Help! Should I Focus on Paying Off My Mortgage Before I Retire?

Source: Photo by Monstera: https://www.pexels.com/photo/person-signing-loan-agreement-for-purchase-of-apartment-5849563/

Guest Author:   Evette Champion

For some, paying off the mortgage while still working is a “must-do.” However, you might get into a financial pickle if you need a cushion.

Should the mortgage be paid off before retirement? There is no one answer to this question, which is a shame. Your money and priorities are so different from anyone else’s that how you plan for retirement will also be unique.

To avoid running out of money too quickly after retirement, some people consider it an absolute necessity to pay off their mortgage while they are still gainfully employed. But if you use your savings to pay off your mortgage, you might have little money for emergencies or other costs.

Here are a few things to consider if you’re considering paying off your mortgage before retirement. 

When Paying Off Your Mortgage May Be Beneficial

Reduce Monthly Expenses

If your mortgage payment is a significant chunk of your monthly budget, you will be able to reduce your overall cost of living once you no longer have to make that payment. If your budget is tight, this can be a lifesaver. Consider selling your home for cash and downsizing if push comes to shove.

Save Money

Interest on a mortgage loan can add up to thousands of dollars throughout its repayment. If you can afford to pay your mortgage early, you can put that money toward whatever else you want. Even though you may no longer be able to deduct mortgage interest payments from your taxable income, you will still be required to do so since more of your monthly payments will go toward paying down the principal.

High Mortgage Rate

Paying off a loan with interest can be like getting a risk-free return equal to the interest rate. Try comparing your mortgage interest rate to the after-tax interest rate on a relatively small investment with similar terms, like a state-issued municipal bond, which is usually a high-quality and tax-free asset. If the interest rate on your mortgage is higher than the investment asset’s interest rate, you should pay down your mortgage instead.

Peace of Mind

For retirees, having more financial freedom and fewer worries can be achieved by eliminating their mortgage debt.

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When Paying Off Your Mortgage May NOT Be Beneficial

Replenish Retirement Funds

The first thing you should do after finishing a retirement plan is to prioritize raising your contributions to your 401(k), IRA, or any other retirement accounts if you aren’t already doing so. Investment growth in these accounts is not subject to taxation until the funds are withdrawn.

Low Cash Reserves

Avoid becoming “housing rich but cash poor” by putting off saving for retirement instead of putting more toward your mortgage. Ideally, you’ll want enough money to cover between three and six months of expenses.

High-Interest Debt

If you have higher-interest loans, such as credit card debt, that aren’t tax deductible, pay them off before making any mortgage payments. To have less out-of-pocket costs once you retire, make it a practice to pay down nondeductible debt every month instead of letting the sum accumulate.

Missing Investment Returns

You should keep the loan and invest the extra money if the interest rate is less than what you could get from a low-risk investment of the same duration.

Making Your Decision

Depending on the current mortgage interest rate, refinancing into a loan with a shorter term may make sense if you aim to pay off the mortgage faster, while refinancing into a mortgage with a lower interest rate may make sense if your goal is to reduce your monthly bill to free up funds for savings. You can also make principal payments instead of total costs if your mortgage loan has no prepayment penalty. 

One way to do this is to send a lump sum payment or make extra monthly principal payments. This strategy can reduce the loan’s total cost by a substantial amount over time, all without sacrificing financial flexibility or diversification. Be moderate, though, or your other financial goals will suffer.

About the Author:  Evette is just your average HGTV fan who dreams of having a home worthy of being one of those shows. When she isn’t writing for HomeLight, she’s working at her local real estate office. In her downtime, you’ll find her searching for the next hiking trail in her area.