I wrote about Dave Ramsey’s Baby Step 6: Pay Off Home Early about a year ago, and I’d like to revisit the question of “Should you pay off your mortgage early?” in light of today’s economic crisis. In the Dave Ramsey article, I examined both the advantages and disadvantages of paying off your home loan early, but I didn’t give a definitive answer, because I believed, and still believe, that each person will have to decide on their own based on their unique situation.
Photo woodleywonderworks via Flickr
However, I can now say for certain that I am fully opposed the idea of prepaying your mortgage without paying it off completely because there are several related factors that make this a bad idea. In this discussion, I’ll assume that you’re relatively debt free; otherwise, prepaying your mortgage doesn’t make sense in the first place.
Another note, the point I am making in this article is specific to someone who has a fixed mortgage loan and has a large enough balance that they cannot pay off the loan in the short-term by prepaying — i.e., prepaying to reduce interest expenses. This is a clarification based on the first two comments below.
I expect things to get worse over the next 12 months and unemployment rate will continue to rise — yes, despite the economic stimulus package that President Obama just signed into law. As such, I think any extra money that you may have should go toward your emergency fund as opposed to mortgage prepayment.
If you have 3 to 6 months worth of living expenses in your emergency fund before, now is the time to beef it up to 12 months. Why such a big jump all of the sudden? I think the greater margin of safety is needed because it’s now much harder to get a decent job than it was a year ago. Even the most skilled workers could go unemployed in this economy for many months.
Although the interest rates continue to drop, I think high yield savings account is still the best place to keep your money due to liquidity and preservation of principal.
If your emergency fund is already in good shape, then I think investing your extra money in the stock market right now will give you better result in the long-term. Sure the real estate market price is depressed, but the stock market is nearly 50% off its high. So if you are looking for a “buy low” opportunity, this is it. Aside from buying at a deeper discount, I also think that the stock market will recover faster than the real estate market.
I think a Vanguard Target Retirement Fund is a great way to catch the market rebound. It’s simple, low cost, and globally diversified.
There may be other reason why paying off your home mortgage right now doesn’t make sense, but I think these two reasons alone are enough to make a strong case for not doing so. Sure, some of you may say that paying off your mortgage early gives you the best return on investment right now, and that’s probably true. But remember this, prepaying doesn’t buy you any favor with your mortgage lender. If you found yourself unable to pay your mortgage one day, all the money you paid early won’t make any difference.
What’s your thought on paying off your mortgage early? Do you think it makes sense in this economy?
|Purchase Rates||Refinancing Rates|
|Mortgage Calculator with Amortization|