Conventional wisdom says YES. Since the interest on your mortgage is compounded, small principal payments can amount to large savings over time. There is also the added security of owning your home free and clear. So if you find yourself with a little bit of extra money, (whether due to a raise, an inheritance or an unexpected windfall) should you put all of it toward paying down the mortgage on your home or would you be better off using the extra money to pay off debt and plus up a savings or investment account?
Deciding whether to pay down your mortgage is not simple and it depends on a number of factors in your personal financial situation. Here are some of the things that you will need to consider when making the decision:
Do You Plan on Staying in Your Home for Many Years?
The interest saved from paying additional principal payments really ads up over 30 years. But if you are only going to stay in your home for a few years then it will not have a significant impact other than less money you need at closing to pay off your home. The oil and gas, medical, and NASA industries we see in the Clear Lake, League City, and Pearland areas are very dynamic and make it difficult to count on staying in your home for decades.
Does Your Mortgage Have Overpayment Penalties?
Some mortgage lenders will charge you a fee if you try to repay your mortgage earlier than the agreed upon term. Check with your lender to find out and calculate whether the extra costs will outweigh the benefits you get from overpaying your mortgage.
How Much Are Your Savings and Investments Earning?
Take a look at the interest rates that your savings and other investments are earning. Are they earning more money than the savings achieved by paying down your mortgage? Mortgage rates are very low these days in the Clear Lake, League City and Pearland areas and it can sometimes be good to have “cheap” debt, keeping more money for other uses.
Should You Pay Off Other Debts?
It doesn’t make sense to be overpaying on your mortgage if you have high interest debt from credit cards, car loans, etc. It is always a good idea to pay off higher debt first. Credit card debt is especially attractive because they more you pay off the lower your money payment becomes and your credit rating increases which will lower your interest rates on other accounts.
Do You Have An Emergency Fund?
You should always have an emergency cash fund that will protect you from having to use expensive credit card debt if an unexpected payment comes up such as home or auto repairs, medical bills, or worse if you lose your job. A good rule is to have the equivalent of three to six months of savings in a bank account just in case you need it. This is a first priority and only when you have this emergency fund established should you consider overpaying on your mortgage. Remember your home is not a liquid asset (you can get a home equity loan but not quickly or cheaply) so you want reserves you can access easily.
These are just the main points to consider when thinking about paying off your mortgage. Each person’s situation is different so you may want to talk to a financial advisor before making any major financial decisions.