Is Paying Down Your Mortgage Faster Good Financial Sense?

Filed in archive Housing on June 28, 2006

J.D. at Get Rich Slowly is discussing the merits of making extra payments toward your mortgage principal. He rightly acknowledges that even the experts seem to disagree on whether it's the right financial move.

Here's the response I left to his post:

I think the answer on paying down your mortgage has to be different for everyone. What's your mortgage rate? Do you have a retirement account set up and are you contributing to it? What can you make on other investments if the money doesn't go toward your mortgage?

My mortgage rate is about 5.75%, so I look at any extra payment as a guaranteed 5.75% return. So I look at that as part of my portfolio of investments. If my retirement is funded and I have extra money to invest, some piece of it may go to my mortgage as part of a plan to diversify--a chunk of money in higher-yield, higher-risk investments, a chunk of money in no-risk, lower-yield investments.

I like to pay down the mortgage a bit for psychological reasons, but the one big downside already alluded to is that your mortgage is not liquid. Paying it off feels good, but if you haven't created a cushion with an emergency fund, you could find yourself wishing you could get your hands on some of that money, and the only way to do so is to then get a home equity loan or line of credit, which sort of goes against the point of paying down your mortgage to begin with.

One other note: we shortened our mortgage to twenty years from thirty years while rates were so low because it only added about $100 to the monthly payment. It seemed like a good financial decision at the time because we were making pretty good money, but then our situation changed and our mortgage payment is now somewhat stifling-we still make OK money, but we've locked ourselves into paying too much of it toward our mortgage each month. I wouldn't do it again-it may be satisfying to know our mortgage is getting paid off quicker, but it's become more of a day-to-day sacrifice than I'd like. It's not always about the money, sometimes it has to be about your comfort level as well.

One other thought as it pertains to the differing views of financial pundits: each pundit is reaching out to a different audience. Suze Orman talks to the layest of laypeople--those who don't want to spend much time on their finances, and wouldn't trust themselves with their finances even if they had the interest. So it's understandable she says to pay down your mortgage as much as possible--she believes her audience isn't possibly going to put that money to better use elsewhere. In fact, Suze probably thinks you're going to blow it on a new car stereo.

Someone like Robert Kiyosaki, the Rich Dad, Poor Dad guy is talking to the aggressive, high-risk investor. He'd probably tell you to sink that extra mortgage principal payment into junk bonds or call puts (I don't even know if that's a real investing term).

I probably gravitate toward the Orman end of the spectrum more than the Kiyosaki end, but what you do with your finances depends on your income, your tolerance for risk, your age, your marital status and whether you have kids, how active you want to be in managing your finances, how much self-discipline you have, etc. No pundit is for everyone, but they can all be used as a starting point to figure out what's the best scenario for you in building your wealth.