As many homeowners dip into their home equity, a small but growing number are doing the opposite – paying off their mortgages quicker than lenders require.
But is ending a mortgage sooner than necessary a wise move? There’s no simple answer. Financial advisers disagree sharply about whether, and when, such an approach makes sense.
“I talk with clients about this every day, probably five, six times a day,” said Jonathan Satovsky, an investment adviser in Manhattan with Ameriprise Financial, a financial management company based in Minneapolis. Satovsky generally warns his clients against prepaying.
First, he said, assuming that the homeowner has a 6.25 percent fixed-rate mortgage and is in the 20 percent income-tax bracket, the net interest rate – after mortgage interest is deducted on tax returns – is about 4 percent.
Although homeowners would save that 4 percent by paying off their mortgages, he said, they would earn more than 4 percent interest if they invested the money instead.
“There might be periods where the markets go backward, and you think it’s a mistake,” he said. “But over 10, 15 years, they’ll earn a lot more by not prepaying.”
In addition, he said, because mortgage interest is front-loaded, the interest deduction drops sharply in the later years of the mortgage.
Andrew Schweitzer, the chief executive of the Gulfstream Financial Corp., an advisory service in Sunrise, Fla., disagreed. “The goal should be to free up earned income so you can accumulate it for retirement,” he said.
“If I’m paying $24,000 a year on a mortgage, I may have saved $8,000 a year in taxes. But if I didn’t have a mortgage, I would have saved $24,000 in overall expenses. It’s not rocket science.”
By clearing the debt earlier, you pay much less overall in interest over the life of the loan, and free that money for investment.