The Dark Secret Behind “Pay Off Your Mortgage Early” Advice

Should I pay off my mortgage early? It’s a big question but unfortunately, the standard advice comes with a trap.

Your average American (and Canadian) has around $200,000 of mortgage debt and US homeowners hold a whopping $13.5 trillion in mortgages. That makes paying off your mortgage an important topic!

That’s lots of money!

BONUS: This is part of a series of articles that I commit to updating every year to make sure it stays fresh.

Well, I’ll tell you, I’m against early payments but there are a few good cases to pay them down pronto. Even I did it!

“Even though I’m very against it. I paid off 2 mortgages in 2019, decades ahead of their due dates.”

Mr FireEscape

Well I’ll explain the ins and outs in:

Standard Advice = Pay off your mortgage

The standard advice that you will see written up in newspapers or get from your family is that you should own a house and pay down the mortgage fast. Simple, right?

How could paying down a mortgage be stupid? It doesn’t take much of a house to end up paying tens of thousands in interest every year, but it’s not that simple.

Obviously, it would be better to keep that money instead but that’s not the reason people recommend you pay down your mortgage. It’s trickier than that.

The Dark Secret of “Pay off your mortgage early” Advice

No one has ever gotten into dire straights by paying off a mortgage. So it’s never bad advice.

Paying off debt is almost never going to hurt anyone, and THAT is the fundamental reason everyone recommends it.

Telling someone to invest a possible early mortgage payment into the stock market instead has probably ended in some unhappy people. So investing your money instead is not always good advice, even if it’s often very true.

People Love Universally True Statements

Do you know what people writing advice in newspapers and magazines really like? Safe and universally true statements.

This is the reason the 4% rule became so popular in the 90s.

Trusted people did research on it and decided that it was very safe advice which caused its popularity to explode.

Is the 4% rule always right? No, it’s never right but:

  • It’s right enough to be repeated.
    AND
  • It’s safe enough to not get hate mail if ALL your readers follow it.

Something could go wrong if your advice was only conditionally true. That’s why, in a newspaper, you won’t ever read:
Try [some drug] once, it’ll be fun. Just don’t get addicted!
It’s too dangerous even if people think it’s true.*

*I’m not recommending you do drugs. If this site was about drugs it would be called MyFiveYearBender and the logo would be someone peeing on a wall.

I Will Teach You Dangerous Things

You are smart** though, and I won’t protect you from the dangerous advice. This is my site and no one will fire me for ticking people off.

**If you are very dumb please stop reading this site. I won’t protect you from yourself.

That’s why I will tell you. Don’t pay off your mortgage early until you meet 1 of the 4 magic conditions. You can do something better with that money.

Related Reading:
Re-finance your mortgage: It can pay you $4500/hr! Now that’s smart!

I’m trusting you to not read this article as:
“It’s smart to invest responsibly instead of paying extra mortgage payments”.
And not as:
“YOU SHOULD RE-MORTGAGE YOUR HOUSE. FREE MONEY! CASINOOO!”

There are a lot of better things you can do with your money, so I list out the 4 reasons why paying off your mortgage early is bad.

But even though I’m usually against it. I paid off 2 mortgages in 2019, decades ahead of their due dates. So, I admit there are 4 special cases when you should pay your mortgage early.

Let’s discuss this dangerous advice of trying not to pay your mortgage early:

4 Reasons NOT to pay off your mortgage early

#1 – Investing Returns More Than Interest Costs

A lot of mortgage non-payers fixate on this reason because it is a BIG one and I’ll keep it brief because the calculation is simple:

  • Historical average US market returns are 10% per year (ignoring inflation)
  • Mortgage interest rates right now are around 3.5% (ignoring inflation).
  • So you make over twice as much money by investing your money than you lose by paying the equivalent interest.
Interest paid vs investment gains over a 30-year interest-only mortgage

Or more concisely.

invest-or-skip-mortgage-faster-payment

An example for the hard-headed:

Say it takes you 10 years to pay off your 0% downpayment, $500,000 mortgage with monthly payments of $5,015.

At 3.5% you would end up paying $92,600 in interest over 10 years and have no investments or debt at the end.

Pretty impressive right? Actually no!

If you paid the minimum every month for a 30-year mortgage – $2,315 – and invested the other $2,700 each month at an average return of 10% for those 10 years, you would be better off.

Sure, you would end up paying $155,400 in interest and still having $387,000 of debt to pay off. 

But you would have $553,000 of investment money after 10 years in that portfolio.

You could pay off your mortgage, and have $166,000 leftover. Nice!

After 10 yearsPaying MortgageInvesting
Remaining Debt$0$387,000
Interest Paid$92,600$155,400
Portfolio Value$0$553,000
Net Worth
($500K house)
$407,400$510,600

That’s because mortgages are magic and this isn’t even counting on any other factors like employee stock purchase plans or mortgage pre-payment penalties.

Quick Tip: Don’t even consider mortgage prepayments until you have filled up your employee stock matching and tax-sheltered investing accounts.

