A report from the Federal Reserve Bank of New York states that Americans hold $8.88 trillion of mortgage debt. It is reported that it is the biggest type of household debt in the country. If you are among the millions of people in this debt, you may be wondering whether you should pay early or not.
At What Age Should You Pay Off Your Mortgage?
While some experts say that you should pay your mortgage at about the age of 45, some other experts do not agree. They say that are some drawbacks associated with paying off mortgages early and ignoring some other investments that are potentially lucrative such as bonds and stocks.
So if you are wondering what you should do about your mortgage, this guide will put you through and weigh the ups and downs, so that you can decide.
Why You Should Not Pay Off Your Mortgage Early
You still have other debts to take care of
In most cases the last debt you pay should be the mortgage. If you have other debts hanging, tackle them first. Typical debts are;
1. Car Loans
Almost all car loans come with interest rates that are more than mortgages at current rates. The interest on a car loan is not tax deductible.
2. School Loans
There isn’t really any advantage paying off your mortgage early especially if you have refinanced your school loans or taken advantage of some repayment plans. Rates are higher than a mortgage even with refinanced loans and the term of the loan is shorter. Due to this, it’s better to pay off your school loans before you pay of your mortgage.
3. Home Equity Lines of Credit
The interest rates on second mortgages are higher than the mortgages even though they are tax deductible.
4. Credit Card Debt
Paying off your credit card debt is a top priority. Whether you take advantage of 0% transfer offers or not, these introductory rates don’t last beyond 18 months. A lot of debts can carry zero percent, for at least a time. These zero percent deals are usually either temporary or apply to relatively short term loans. So, paying the loans is a top priority.
You Don’t Have A 12-Month Emergency Fund
The best thing is to have money that is enough and kept in taxable accounts. This money will take care of all your expenses for a year before you apply for more money to mortgage.
While you are paying off your debt and working to maximize your retirement accounts, then a 12 month emergency fund is too much. However, when you meet these goals and you decide to pay off your mortgage early, 12 months don’t sound bad.
You should always consider liquidity. You need a lot of cash to pay off the mortgage early. While you may think it is reasonable, you shouldn’t pay off the mortgage in a way that will take all of your cash.
You Aren’t Saving At Least 20% Of Gross Income
You don’t have to divert money to the mortgage until you are saving a significant portion of your income. You should save a minimum of 20% of your gross income. This is important before you apply for more money cash to the mortgage. Part of these savings may include retirement savings to IRA and 401k accounts, and also savings to taxable accounts.
You Are Still Saving Up For Bigger Things
You also need to have future cash needs addressed. You have to plan to cover insignificant purchases for five years (at least). 10 years is preferable. The big purchases might include;
- Child’s Education
- Home remodeling
- Car Purchase
You really don’t have to pay off the mortgage only to go find yourself in more debt for large purchase.
You Are Investing The Extra Cash In A Smart Way
Once you have paid all your debt, ensure that have a solid emergency money saved
somewhere, and you are saving a 20% minimum of your income and you’ve had your cash needs taken care for at least five years, using extra cash to pay the mortgage makes sense.
Why You Should Consider Paying Off Your Mortgage Early
A common method of paying off your mortgage loan early is a bi-weekly payment plan. This plan involves making half of the standard mortgage payment even two weeks, as opposed to paying once monthly. Paying bi-weekly means that homeowners pay what’s equal to the 13 monthly payments in a year rather than that of 12. This lets them pay the mortgage loan more quickly.
It makes more sense to pay of your mortgage early when the mortgage has a high interest rate. However, homeowners should also know that the interest on a mortgage is usually tax deductible.
This reduces the net cost of borrowing such that a loan that has an interest rate of 4% may have just a net cost of 3% once the benefit of the tax is considered.
Also, an early payment plan has a lot of benefits at the start of the loan’s term because a homeowner is paying off principal when the term ends.
Other Investment Options
You should really consider the fact that there are other investment opportunities that may come and even offer a better return – a much more better choice that offers more benefits over paying off your mortgage early.
You will also be required to pay taxes on any fund you withdraw from an investment portfolio. This makes low-interest sources like savings account an excellent choice for getting the necessary funds. Retirement accounts that use pretax money are also recommended.
Need for Liquidity
You should also think about the need for assets that you can easily convert into cash before you pay off your mortgage loan. Monthly expenses that are unexpected or emergencies may call for the need of liquid assets like an investment account or savings account.
If you have less job security, you should also consider maintaining a bugger liquidity cushion. Early payment plans that come with extra payments every month are actually more flexible than just making a whole payment. You may also want to repay the mortgage and use the equity to obtain a line of credit of you expect the interest rates to reduce over the term of the loan.
Peace of Mind
A lot of homeowners had a sense of security when they became the real owners of their home. It is a good feeling when you know you don’t have any debt as you are entering retirement. Also the reduced monthly expenses will give you more flexibility in paying off your mortgage.
The fact, however, is that this strategy is only good for people who plan to live in that house for a longer period of time.
How Much Of Your Budget Should Go Toward Mortgage Payments?
Almost every financial institution say that one shouldn’t spend over 30 percent of their budget for mortgage payments, heating, and municipal taxes. It is classic ratio; mortgage to total debt. You need to consider other debts, such as balances, car loans, and balances on credit cards. You can talk to mortgage counsellors to help you make the right choice.
The time it would take you to pay off the mortgage has a direct influence on the amount that you spend on your regular payments.
What To Do When You Finally Pay Off Your Mortgage
First, celebrate because it is worth celebrating. There isn’t so much for you to do. Just continue paying all your property taxes. You should also make sure your lender does not forget to take off the lien that was placed against your house the first time you got the loan.
If the taxes on your real estate property were a part payment of the loan and paid with an escrow, ensure that you begin to receive the tax bill directly as the lender will stop paying the bill on your behalf now that you aren’t making any monthly payments.
Good news; the lender probably stashed away some extra funds that is more than the actual amount you owed in taxes. In the future, you would likely get the reserve back in the form of a check from the lender. Make sure you contact your lender if you haven’t received the funds four weeks after you have paid off the loan.
Bad news? You will need to stash away some money for your homeowner’s insurance policy as well as your property tax payment. You can open a bank account and deposit the same amount as your mortgage every month until you have enough to pay for the insurance. That is if you can’t pay a big sum twice a year.
Once you have paid your final amount to your lender, you have paid the loan in full. Your lender will then prepare a release deed or release of lien. This is done to clear the title of the property you paid for. Once the release has been recorded, you automatically notify the whole world that your loan has been paid off and that the lien attached to the property by your lender is no longer valid and you are now a homeowner.
You should also get a feedback from the lender, sending you the canceled original note as well as the canceled original mortgage that you signed when you first took the loan.
Make sure you keep records of everything you do so that no one will claim you didn’t pay off your loan in full.
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