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Should you pay off your mortgage early?

Paying off your mortgage early, either by making extra principal payments from time to time or in a lump sum if you receive a windfall, will save you thousands of dollars in interest.

In addition to saving on interest, paying off your mortgage early gives you a sense of security from owning your home free and clear. If you get sick, become disabled or lose your job, you don’t have to worry about losing your home because you can’t afford the mortgage payments. You just have to keep up with insurance, property taxes and basic maintenance.

One argument against paying off your mortgage early is that you could invest your extra principal and earn a higher return. If your mortgage interest rate is just 4% but you think you could earn 8% in the stock market, it might make more sense to invest your surplus cash. Use our prepay versus invest calculator to see how this could work.

When you pay off your home loan early, however, you’re effectively getting a guaranteed rate of return that’s the same as your mortgage interest rate. Investment returns are never guaranteed, and most investors underperform the market. In addition, you’ll pay taxes on any investment gains (whereas mortgage interest is tax deductible), and inflation eats away at your investment returns.

Here are three other scenarios in which you shouldn’t pay off your mortgage early:

You’re not fully funding your retirement: Make sure you’re contributing at least 15% of your pre-tax income to your retirement account before you make extra payments on your mortgage. The earlier you save and the more you save for retirement, the less you have to sock away overall because of the power of compound interest.

You have credit card debt: It doesn’t make sense to pay off a loan with 4% interest early when you have outstanding high-interest credit card debt. The same goes for car loans, student loans or any other loans with a higher interest rate than your mortgage.

You don’t have an emergency fund: Do you have enough money to handle a sudden, major car repair without taking out a loan? What about paying an emergency room bill, or riding out several months of unemployment? You should have plenty of cash on hand for worst-case scenarios like these, because if you don’t, you might have to borrow at a high interest rate to get by. That could cost you a lot more than what you’ll save from making those extra mortgage payments.

Use our how will prepaying change my loan calculator to help you weigh the options.