When Should You Pay Off Your Mortgage Early?

Images by Getty Images; Illustration by Austin Courregé/Bankrate

Shedding your mortgage early sounds freeing, but the amount you save in interest might not be more than what you would earn if you put those funds to work elsewhere. Here’s what to consider.

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 mortgage types do not 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 contact your mortgage servicer.

What to consider for early mortgage payoff

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 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, there’s a compelling case 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?

Don’t forget liquidity. 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.

One approach is to 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. After the mortgage is paid off, will you actually use it to get ahead?

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 mortgage payments can save you thousands of dollars in interest over time, plus help you build equity in your home faster.

“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 it’s not worth paying off your mortgage, think about how you’ll put that money to use. For example, you might:

How much do you value peace of mind?

Sometimes, it’s less about the bottom line and more about peace of mind. If you own your home free and clear, that can provide benefits that can’t be measured in strictly financial terms. For many, eliminating a monthly mortgage payment ahead of retirement can provide mental relief when considering living on a fixed income.

Another potential advantage is the 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 significantly
• Clears you of the debt, which could translate to greater feelings of security or peace of mind
• Eliminates a monthly payment (but not homeowners insurance or property taxes)

Cons

• Ties up your money in your home, making it tougher to access
• Diminishes or takes away the opportunity to invest in other ways that might offer greater return
• Removes the ability to claim the mortgage interest tax deduction 

FAQ

• How do you prepay your mortgage?
  

  There are a few ways to prepay a mortgage. You can pay it off in one shot or make extra payments over time with a strategy like biweekly payments. If you make extra payments, confirm with your servicer that the money is going toward paying down the principal of your loan, rather than your next payment.

• 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 of the lower average age of your accounts and 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.