Is it smart to aggressively pay off my (3.5% fixed rate) mortgage? With my current payments, my mortgage will be paid off in 13 years instead of 30 and will save over 100k in interest. Is this a wise plan or should I be allocating my money elsewhere? We’re already investing 8% in my 401k (with a company match), and my wife contributes toward her pension. We also have a $15k emergency fund.
This is a good problem to have! I don't think there is ever anything wrong with paying off debts, even though a 3.5% mortgage is considered a pretty safe debt. As long as you have no credit card, personal loan or auto debt, I would say go for it. If you are over 50, I would say its absolutely a good idea, in anticipation of retirement, as long as you have a good handle on what you will need to have stashed away for retirement income.
Best of Luck!
For most people the answer is no, unless you pay it off using a method that allows you control over the equity.
First of all, you are paying 3.5% interest and contributing to a
401k, these are related decisions. Since your mortgage interest is deductible, your real interest rate after
the tax deduction is less than 2.5%. Since your plan is to pay off the
mortgage, once you retire, you won’t have the mortgage deduction available to
offset the tax on your 401k withdrawals. See, there are 3 main areas to offset
1. Business expenses
2. Kids and
3. Your Mortgage
Most folks pay their highest effective tax rate in retirement because they don’t have the deductions to offset their 401k (or IRA etc.) and pension income. Killing your mortgage may save a bit of interest now, but you will make it up later in higher tax payments and lost interest on the home equity.
Additionally, once the mortgage is paid off, you can only get a maximum mortgage of $100,000 and still deduct the interest, so when I say you have killed your deduction, it is dead until you buy a new house. This is an area that most tax advisors get wrong and thousands of folks are taking a deduction that they aren’t entitled to. If you get audited, it is one of the most common areas that auditors find money. This is section 163 of the tax code.
More important than that,
is the fact that once you are without a mortgage, you no longer control the
value of the equity in your home. You would have to do a cash out refinancing
(nearly impossible today) or sell the property in order to access your equity.
In addition, the value of your home is a significant asset for most folks, and
represents a large percentage of their net worth. Do you know what the rate of
return is on your home equity? It is always the same, no matter where in the
world you live, it is ZERO%! Can you afford to not earn any money on that large
a portion of your portfolio?You only need to earn 2.5% net on your equity to be ahead. That can be done with very little to no risk, even today.
We want all of our
clients to pay off their mortgage as quickly as possible. We just want them to
retain control over their equity when it is done. This helps prevent the wealth
with no income effect. I see lots of folks around here who are asset rich and
income poor. They end up having to make some tough choices.Keep your options open and always look at the big picture!
Not knowing your age, it is hard to make a good determination. The interest rate is wonderful. If you can earn more in alternative investments, then it would make sense to do so. You sound like you will have a lot of financial security through your job and retirement plan. So building up cash is a good idea but not as critical as if you had not security. I think it is a great idea to pay off your house too, given your circumstances. Just don't stress over it. Go with your cash flow and build up your investments accounts and your retirement accounts. If you have surplus, then use that to pay down your mortgage.
On the surface you appear to be doing everything correctly. Without drawing blood, using a medical metaphor, and doing more lab work it is hard to tell if what you are doing towards retirement is sufficient. Yes, you save 100k in interest. But the lost opportunity may be greater than that if the money were in your 401k or IRAs/Roths instead making a return greater than 3.5% in the longer term.
How so? You see, you are giving up time those extra dollars have to earn towards another goal. In order for you to fully evaluate the effect, and to save space here, please see my blog post called "Pre-pay your mortgage now. Save for retirement later?" http://blog.betterfinancialeducation.com/sustainable-retirement/pre-pay-your-mortgage-now-save-for-retirement-later/ I walk you through how to evaluate this question. "Simply paying off your mortgage (say a 30 year mortgage, or any mortgage term you may pick) means you are now 30 years too late (or whatever term you have remaining on your mortgage) to start saving for retirement! From my blog: "So what you really need to figure out is how to accelerate your mortgage first, AND get your budget accustomed to that higher dollar amount needed to pre-pay it, so that WHEN the mortgage is paid off, you redirect that same dollar amount now towards retirement."
Once you've given your money to the mortgage company, it is no longer liquid to pay for anything later. Your money is tied up in home equity instead. You may end up house rich but cash poor in retirement because of this.
You are in an enviable position having extra funds. Your question is a wise one requiring a little more evaluation by you and your wife, rather than a short snippet of an answer. It seems your question is focusing on one thing and forgetting about another. By the time you do focus on the other, it may be too late. Hopefully, the additional steps in my blog above may help you with your further evaluation.
There is a lot of missing information to give a full answer.
First, I agree with wanting to be debt free. However, that needs to be balanced with your other goals. The mortgage interest that you are paying is a deductible item on your taxes, thereby helping to increase your cash flow. Th net cost of the interest will be less than $100K.
Congratulations on putting money in your 401k. Is 8% enough? It could be. I don't know. It depends on how much you have, how it is invested, how long you have until retirement, what you expect your retirement lifestyle to be, and some other factors.
Given that housing and retirement are people's two most common financial goals,it is possible that paying down the mortgage is the best move for you. It is also possible that you may want to increase your contributions to your 401k instead
I suggest that you consult with a Certified Financial Planner.
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