- Posted by Mary Boston
Each financial decision is unique and depends on one’s goals. There are many considerations when it comes to your mortgage. Imagine, though, the lucky homeowners who are unconcerned with how to pay their mortgages, but how quickly they can eliminate them entirely. Surely no downside exists to paying off your mortgage early, right?
Early Mortgage Payoff Considerations
For some, eliminating their mortgage early will make financial sense, not to mention the emotional security it provides. In addition to the pros, however, there are potential cons that should be considered, including the following possible obstacles:
- Increased revolving debt
- Underfunded retirement
- Reduced tax deductions
Let’s take a look at each consideration to help you weigh your options and decide if an early mortgage payoff could be right for you.
Liquidity in finances refers to the ability to convert an asset—your baseball card collection, an heirloom, or your home—into cash. Illiquidity is the opposite: the inability to get cash when you need it, because all your cash is tied up in things. If time or circumstances would cause you to take a loss on liquidating an asset, the asset is illiquid.
Normally, a mortgage is considered to be illiquid with one exception–a home equity line of credit (HELOC). The equity in your home is accessible quickly through a debit card or check, so you can borrow against that equity with minimal fuss. Suppose you unexpectedly have a leaky roof. A HELOC can provide you access to thousands of dollars at a low interest rate. If your other choice is to put $15,000 on your credit card for a roof replacement, it may make more sense to use your home’s equity and keep your unsecured debt (the credit card) low.
If your mortgage is paid off and you want to use the equity in your home, you will need a new appraisal, loan origination fees, and other third-party expenses, plus one to two months for the loan to fund. You may not be able to spare that time if you’re in a bind.
A possible pitfall to eliminating a mortgage comes from diverting funds from other debt to pay off the mortgage. The mortgage at 4 percent interest is less expensive than a credit card debt with a 22 percent interest rate, if you’re only making the minimum payment. You may want to contemplate putting money toward the revolving debt before considering payments to eliminate the mortgage.
If you underfund retirement so your mortgage is eliminated early, you may not feel the effects of this decision for decades, but eventually you could feel it. One approach to eliminating your mortgage is to wait until after you have funded all your retirement accounts fully. You can borrow for most life events: weddings, renovations, home purchases, and even vacations. You cannot borrow for retirement and you may finish work one day and have no income other than your retirement savings and some modest government programs.
The Tax Man
Uncle Sam gives homeowners a gift every year in the form of deductions for mortgage interest. This is to encourage stable neighborhoods and high rates of home ownership. When your mortgage is eliminated early, so is that tax deduction. It is often the largest deduction taxpayers receive, and when eliminated, your tax liability may increase.
Neglecting these important scenarios so you can eliminate your mortgage early may not be cost-effective. A careful, thorough examination in which you weigh all your options and needs with your financial advisor will help you determine whether early elimination of your mortgage is right for you.