at advanced mortgage payments.
Another reason to focus on other debt first is mortgage interest payments provide tax savings while other types of loans and credit card debt do not. The cost of a monthly mortgage payment might be fixed, but the amount of money paid toward principal versus interest varies throughout the life of the loan.
Mortgage amortization schedules are typically structured for homeowners’ mortgage payments to first apply to the interest due, then to the principal due and lastly to any escrows that may be included in the payment (for taxes and insurance).
Therefore, if homeowners plan to partially prepay their mortgages, it’s more beneficial to pay additional funds toward their principals only; if not specifically designated as such, the payments may be applied as a future payment or possibly even applied to the escrow account – which will not reduce the amount of interest paid throughout the loan term.
The earlier in their loan terms they make principal reductions, the more savings they get on interest costs. Homeowners can also check out mortgage rates and consider refinancing to lower mortgage payments while preserving savings.
Paying off a mortgage can be liberating, but it’s not always the right choice. It’s important for homeowners to examine their own lifestyles, priorities, savings and spending to make the right decision for their own circumstances.