Not paying 1 mortgage is good, not paying 2 is better!

To really drive this point home:

Many people (like me) happily invest in rental houses with mortgages. If we thought it was better to pay down a mortgage then we wouldn’t have mortgaged real estate portfolios.

If I paid off my primary home’s mortgage before investing (debt = $260,000).

  • I wouldn’t have had money to buy any rental houses.
  • Would save ~$600/mo interest ($1400/mo payment)
  • Wouldn’t make my $45,000/yr in cash from my rental houses
  • PLUS those houses are paying off their own mortgages
  • Definitely a win for me.

#2 – Liquidity: Mortgage = Money Trap

The reason I really hate paying down my mortgages is that once money goes into my mortgage it is trapped.

The only way to get the money back (#LifeHappens) is to refinance your house. That is a pain the butt! Trust me, it’s worth it but…Blechhh.

  • Can you get your money?
    • Sure.
  • Is it worth it if you want that money out?
    • Definitely
  • Are there fees?
    • Thousands
  • Will you get it quickly?
    • Hell no. You’ll be waiting for months. I hope it’s not urgent!
I know what this guy feels like (link)

However, investments in the stock market can be sold today and bought tomorrow with relatively small fees.

Easy peasy, and you still have time for your afternoon nap.

#3 – Diversification: It’s all where?!?

If you put your “investing” money in your home, you are all-in on your house. I hope nothing happens to its value.

Possible scenario: If they put up a sewage plant in your neighborhood and you wanted to move. Your house is now worth nothing and you can’t move anywhere nicer because your investment (home value) tanked. A *crappy* situation for sure.

If your money wasn’t invested in your house – I say in ETFs because they are great – then moving up into a non-stinky location would be no problem.

Diversifying away from your house is safer than a mortgage payment.

#4 – Mortgage Interest = Less Tax

One amazing benefit of having a mortgage is that you can often use mortgage interest to reduce your taxes (in many situations it counts against your income).

In the US, you can deduct interest up to a $750,000 house worth and in Canada, you can do a smith maneuver.

Paying off your mortgage will net you a larger tax bill.

My mortgage reduces my taxes A LOT!

Can’t imagine it adds up? Well, it did for me!

  • In 2019 I had a few rental houses that had paid off their own mortgages.
  • Thus my income from those houses rose to about $44,000.
  • But, with a new mortgage, I could incur interest and reduce my “income” by $17,000/yr ($25,000/yr payments).
  • AND I get a $345,000 wad of cash!
  • Investing that money in something for capital gains lets me push those taxes into the future.
  • As a Canadian that $17,000 income reduction will net me a $6,300/yr tax savings!

I haven’t done it yet but this is the plan! I never want to be mortgage-free!

4 Special situations to pay off your mortgage early

So paying off your mortgage sucks, right? Yes…most of the time!

There are 4 specific situations where mortgage prepayments are best. Let’s list them out to see if they match you:

#1 – Mega motivation to pay your mortgage early

Sometimes people get really excited about paying down debt. If that’s you then pay your mortgage early

Why? If you can transform that motivation into saving extra money then it’s the best investment for you because saving more money is better than the most amazing investment strategy in the world.

Is it weird to fantasize about having no mortgage? Sure, but I get excited about napping so I’m not going to judge.

#2 – Need some extra cash flow or security

This is why I paid down two mortgages in 2019. I wanted to force a bit of stability into my first full year of retirement. Paying off mortgages created cash flow stability and safety.

“There’s never an incentive to stay in debt, life is unpredictable. What happens if you’re laid off or incur unexpected expenses elsewhere? Your once-manageable mortgage is suddenly going to seem not-so-manageable.”

Kevin O’Leary
  • In the long term, it’s better to have your money in the stock market.
  • In the short term, your net worth will be a roller coaster which is not worth it if you somehow make yourself go bankrupt.

Really, you want it as cash if you need it but entirely paying off a mortgage will free up some extra money every month and have guaranteed results.

This becomes VERY worthwhile once you are rich. Then you probably have plenty of risky investments and the extra risk from more investing isn’t needed. If I owned an apartment building, I probably pay off my home mortgage.

Better solution: If you need access to your money in the short term, and can’t pay off an entire mortgage, then instead of extra mortgage payments keep it as cash for easy access.

There are a lot of reasons to have a desire for more cash but if you are just barely scraping by each month or think you may need your money soon, it could be time for a mortgage payoff* regardless of how effective not paying it off is.

*Special note: Paying off part of a mortgage isn’t going to cut it here. You have to pay off the whole thing before you will see an extra dime in your pocket each month.

#3 – Your Money Needs Protection from You!

If you invest the money you keep properly by not paying your mortgage early, it’s a good idea. However, it’s a bad idea if you:

  1. Spend the money instead.
  2. Invest poorly

Better solutions:
Bad at saving? Get a goal and chase it.
Investing is best kept simple. Learn that and prosper.

