When Should You Pay Off Your Mortgage Early?

Images by Getty Images; Illustration by Austin Courregé/Bankrate

Can you pay off your mortgage early?

The short answer is yes — you can pay off your mortgage early. This is referred to as prepaying a mortgage.

Most mortgages don’t come with a prepayment penalty, so you can make extra payments or pay off the loan in full at any time without incurring a fee.

If you’re not sure whether your loan includes this fee — again, most don’t — refer to page one of your closing disclosure, or look for a section in your mortgage note related to the “right to prepay.” Alternatively, you can ask your mortgage servicer.

Should you pay off your mortgage early?

Will other investments beat paying off a mortgage early?

Investing has no guarantees, but according to some experts, it often makes more sense than funneling your money into your mortgage.

“Sadly, the math tells us it’s almost always better to invest in other places than in your mortgage,” says Richard Bowen, CPA and owner of Bowen Accounting in Bakersfield, California.

Case in point: Current mortgage rates are still somewhat lower than long-term stock market returns. On average, the S&P 500 has returned about 10 percent over the last 90 years.

However, that S&P average ignores volatility in returns. While you might see a 10 percent appreciation over the long term, you could see a year, five years or more with much lower returns. For many people, that’s a compelling reason to pay off debt instead.

“The thing is, no one can give you a guarantee on an investment,” Bowen says. “You can put your money in the stock market and lose it. You can put your money in real estate, and it doesn’t perform as well as you expected it to.”

Will all your cash be tied up in the home?

Your home is considered a non-liquid asset because it can take months or longer — plus the cost of a real estate agent, repairs and other expenses — to sell the property and access the capital. It also takes time and money to get a second mortgage.

Before you pay off your mortgage, make sure you have an emergency fund, as well as a mix of assets like stocks, mutual funds, U.S. Treasuries, bonds and marketable securities available in a taxable investment account. These are easier to convert to cash in a pinch.

For your emergency fund, it’s best to maintain a cushion that protects you for at least six months, Bowen says.

How will you use the money if you don’t pay off your mortgage early?

Be realistic about what you’ll likely do with your money if you don’t use it to retire your mortgage debt.

It might make sense, for example, to pay off your mortgage early if you struggle with keeping money in the bank. Your home can be a forced-savings tool, and making extra payments can save you thousands of dollars in mortgage interest over time, plus you’ll build equity in your home more quickly.

“The right thing to do is the thing you will do,” Bowen says. “All of this has to do with personal habits. If you’re going to blow through the extra money anyway, then it’s better that you put it into your house than spend it.”

If you decide there are better ways to use your money than paying off your mortgage, consider:

How much do you value peace of mind?

Sometimes, it’s less about the bottom line and more about peace of mind. Owning your home free and clear can have benefits that aren’t measurable in strictly financial terms. For example, if you’re about to retire, eliminating your monthly mortgage payment can make it easier to consider living on a fixed income.

Paying off your home also increases your ability to borrow against the equity in your home. You could establish a home equity line of credit (HELOC) as a source of emergency income or to make progress toward other financial goals.

Pros and cons of paying off your mortgage early

Pros

• Saves you money on interest, sometimes a significant amount
• Clears you of the debt, which could give you greater feelings of security
• Eliminates a monthly payment (but not homeowners insurance or property taxes)
• Increases your equity ahead of schedule, as well as your ability to borrow against your home

Cons

• Ties up your money in your home, making it tougher to access
• Diminishes the opportunity to invest or pursue other financial goals
• Removes the ability to claim the mortgage interest tax deduction
• Could have a temporary, negative impact on your credit by reducing your credit mix and the average age of your accounts

How to prepay your mortgage

If you decide paying off your mortgage early is the right move, there are a few different ways to go about it, including:

• Making one large payment: This strategy may work if you receive an inheritance or another lump sum. You may also be able to recast your mortgage, which lowers your monthly payment.
• Making occasional extra payments over time: If you have extra cash in a given month, you can put it toward your mortgage principal.
• Use a strategy like making biweekly payments: If your extra income is predictable, you could commit to a regular schedule of additional payments.

FAQ

• Will paying my house off early hurt my credit?
  

  Paying off your mortgage early doesn’t hurt your credit score in the long run. You might notice a slight temporary drop because the average age of your accounts will decrease, and you’ll have a less robust mix of types of credit.

• Is there a tax disadvantage to paying off a mortgage?
  

  It depends. Many homeowners no longer benefit from the mortgage interest deduction because the higher standard deduction saves them more at tax time. If you do itemize deductions, though, and you no longer have a mortgage, you won’t be able to include that interest. If you’re concerned, ask your tax preparer to walk you through how paying off the mortgage will affect your tax picture.