In most cases, paying off debt early is a good financial idea because you will save money on interest owed. But when it comes to a mortgage, that’s not always the case – in some cases you can be penalized and end up paying. Following if you pay off that debt before the mortgage expires in full. Plus, there are other reasons why it might not make financial sense to prepay a mortgage.
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Here are the circumstances under which it may not be profitable to prepay your mortgage.
Focusing on mortgage payments may mean missing out on other investments
âOne downside to prepaying your mortgage is that the payments are higher and can crowd out other investments – for example, contributing to a retirement plan or funding a children’s college fund,â said Robert R. Johnson, Ph.D., CFA, Professor of Finance at Heider College of Business, Creighton University. âSome borrowers mistakenly view the purchase of a home as their main investment. If mortgage payments are so large as a percentage of monthly income that people cannot adequately fund their retirement account or a child’s college account, then it may be wise to just pay off your mortgage over the normal term. of the loan.
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Investing in the stock market can also be a better use of your funds than prepaying your mortgage.
“Noble Laureate Economist and Yale Professor Robert Shiller convincingly demonstrates that real estate, especially residential homes, is a much smaller investment compared to stocks,” Johnson said. âShiller finds that on an inflation-adjusted basis, the average home price has only increased 0.6% per year over the past 100 years. Compare that with the stock market. According to data compiled by Ibbotson Associates, the average return of the S&P 500 has been around 10% while inflation has averaged around 3%. The inflation-adjusted return of the stock market over the past 90 years has been around 7%.
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You have debt with higher interest rates
âAlthough a mortgage is often the largest household debt, it usually has one of the lowest [interest] rate and a rate lower than what can be earned on that money, âsaid Doug Perry, strategic finance advisor at Real Estate Bees.
Instead, you’re better off paying off your highest-interest debt first, which is often unsecured debt such as credit card debt and personal loans, Perry said.
Read: Strategies to Pay Off Your Mortgage Earlier
You don’t have emergency funds
Paying off your mortgage early can give you peace of mind, but it should never take priority over building an emergency fund.
âOnce you’ve paid off your debts or debts, you now have more equity but less cash available when needed,â said Dr David Phelps, real estate investor and founder and CEO of Freedom Founders. âThere is security in cash flow and cash flow. Equity also provides a level of security, but cash flow is the oxygen that sustains the needs of your business or personal income. Equity by itself cannot do that.
Read: Common Real Estate Myths You Need To Know
Your mortgage has a prepayment penalty
âAlthough prepayment penalties for mortgages are not very common, they do exist,â said Tolen Teigen, CFA, CFP, director of investments for FinDec. âYou’ll have to look at what the penalty is and what the penalty interest rate is, and weigh the interest rate you would pay with the penalty against anything else you have on debt. “
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Last updated: October 13, 2021
This article originally appeared on GOBankingRates.com: Why it’s not always smart to pay off your mortgage early