Paying Off The Mortgage Early vs. Investing

I’ve had enough people ask me about this topic now that I feel it deserves an additional blog post. I briefly addressed it here, and I’ll address it briefly again.

Why pay off a low interest rate mortgage (~3-5%) early when you could earn ~8-12% in the stock market?

To most people, the smarter and more financially savvy thing to do is to invest any extra money in the stock market and pay off your mortgage slowly. The logic is that you are borrowing money at around ~3-5% on the mortgage to earn ~8-12% in the market, giving you a margin of ~3-9%.

I don’t disagree at all with that logic, but what it fails to address is risk. Here’s a great article by 60 Minute Finance that echoes my sentiments much more eloquently than I can. And here’s a snippet from that article that provides a different perspective using a hypothetical scenario:

…let’s address the question of which is a better use of available cash: Pay off the house early or invest?

Too often the question is only asked one way: Assuming you have a mortgage, would you apply extra payments to it, or instead make only the required payment and invest the difference? It’s less frequently asked the other way: If you have no mortgage, would you borrow money against your home for an investment?

60 Minute Finance

It really is a matter of personal preference and risk tolerance. Some people are risk seekers / risk lovers whereas others are risk averse. I like to think I’m somewhere in the middle, but maybe I’m more risk averse.

For me, having a paid-for house is more valuable than carrying debt and earning a few percent more in investments. Yes, I won’t have a mortgage interest tax deduction anymore, but I’d rather not pay interest just for the purpose of getting a little bit of that back from the government.

To be clear, I’m not forgoing investing completely. We still invest a little over 15% of our income in our retirement accounts. But for now, I’ll be continuing to apply any extra funds to our goal of paying off the mortgage early. Once that’s taken care, we will move on to our bigger goal of financial independence.

And for those who have time, here’s another article that addresses the question by Modest Money. He mentions another great benefit of not having a mortgage: better cash flow.

 

10 thoughts on “Paying Off The Mortgage Early vs. Investing

  1. Yeah, people are fooling themselves if they don’t think about risk. Same thing when they put very little down and buy the largest and most expensive house they can barely afford. They say they are “investing” in their property when they forgot about all the expenses that go with a house they can’t afford. Murphy will be right around the corner. Stocks and investing are awesome. I’ve made hundreds of thousands on them. BUT that is through long term investing and also having no debt at the same time. When you have a no-debt attitude you spend way less, save way more, and then have money to invest.

  2. I think it also depends on how much you can afford to invest versus paying off the mortgage. Personally, I don’t have enough disposable income to invest it, and therefore until I get another job, I will only have my 401k/403b for investments. But if I had a lot of extra income per month, I might pay minimums and then invest, since my rate of return would be higher – and in theory, you *could* use that to lump-pay a bunch of principal on the mortgage at some point.

    • I agree that, most likely, your returns would be greater investing, but the returns aren’t guaranteed. For me, I’d rather take the guaranteed “returns” for a short period on a path towards being completely debt-free. Although you could use that lump sum to pay a bunch of principal, the fact is, most people won’t do that unless it’s part of their financial goals. In my opinion, most people won’t pay off their mortgage much earlier unless they create a plan to do so. There are plenty of other places that extra lump sum could go.

  3. I’m a risk lover.

    My motto is: “Leverage is the beverage”

    Not only would I pay down my mortgage more slowly, I would take a home equity line of credit against any equity in my home and put that money to work. Borrow for 3-4% and earn maybe 10%. Use leverage to juice up your return on equity.

    • I know most people will agree with you, but as I said, it’s a matter of personal preference and risk tolerance. After I pay off the mortgage (goal is by 2020), I will most likely be investing heavily in the market. Until then, I’m comfortable with sacrificing potentially higher returns for the possibility of being completely debt-free.

  4. I know most people will agree with you, but as I said, it’s a matter of personal preference and risk tolerance. After I pay off the mortgage (goal is by 2020), I will most likely be investing heavily in the market. Until then, I’m comfortable with sacrificing potentially higher returns for the possibility of being completely debt-free.

  5. I agree that, most likely, your returns would be greater investing, but the returns aren’t guaranteed. For me, I’d rather take the guaranteed “returns” for a short period on a path towards being completely debt-free. Although you could use that lump sum to pay a bunch of principal, the fact is, most people won’t do that unless it’s part of their financial goals. In my opinion, most people won’t pay off their mortgage much earlier unless they create a plan to do so. There are plenty of other places that extra lump sum could go.

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