Buying a home is likely the largest financial decision you’ll ever make, which means figuring out how to pay for it is incredibly important. The majority of people have to take out a loan (a mortgage) in order to buy a home. But with the growing trend to define all debt as bad, many people are trying to eliminate debt completely, including their mortgage That being said, there are advantages and disadvantages to living with debt, especially when that debt is from a mortgage. Whether or not to pay off your home mortgage early will depend on your unique financial situation, but if you do choose to do so, there are a few strategies you can use. Here’s how to pay off your home mortgage early.
If you’re looking for assistance in creating a personalized financial plan, speak with a CERTIFIED FINANCIAL PLANNER™ professional at Good Life Financial Advisors of NOVA today!
Advantages of Paying Off Your Mortgage Early
The advantages to paying off your mortgage early are similar to the advantages of paying off any type of debt—the more you pay, the sooner you can be debt-free. A debt-free lifestyle allows for considerably more financial flexibility and can minimize stress. However, there are certain groups who benefit more than others from eliminating debt. For example, retirees living on a fixed income can benefit greatly from the increase in cash flow.
Disadvantages of Paying Off Your Mortgage Early
Less debt may sound good, but there are a few disadvantages to paying off your mortgage early. If you have high interest debt, such as credit card debt, paying off the higher interest debt should be your priority. This is because higher interest rates mean you’ll end up paying more in the long run.
You should also consider if you’re more likely to benefit from investing your money than you are from paying off your mortgage early. Though returns vary greatly from year to year and will vary depending on the investments in your portfolio, the important question is whether your expected returns will be more than how much the interest rate on your mortgage will cost you. For many people, it may be more beneficial in the long term to invest money than to pay off a mortgage early.
We have discussed some of the pros and cons, but there are several other considerations you should think about before deciding to pay off your mortgage early. First, ask yourself, why do you personally want to pay off your mortgage? Forget about what other people say—why is it important to you to not have a mortgage?
Secondly, if you do pay off your mortgage, what does the rest of your balance sheet look like from a liquidity perspective? You don’t want to be “house rich and cash poor.”
How to Pay Off Your Mortgage Early
After you’ve considered the advantages and disadvantages of paying off your mortgage early and have decided that it is the best option for you, there are a few different ways you can go about it:
Making Extra Payments
There are two different ways to make extra payments. The first way is to make bi-weekly payments instead of monthly payments. This means you’ll make 13 months’ worth of payments in 12 months. That may not sound like a major difference, but on a 30-year mortgage, that could allow you to pay off your mortgage years earlier. The benefit of this strategy is that you likely won’t even notice the difference.
The second way to make extra payments is to pay extra each month—for example, paying an extra $100. If you choose to do this latter option, you’ll want to clarify with your lender that you’re paying to reduce the principal, and that the extra payment isn’t a prepayment for part of the next month’s payments.
If you can get a lower interest rate, refinancing could save you a lot of money. Changing from a 30-year to a 15-year mortgage could potentially minimize your interest rate while also setting yourself up to pay off your mortgage earlier. However, there are also downsides to a 15 year mortgage—namely that your minimum payment is much higher than a 30 year mortgage. You should consider whether or not the lower interest rate is worth the stress of the higher minimum payment. In today’s interest rate environment, the difference between the two rates is often not that significant.
In addition, if you choose to go this route, there are often fees that come with refinancing. It’s important to make sure the fees don’t cost you more than the refinancing would save you.
Recasting your mortgage is similar to refinancing, but it’s not the same thing. When you recast your mortgage, you put a lump sum towards the principal. This creates a shorter loan term, since the lender will adjust your amortization schedule. In this situation, you still keep the same loan. Unlike refinancing, your interest rate doesn’t change when you recast your mortgage. In addition, the fees for recasting are typically considerably lower than they are for refinancing.
Lump Sum Payments Towards the Principal
If you receive a large amount of extra money, such as through an inheritance or a bonus, you can also choose to make a lump sum payment to go towards the principal of the loan. Though you can rarely plan for when or how much these lump sums will be, if you decide ahead of time than any unexpected income will go towards your mortgage, you can be prepared for when it does happen.
Work with a Professional
It’s important to know how to pay off your home mortgage early to determine if this is the right decision for you. If you do decide to pay off your mortgage early, there are also many factors to consider before choosing which way to go about it. There is no one size fits all solution. For personalized guidance and assistance, speak with a CERTIFIED FINANCIAL PLANNER™ professional at Good Life Financial Advisors of NOVA. We look forward to assisting you with all of your financial needs!