In financial services, the debate to pay off mortgage or invest constantly surfaces. Some Advisors believe paying off debt is the fastest way to financial security. While others believe this creates opportunity costs for investments. If you are planning for retirement, you may wonder which is better, to pay off your mortgage or invest. In this article, we’ll explore the pros and cons of both to help you decide. We’ll also look at some strategies aimed at helping you with your retirement planning.
Pay Off Your Mortgage
Paying off your mortgage early comes with perks. It not only reduces the overall interest paid but also provides financial security. By speeding up mortgage payments, homeowners can potentially free up more disposable income in the long run. Let’s look at the pros of paying off your mortgage early.
Reduced Debt
Paying off your mortgage can help give you financial security by reducing your debt burden. Eliminating mortgage payments can significantly lower your monthly expenses, providing more financial flexibility.
Guaranteed Return
Guaranteed ReturnBy paying off your mortgage, you are effectively earning a return equal to your mortgage interest rate.
Reduce or Cancel Mortgage Insurance
Depending on your loan, once you reach a certain loan-to-value ratio, you may be able to reduce or cancel your mortgage insurance. And you can use the extra money to pay off more debt or invest.
Building Home Equity
Every mortgage payment contributes to building equity in your home. As your equity grows, so does your financial stake in the property. This helps enhance your net worth. And it also opens an opportunity to use your home equity for future financial needs.
Improved Credit Score
Paying off your mortgage can positively impact your credit score by showcasing responsible financial behavior. It shows your ability to manage debt effectively, contributing to a favorable credit profile.
Investing
Investing aims to grow your money over time by putting capital to work in various assets like stocks, bonds, real estate, or businesses. It involves the outlay of resources today with the expectation of a greater payoff in the future. Let’s explore some pros to investing.
Growth Potential
Investing aims to grow your money. The growth can come through potential dividends, the sale of your investment, or income from rent with real estate.
Potential Higher Returns
Investing in the market has the potential for higher returns compared to the interest saved by paying off a low interest mortgage.
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Diversification
Investing allows you to diversify your portfolio. This means you spread your risk across different assets. Diversification aims to potentially increase long-term returns and lower risk.
Inflation Hedge
Investments can act as a hedge against inflation, helping your money grow over time and maintain its purchasing power.
Compounding
Investing offers compounding. Money invested wisely can grow exponentially over time, potentially outpacing the interest saved by paying off a mortgage early.
Mortgage Pay Off or Invest Further Considerations
Paying off your mortgage and investing have unique advantages. But they also share some common ground. Let’s explore some considerations shared by both.
Tax Considerations
Mortgage interest is deductible. And this is helpful especially during the early years when interest payments are high. Paying off your mortgage early could result in losing out on these tax deductions. Once you pay off your mortgage, your tax break ends. Unlike some investments which are tax-free or tax-deferred. Also, taxes depend on the type of capital gains you make on your investment. You will pay higher taxes on short-term capital gains or investments you hold for less than one year. But the tax rate for investments held for more than one year, long-term capital gains, is lower.
Comparing Interest Rates
An important factor in the decision to pay off your mortgage or invest is comparing mortgage interest rates with the expected returns on investments. If the mortgage rate is relatively low, it might make more sense to use funds towards investments with higher potential returns.
Emergency Fund and Liquidity
Maintaining an emergency fund is important to all financial plans. Regardless of which strategy you choose. Balancing paying off a mortgage or investing and having access to money for unforeseen circumstances helps ensure financial stability and peace of mind. If you place all your extra money into your mortgage or investment, you may not have enough to cover unexpected costs like healthcare needs or unexpected repairs. Consider building an emergency fund before you begin paying off your mortgage or investing.
Risk Tolerance
Every investment has risk. And every individual has a unique risk tolerance level. Risk tolerance is your comfort level of the amount of money you are willing to lose from your investments. Understanding your comfort with financial risks is important for financial decisions. It’s not just about financial returns but also about emotional peace of mind. If your risk tolerance level is low and you are looking for a guarantee, then consider paying off your mortgage. But if you have an aggressive risk tolerance and are comfortable riding market swings, then consider speaking with a Financial Advisor to learn more about the investments that fit your goals.
Market Conditions
Economic factors can significantly influence both mortgage rates and investment returns. Staying informed about market conditions helps in making timely and informed decisions to optimize financial benefits.
How to Choose Between Paying Off Your Mortgage or Investing
If you are undecided whether to pay off your mortgage or invest, consider running different scenarios of each strategy. For example, you can use this mortgage payoff calculator to see how much extra payments will save you in interest and shorten the length of the loan.
To compare, you can use this return on investment (ROI) calculator to help you decide if investing fits your goals. If you decide on investing, consider an employer-sponsored retirement plan like a 401k or 403b, especially if your employer matches your funds. And if your goal is retirement income, consider an annuity.
You have other choices too. You could use a combination of debt reduction and investing. Or you could use the extra money from one strategy to fund the other. Consider speaking with a Financial Advisor to help you decide.
Conclusion
Ultimately, the decision to pay off your mortgage or invest depends on factors like interest rates, risk tolerance, financial goals, and personal preferences. By carefully weighing the pros and cons, seeking professional advice, and staying attuned to market dynamics, you’ll make decisions aligned with your financial goals.
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Disclosure:
The use of asset allocation or diversification does not assure a profit or guarantee against a loss. Upon clicking third-party links, the content you are going to is not controlled, reviewed or approved by, and is not the responsibility of, the website that you are leaving.
Georgene Collins, RICP®, RN, PhD, MBA is a registered nurse turned Financial Advisor at Airey Financial Group. Georgene helps other nurses take control of their finances and prepare for retirement. Georgene began her career with Airey Financial Group in 2017 after retiring from 30 years in healthcare.
Georgene holds the Retirement Income Certified Professional (RICP®) designation from The American College of Financial Services. She holds health and life insurance licenses and a long-term care certificate in Indiana, Illinois, and Wisconsin. Georgene is a Registered Representative and Investment Advisor Representative and has earned the FINRA Series 63 and 65 registrations.