This is the reason homeowners tend to be 46x richer than renters, forced payments. If you don’t pay your mortgage you need to invest ALL the excess money properly.

If you can’t do that. Stuff the money in your mortgage to protect it from yourself.

#4 – Pay down your mortgage early = easiest investment

If you are the epitome of lazy or scared, then mortgage payments make for a very simple, fear-free investment.

I mean really lazy…like a slug-person.

I’m very motivated to conserve my time but even I think not bothering to have an investment account is too lazy. Investing can be VERY simple and very consequential, but if you’ll get off your butt to pay your mortgage and not buy stocks. Then it’s the right choice for you.

invest-or-skip-mortgage-faster-payment

Related reading:
Become a successful investor and set up your accounts in 15 minutes
You can’t beat the market so don’t bother trying.

You can’t have a bad “I paid off my mortgage year” but given enough time, any bad year in the stock market will disappear from memory, leaving more money for you!

I will always have a mortgage

I don’t enjoy paying my mortgage but I do enjoy the benefits of having one.

So I know I will make sure I always have a mortgage around to keep me company. Do you love or hate yours? Tell me below

See you on the FIRE escape

TL;DR – Don’t pay off your mortgage early

  • People will recommend you pay your mortgage early because it is safe advice
  • You can always do better by investing
  • Taxes, diversification, and liquidity are other big pros too.
  • It is best to pay your mortgage if you are motivated, need some extra security, are horrible with money or are incredibly lazy.


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Sept 2020 Update: I temporarily have a MEGA discount ($500 off) for my readers who take the course. #WorthIt. (Buy button appears near the end of the video which you can fast forward/skip if you want.


6 thoughts on “The Dark Secret Behind “Pay Off Your Mortgage Early” Advice”

  1. I generally agree with this, but with a few caveats: 1. this applies to our times. There are times in history when people were paying interest rates in the high teens or even low 20s. In those times, it would be foolish not to pay the mortgage down first – the amount you would be saving is enormous. 2. taxes – that only works at certain incomes/mortgage amounts. I’ve not had a year yet where the standard deduction wasn’t the better option of itemized deductions. Even years I spent a lot on camera equipment for work, the standard deduction was still much better.

    That being said, I am totally on the don’t pay more on the mortgage train. As my one FI friend put it, these mortgage rates are like a super power, allowing us to throw more of our money into the markets instead of wasting them on tiny interest amounts. I’ve even quit the tiny amount I was paying extra toward the principle. It just makes more sense to plug my investments right now instead.

    Reply
    • True, the past 10 years have been kind but I would hope if new readers go through this article sometime in the future when interest rates are equivalent to stock market gains, they will make the mental bridge that it is bad.

      Also, I am fascinated by your interest-only mortgage. I’ve never attempted to do this since the principal payments on a 30 year are so tiny. Did it have any negative effects, like different LTV, pre-payment privileges or changed rates?

      Reply
  2. Great article, thank you. I have actually gone through a similar thought exercise a few months ago and came out in a place very similar to your logic.

    I would add two other reasons why you should keep the mortgage on your house:

    1. It juices the equity returns on your house (due to leverage)
    2. Discipline. You are more likely to keep working hard and taking on those side hustles if you still have a mortgage balance

    Here’s the link to what I wrote in case helpful:
    http://bankeronfire.com/when-paying-off-your-mortgage-is-a-bad-idea

    Reply
    • Right on BoF!
      I think a lot of us must be renewing or refinancing our mortgages these days since I’ve seen a few of these articles pop up suddenly.
      Taking action on my own mortgage is what got me to write up my article. A hope of transferring the hours I spent thinking about the options in front of me, to the readers.

      Reply
  3. This is misleading. You still pay taxes on capital gains for your investments. And if you are old and are forced to withdraw before maturity you lose 35% of its value. I’ve seen a lot of old people suckered into this idea that it’s better but it’s never a good idea. Interest gains is never consistent and if you get someone to manage it for you, your returns won’t guarantee a 10% return. You are gambling with your money and when you want it back you pay an arm and a leg on taxes.

    Reply
    • Hi Don, Sorry to hear about your friends who haven’t done well with their managed investments (I never recommend anyone gets a money manager…they are never worth it)
      I certainly don’t think it’s misleading. If you need the money such that you would do an early withdrawal (like a health issue) an early mortgage payment would be extra bad because that money becomes illiquid. Plus I especially talk about people who might need that money soon, and how they shouldn’t invest spare cash at all.

      I think the 35% penalty you mention would be factoring in income tax on a 401K withdrawl but then that means you are comparing returns on a non-tax sheltered investment (mortgage payment) to a tax-sheltered one (ex. 401K) which is being tricky.
      Even if you were to have a 35% penalty you’d still win out on average, but if you sold that investment at a bad time AND pulled it from a 401K AND were in a high tax bracket AND needed your investment money urgently, then that would be quite bad. I wouldn’t recommend getting in that situation :O
      Maybe I should have worked that out in that little table I made, but then it would be soooo big 🙁

      Reply

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