Investing in Your 20s and 30s: Consider Paying Down Mortgage Debt - dummies

Investing in Your 20s and 30s: Consider Paying Down Mortgage Debt

By Eric Tyson

Paying off your mortgage more quickly is an “investment” for your spare cash that may make sense for your financial situation. However, the wisdom of making this financial move isn’t as clear as is paying off high-interest consumer debt; mortgage interest rates are generally lower, and the interest is typically tax-deductible.

As with the decision to pay off a student loan faster, when evaluating whether to pay down your mortgage quicker than necessary, compare your mortgage interest rate with your investments’ rates of return. Suppose you have a fixed-rate mortgage with an interest rate of 5 percent. If you decide to make investments instead of paying down your mortgage more quickly, your investments need to produce an average annual rate of return, before taxes, of more than 5 percent for you to come out ahead financially.

Don’t get hung up on mortgage tax deductions. Although it’s true that mortgage interest is usually tax-deductible, you must also pay taxes on investment profits generated outside retirement accounts. You can purchase tax-free investments like municipal bonds, but over the long haul, such bonds and other types of lending investments (bank savings accounts, CDs, and other bonds) are unlikely to earn a rate of return that’s higher than the cost of your mortgage.