When is the best time to eliminate your mortgage?

Many years ago, there was a radio commercial in New York that highlighted the hassles homeowners face when applying for a mortgage. Forms, choices, compliance issues. All these problems detracted from the goal of acquiring a residence. Finally, in the end, the mortgage officer said to the customer, "It would be a lot more simple if you could pay cash!" That is a great assumption, if you had the cash, why would you need a loan. Most homeowners buying a house do not have the necessary cash to buy the house since this is usually the largest purchase they face. However, the ultimate goal is to eliminate the mortgage. The bank’s payoff time varies, typically fifteen or thirty years, but in the end the balance is zero. You may want to accelerate the payoff schedule by remitting additional principal payments. (See Payment Reducer in the Tools section of finplan.com) If you remit additional monies, you reduce your cash available for alternative uses especially investments. So, why payoff the mortgage?

Top Ten Issues to Consider When Paying Off Your Mortgage

1) Retirement – During retirement, one of the expenses to eliminate is the monthly mortgage payment. This makes your budgeting simple and reduces the amount of cash you need available at retirement.

2) Expected Drop in Income – If you are anticipating a substantial drop in income in the coming years, you can reduce the amount of income required by not having a regular monthly mortgage payment.

3) Alternative Investment Uses – Want to make an 18% return of your money? Payoff your credit cards. If you are paying interest at an annual rate of 18% and you keep a savings account in a bank earning 2%, it is not hard to guess that the bank will win all your money in the end. However, if you could earn 14% and you have a mortgage at an annual rate of 7.5%, you may be better off investing the funds and continue to pay the balance on your mortgage. This is a concept called leveraging. Of course, earning 14% is a significant assumption. Your debt should be managed wisely.

4) Line of Credit – A line of credit enables you to borrow a certain amount without having to apply for a loan. If your principal residence secures the line of credit, you can borrow up to an established percentage of the fair market value of your house. You also can deduct the interest payments. Having the line of credit available lets you reduce your mortgage balance knowing you can always obtain a loan through your line of credit. The amortization period may be different though as most lines of credit are on a five-year payoff.

5) Excess Cash – This is a problem few of us have. However, it is conceivable that all of your financial goals are being funded and you still have excess cash. Typical financial goals include your children’s education, insurance needs, retirement and personal funding goals. In this case, you may want to begin paying off the mortgage.

6) Taxes – You still get a benefit from the deductibility of interest payments on loans secured by your principal residence. (Qualified Residence Interest) If your income is in the higher tax brackets (36% or 39.6%), then this benefit is more pronounced. However, if your income exceeds $117,950 for 1996, the benefit of your itemized deductions, of which interest is an itemized deduction, begins to get phased out.

7) Liquidity – Cash and certain financial instruments are very liquid investments. Real estate is not a liquid investment. If you wanted to dispose of a publicly traded stock, you can usually accomplish that in a matter of hours. If you wanted to sell real estate, this is not the case. If your mortgage balance approximates the fair market value of your residence, you do not have much latitude when selling your residence or you may need additional cash to payoff the mortgage. If the mortgage balance is low or zero, you have more flexibility if you are trying to dispose of the asset. You can accept less of a selling price if time was of the essence.

8) Second Home – Typically lenders will lend you money based on your income levels. (See Mortgage Qualification in the Tools section of FinPlan.com) If you are contemplating the purchase of a second home or you are considering moving to a more expensive home, you may not be able to qualify if your current monthly mortgage payments as a percentage of your income approximate the percentages established by the lending institutions. However, a mortgage balance of zero on your current residence provides you with flexibility of owning two homes while you are trying to sell one of them.

9) Debt Management – Simply stated, the less you owe the more you can borrow. If you were trying to borrow money for other purposes such as a new business, owing zero currently puts you in a better position to negotiate with a potential lender.

10) Credit Rating – Paying off your debts improves your credit rating.