Whether you just got a raise and are considering how to best use those extra dollars or you’re just planning for the future, choosing where to invest your hard-earned cash is a challenge. It makes sense that many homeowners would want to prioritize paying down their mortgage debt, but does it make more sense to invest extra cash in your retirement savings first?
Evaluating Your Financial Situation
Whether you decide to pay down your mortgage or invest in your future first depends on your personal financial situation. If your income has increased substantially, the choice you make may be different than if you inherited a lump sum and wanted to invest that.
If you’re thinking of paying off your mortgage early, consider how much it would cost and if the money saved in interest as well as being debt-free is a higher priority for you than putting away money to build your future wealth. Consider where you’re at in terms of debt repayment, too. It’s typically smarter to pay down your mortgage as much as possible at the very beginning of the loan to save yourself from paying more interest later. If you’re somewhere near the later years of your mortgage, it may be more valuable to put your money into retirement accounts or other investments.
Choosing To Pay Off Your Mortgage Early
The idea of completely paying off your mortgage and not only owning your home, but also being debt-free can be very enticing. While many with an influx of cash might favor investing rather than paying off their mortgage, paying off your mortgage early can actually save you thousands of dollars in the long run and is often a solid financial decision.
If you’ve gotten a raise or some other increase in your income and you’re still in the early years of your mortgage, paying mostly interest on your mortgage payments, paying off your mortgage early might be the best option for you.
Let’s take a look at some of the pros and cons of deciding to pay off your mortgage rather than invest.
Pros Of Paying Off Your Mortgage
- You’ll save on interest. If you pay off your mortgage early, you can potentially save yourself thousands of dollars in interest that you might have paid if you hadn’t reduced the principal amount early on.
- You’ll be debt-free. Owning your own home and not having to make any more monthly payments can be liberating. Depending on the size of your monthly payments, that’s $1,000 or more a month that you can now use for other things.
- You can leverage your equity. If you decide to pay off a large chunk of your mortgage early, you can use that equity to open a home equity line of credit (HELOC) or do a cash-out refinance to make some renovations to your home. While you won’t pay off your loan if you decide to go this route, you will be able to use some of the cash you poured into your home, which usually isn’t easily doable.
- You’ll free up funds going forward. If you’re not making mortgage payments anymore, the money you’d have used each month for those payments before can now be used for other things, like investing in your future or things you enjoy.
Cons Of Paying Off Your Mortgage
- You could cut into savings. While using your savings to pay down a huge chunk (or all) of your loan may seem like a good idea, it can be risky to pour all of your money into an investment that is not the easiest to tap into in a pinch. No matter how tempting it may be, it’s important to keep some amount of cash aside in case of financial emergencies.
- It might be your only investment. If you’re pouring everything you have into your mortgage, you may be neglecting other important investments, such as your retirement fund. You could also be making significantly more back on investments in somewhat riskier places, such as the stock market.
- No more tax deductions. If you pay off your mortgage early, you lose the ability to write off tax deductions on mortgage interest payments. These write-offs are actually quite useful and can increase your refund as well as lower your taxable income if you’re still paying on a mortgage.
- You might pay prepayment penalties. There are actually some penalties in place, depending on your lender, for paying off a mortgage too quickly. If you pay off a mortgage within the first few years of the loan, your lender may charge you a penalty based on the outstanding principal balance.
Choosing To Invest Your Money
While paying off a mortgage early can have many benefits to homeowners and lifts the burden of repaying a large debt, it might be wiser in some cases to instead invest extra cash into your future in the form of retirement funds or other investments such as stocks.
The best time to pay off a mortgage is early to avoid accruing extra interest over the years, and the same is essentially true of investing in your future. Since interest builds over time, the longer your monetary contributions are saved for your future, the more they’ll be worth when it’s time to use them. That said, starting early on investing is a very solid financial choice as well.
Let’s take a look at some of the pros and cons of investing rather than paying off your mortgage, too.
Pros
- You’ll see a higher rate of return. Since it’s inherently riskier, investing in something like the stock market gives you the potential to earn more money than you would save paying off your mortgage early.
- You’re increasing your future wealth. By investing in your retirement and future, whether that’s through stocks, bonds or even a small business, you’re (hopefully) increasing your future wealth. By building wealth now that will only grow over time, you’re setting yourself up to be better off financially later on in your life.
- Better asset liquidity. In terms of liquidity, stocks, bonds and similar investments are superior to a mortgage. If you find yourself in need of cash, it will be much easier to sell stocks or similar investments and make use of that money than it would be to sell your home or attempt a cash-out refinance.
- There’s potential for an employer match. If you’re investing in a retirement account, there’s a chance that some employers may be willing to match your contributions. Your employer might match half of your contributions up to a certain percent of your salary or even match what you invest dollar for dollar. The more you’re investing, the more you stand to gain – so this can be a great opportunity to build future wealth if your employer is willing to participate.
Cons
- Investing is riskier. Unlike a mortgage, investing is risky. You have the potential to gain and then lose thousands of dollars when investing in the stock market. Your returns may be potentially greater, but they aren’t as safe and fixed as the returns you will hopefully see on your house over time.
- You’re still making payments. Investing still costs you money, money that you’re not even guaranteed an entirely favorable return on. Throwing all of your money into an investment only to see it decrease in value can be frustrating.
- Investing doesn’t make your debt go away. If you’re pouring all of your funds into a retirement account or other investments, you won’t make much progress on any debts you might have, whether those are student loans or your mortgage. While it’s possible you’ll eventually save enough by investing to take care of those things, it can sometimes be smarter to just pay them off right away before anything else.
Deciding To Do Both
It’s very possible to both pay down your mortgage and invest at the same time – and many people do. While choosing to do both at once limits the amount you can invest in your home or your future wealth, you can make decent progress toward each goal at once as a compromise. This way, you can still put money away for your future while also building equity in your home.
If you’re still eager to get your mortgage out of the way as quickly as possible, you can even consider refinancing to a shorter-term loan. While your payments will be higher this way, you might be able to still invest while also saving money on mortgage interest and building significant equity in your home at the same time. This strategy can be costly, however, so be aware that this third option may leave you without significant savings leftover.
Other Considerations
If you have an influx of cash and it doesn’t make sense to put it entirely into your mortgage or investments, there are other viable options for you, too. To avoid any financial struggle in the future should anything happen, you could store your extra cash in an ‘emergency fund’ to be used in case of a future financial issue, like car repairs, medical expenses or a lost job.
If you have other debts to be paid off, such as student loans or credit card debt, you could also put your extra capital toward that. If you’re paying for a mortgage on top of multiple other debts, it can become overwhelming – so it’s always a good idea to get those lingering debts off your shoulders, if possible.
Should I Pay Off My Mortgage Or Invest?
Before deciding to pay off your mortgage early, get a head start on investing, both, or neither, be sure to take stock of your financial situation in its entirety. If you know you won’t be in your home for very long, maybe it doesn’t make sense to pour all of your money into a mortgage. Likewise, if you’re uncertain about investing a lot of money in a place where your rate of return is not promising, maybe investing all of your extra cash is unwise.
Ultimately, what you decide to do should reflect your financial situation and the choices you are most comfortable making.
The Bottom Line: Decide What’s Best For You
Both investing in your future wealth and paying off a mortgage early can be extremely beneficial in terms of savings and return on investment. Everyone’s financial situation is different, however, so be sure to take into consideration which option would work best for you before making a move. It’s always a good idea to consult a financial advisor to help you make a plan.
Remember, it’s also possible to both pay down your mortgage and invest at the same time – particularly if you’re able to refinance to a shorter-term loan.
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